There are many forms of investing. You can invest in stocks, crypto, NFTs, real estate and much more. But how can you, as a private investor, invest in individual shares and beat the market over the long term? By investing in companies that have a moat to have. Alphastocks explains what a moat is, how to find it and gives some examples.
To discuss the idea of moats in the investment world, it is important to first understand the idea of value investing as the two are very closely linked. The grandfather of value investing was American Ben Graham, who in 1949 wrote The Intelligent Investor, a book that Warren Buffett described as the best book ever written on investing. In it, he advocated long-term investing, really seeing yourself as part-owner of the company you invest in and participating in their journey. His strategy revolved around looking for companies that were selling below their true value.
The “moat”, also called a competitive advantage or a moat. While legendary investor Warren Buffet didn’t invent the term “moat,” Buffet mentioned it in one of his annual shareholder updates and that’s what led to the popular concept.
A moat is defined in the investment context as:
“a company’s ability to maintain competitive advantages over its competitors in order to protect its long-term profits and market share from competing firms”
It may sound complicated, but it really isn’t. It is an advantage that allows a company to stay ahead of other companies and it is almost unthinkable that the company will ever disappear. The moth ensures that the company continues to exist over the long term, can grow profits and maintain or grow market share.
Examples of MOATs
Below are some examples of moats with companies:
- Network Effects – Products and services become more valuable and better as the number of acquired users increases (e.g. Facebook/Meta, Google, Amazon).
- Switching costs – The positive financial consequences of switching providers do not outweigh the costs involved (eg Apple).
- economies of scale – Unit cost of production decreases as company scale increases (eg Amazon, Walmart, Target).
- Intangibles – Proprietary technology, patents, trademarks and brand names (eg Boeing, Nike, The Walt Disney Company, Coca-Cola or Louis Vuitton Hennessy).
How do you find a MOAT?
The moat is reflected in consistent operating results and profit margins at the high end of the industry average. More often than not, companies with an economic moat have higher profit margins.
If a company consistently outperforms the rest of the market, this is typically one of the first signs of an economic moat or moat. You can also think more easily. Ask yourself the critical question; do you think it is possible to outcompete this company? If the answer is “yes” it probably doesn’t have a moat. Is it easy for another company to outcompete The Walt Disney Company, with their unique movies on Disney+ and their theme parks? We don’t think so and so this company most likely has a moat. It can be that simple!
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