The Predictive Power of Fair
By James Xiong, Warren Miller, and Thomas Idzorek
Investors would be smart to focus on stocks that trade
at a discount to this metric.
Shares of discount brokerage Charles Schwab
SCHW have been on a roll, rising 76.8% over
the past 12 months through July 31. That’s a far
cry from where the shares stood in mid-2012.
At that time, a share price of $12.50 represented almost a 50% discount to Morningstar’s
assessment of their fair value. Investors
who realized that discrepancy and stood by the
shares have been rewarded for their patience
as Schwab has been buoyed in part by
58 Morningstar Advisor October/November 2013
its proprietary mutual fund and exchangetraded fund businesses, higher total
administration fees, and rosy forecasts that
its net interest income could benefit from
higher future interest rates.
Morningstar derives a fair value estimate for
companies such as Schwab that are on
its current coverage list. Our fair value
estimates for stocks are proprietary data points
that represent our equity analysts’ estimates
of what they are worth. The fair value
estimate is calculated as the present value
of a future stream of cash flows to
equity holders discounted to account for
the systematic risk of that income. By
comparing a fair value estimate to the price
of a stock, an investor can determine whether
a stock is over- or undervalued.
Table of Contents for the Digital Edition of Morningstar Advisor - October/November 2013