Investment Strategy

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Investment Strategy
What is the goal of the Tortoise Portfolio? The Tortoise Portfolio aims to outperform the S&P 500 index over time. Companies in this portfolio tend to be mature, relatively slow-growing, and with moderate to low risk. New purchases must have an economic moat, preferably wide. We attempt to tilt the portfolio toward companies with at least stable competitive advantages (stable moat trends).

What is the goal of the Hare Portfolio? The Hare Portfolio aims to outperform the S&P 500 index over time. Companies in this portfolio tend to be faster-growing, with both higher risk and higher return potential than those in the Tortoise. New purchases must have an economic moat, preferably wide. We attempt to tilt the portfolio toward companies with growing competitive advantages (positive moat trends).

Investment Strategy
Morningstar StockInvestor invests in companies with established competitive advantages and generous free cash flows, trading at discounts to their intrinsic values. These are core holdings, with more conservative ideas appearing in the Tortoise Portfolio and more aggressive ideas in the Hare Portfolio. We expect both portfolios to beat broad U.S. stock index benchmarks, such as the S&P 500, over rolling three-year periods.
About the Editor
As editor of Morningstar's StockInvestor newsletter, Matthew Coffina manages the publication's two real-money, market-beating model portfolios — the Tortoise and the Hare. Matt was previously a senior healthcare analyst, covering managed care and pharmaceutical services companies. Matt also developed the discounted cash flow model used by Morningstar analysts to assign fair value estimates to most of the companies in its global coverage universe.

Matt joined Morningstar in 2007. He holds a bachelor's degree in economics from Oberlin College and also holds the Chartered Financial Analyst (CFA) designation.

 
Sep 23, 2014
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Matthew Coffina, CFA
Editor,
Morningstar StockInvestor
As editor of Morningstar's StockInvestor newsletter, Matthew Coffina manages the publication's two real-money, market-beating model portfolios -- the Tortoise and the Hare. Matt was previously a senior healthcare analyst, covering managed care and
Featured Posts
Trade Alert, 9/22/14 -- Selling PAYX from the Hare

This morning I sold Paychex PAYX from the Hare. Similar to Automatic Data Processing ADP, which I sold back in July, I have no fundamental objections to Paychex's business: The company enjoys very sticky customer relationships and has numerous opportunities to help small employers navigate ever-increasing regulatory complexity. However, the stock looks expensive, trading for 21.4 times fiscal 2016 earnings estimates, even though earnings per share are likely to grow at a mid- to high-single-digit pace at best.

I suspect the rich valuation is due to investors' affection for Paychex's generous dividend; the current yield is 3.6%, largely because of a payout ratio around 83%. The company also has modest positive exposure to higher short-term interest rates--if and when the Federal Reserve decides to raise them--which is very rare in a high-yielding stock. The dividend would be hard to replace in this environment, but dividends are not the primary focus of our strategy. Setting the dividend aside, I see plenty of stocks offering faster growth for a similar or cheaper valuation. Furthermore, I don't think Paychex's current valuation leaves much room for error if the economic recovery stalls or cloud-based software competitors start to encroach on its territory.

I haven't yet decided what to buy with our Paychex funds, but some of the stocks I'm considering include Priceline PCLN, Cognizant CTSH, Ambev ABEV, Icon ICLR, Cooper COO, and Synchrony Financial SYF (the recent consumer finance spin-off of General Electric GE), as well as potential add-on purchases of Hare holdings Schlumberger SLB, eBay EBAY, or MasterCard MA. For now, the Hare's cash weighting increases to 6.6%.

By the way, Paychex reports earnings on Wednesday. I have no particular view of how the company performed in its fiscal first quarter, but I think today's price is more than fair given the risk/reward tradeoffs. Execution details are below:

Transaction: Sold Paychex PAYX

Sale Price: $42.53
Fair Value Estimate: $37
Price/Fair Value Estimate: 1.15
Fair Value Uncertainty: Medium
Morningstar Rating: 2 stars
Economic Moat: Wide
Moat Trend: Stable
Stewardship: Standard

Shares Sold: 450
Old Weight in Hare: 5.0%
Realized Capital Gain: 44.4%
Realized Total Return: 72.7%

Regards,

Matt Coffina, CFA
Editor, Morningstar StockInvestor
 
Email: matthew.coffina@morningstar.com

Disclosure: I own all of the stocks in the Tortoise and Hare in my personal portfolio. This trade will be executed in my accounts with Morningstar Investment Services shortly.

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