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Stock Strategist

20 Great Companies with Cheap Stocks

A great, durable business model isn't enough to get into this 20-member club.

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As investors, there are few things we like more than companies with durable competitive advantages selling at steep discounts to their value. At Morningstar, we have an index called the Morningstar Wide Moat Focus. This index is comprised of the cheapest wide-moat firms in our 2,000-plus stock coverage universe. These are the firms with the strongest competitive advantages in their industries and the ones where we believe the advantages will persist for years to come. Less than 10% of the companies that we follow have built a competitive advantage that is durable enough to qualify for our wide-moat rating, limiting our wide-moat universe to 174 firms. Still, that's not good enough to be included in our index, because we don't want to simply buy great firms--we want to buy them at bargain basement prices. So we limit the index to the 20 cheapest (based on price/fair value) wide-moat firms. And every three months, we reconstitute the list so that, once again, only the 20 cheapest wide-moat firms get in and we readjust the holdings to equal-weight the index. It's a pretty exclusive club, and its performance shows that it pays to wait.

The most recent index, before its reconstitution, ran from March 23 until June 19 and racked up a 40.6% return over that period. Through July 6, the index has increased 14% year-to-date and has a 0.5% annualized return over a three-year period. These returns far outpace the market's return in the same periods.

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Mike Taggart does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.