Morningstar Advisor - Winter 2008 - (Page 78) Screens Playing It Safe with Financials By Michael Kon The market’s been tough on financials, and contrarian bets can be scary. Use this screen to find the top choices. You don’t have to be a stock market junkie to realize that financials are the most-hated stocks these days. With a looming recession and no imminent relief from the residential real estate market, investors have been fleeing the sector in droves. But the market tends to overreact, and usually panic creates good investment opportunities for long-term investors. We currently see such opportunities in the financial services sector, and we think the time is right to be contrarians. The headlines are scary, though, and some might not have the stomach for a wild ride, even if the expected return might be substantial. Those investors can still make contrarian bets on financial stocks but play it safe by: r Avoiding financials without economic moats. r Buying only those that are rated as having below average risk. r Focusing on companies that earn a decent return on equity. For this screen, we focus on the financial-services sector, because we believe that it’s time to buy what the market currently hates. This would focus only on companies that we rate as having below-average risk. And Morningstar Risk 5 Below Average Sector 5 Financial Services screen was performed on Nov. 30 in Morningstar Principia, but an equivalent screen can be created in Morningstar Advisor Workstation. Some of the companies in the sector have risky business models. Although these companies might offer very attractive returns, in this screen we want to find the safest bets, so we We require another layer of protection—an economic moat. Economic moats protect firms from potential competitors. But when the going gets tough, companies with economic moats have better chances to survive the crisis and emerge even stronger. If we want to play safe, we have to find the toughest companies out there, and these are the ones with economic moats. And Economic Moat Not 5 None 78 Morningstar Advisor Winter 2008
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