5 Superior High-Quality Funds
These Morningstar Medalists have a significant portion of their assets tucked in wide-moat stocks.
Even infrequent readers of Morningstar.com probably know that when it comes to stock investing, we're advocates of a wide-moat approach: We favor companies that have established competitive advantages, because they can more effectively fight off challengers than those companies that haven't carved out economic moats.
For those investors who dig the moat concept but who don't invest in individual stocks, we’ve screened our database for good funds that have a large portion of their assets invested in wide-moat names. Specifically, we screened for U.S. equity funds that earn Morningstar Analyst Ratings of Bronze or higher, and then ranked those funds by the percentage each held in stocks that earn wide Morningstar economic moat ratings as of their latest portfolios.
Below are the five most wide-moat stock-heavy funds on our list, as well as an outtake from each fund’s most recent Morningstar analyst report.
BNY Mellon Appreciation (DGIGX)
Morningstar Analyst Rating: Silver
Wide-Moat Stock %: 77.67
“BNY Mellon Appreciation’s steady team and process result in Morningstar Analyst Ratings of Silver and Bronze, depending on share class fees.
Fayez Sarofim & Co., subadvisor since late 1990, has a long-tenured team in place. Five managers have run this strategy for at least a decade, with a sixth joining the roster in 2020 from the analyst ranks, a sensible addition for succession-planning purposes. The 11-person analyst team remains experienced, and coverage lists are reasonably sized to allow for thorough bottom-up work.
The approach has remained consistent, producing a portfolio with enduring characteristics. The team looks for dominant companies in structurally advantaged industries, especially those with low debt levels and high returns on capital. The portfolio’s quality leanings come through, with higher average return on equity, return on assets, and return on invested capital relative to its S&P 500 benchmark. Its penchant for industry leaders skews the portfolio toward the higher end of the market-cap spectrum, and it also has a bigger stake in companies with wide Morningstar Economic Moat Ratings compared with the benchmark.
These portfolio preferences have led to predictable returns. The strategy reliably performs better than the benchmark in market drawdowns, including early 2020’s pandemic-induced sell-off, when the Investor shares lost nearly 2 percentage points less than the benchmark and large-blend Morningstar Category. The opposite has held true, too, with the fund gaining only 89% as much as the benchmark in market rallies. However, the strategy did better than usual as markets rallied from their March low. The portfolio’s mega-cap focus, growth leanings, and strong stock-picking across sectors helped it land in the category’s top decile for the year, with its 24% gain well above the benchmark’s 18.4%.
Investors shouldn’t expect this portfolio to always shine in robust up markets, but its steady nature through the years and reliable downside performance help it maintain its edge on a risk-adjusted basis.”
Katie Rushkewicz Reichart, director
Polen Growth (POLRX)
Morningstar Analyst Rating: Silver
Wide-Moat Stock %: 77.14
“Polen Growth earns a Morningstar Analyst Rating of Silver for its disciplined approach and its solid investment team.
The team running this large-growth strategy knows its circle of competence and doesn't leave it. Its members are sticklers for financially superior companies whose characteristics include fortresslike balance sheets and high profitability buttressed by abundant free cash flow and strong organic revenue growth. They cast their lines into a higher-quality pond from the start, one that's easy replicable by anyone with a historical stock database. The team's forte, however, is discerning which historically prosperous firms have the business models, market positions, and executive leadership that can fuel steady earnings and cash flow growth over a multiyear horizon. The team intends its assessments and investments to be long term.
The team has shown it can resist the complacency that sets in at similarly low-turnover rivals, who become wedded to their stocks and reluctant to part with them when they should. In March 2020 it purged Nestle--a relatively slow-growing company meant to provide ballast to the portfolio but had disappointed the team in recent years--and plowed the proceeds into Abbott Laboratories (ABT).
The team's highly selective approach lends itself to a portfolio of 20-25 companies with ample growth potential and less volatility than one might expect from such concentration. Indeed, over the trailing 10-year period ended February 2021, the strategy's separate account had a lower standard deviation than the Russell 1000 Growth Index, held up relatively well during market drawdowns, and amassed a 18.2% annualized gross gain, 1.7 percentage points ahead of the index.
Credit for this execution goes to Polen Capital's thought leaders, including co-heads of the investment team, Dan Davidowitz and Damon Ficklin, and director of research Brandon Ladoff. They work as part of a 11-person crew whose outlook on growth investing is global.
Even with the mutual fund's high fees, this strategy is a worthy holding.”
Robby Greengold, strategist
Loomis Sayles Growth (LGRNX)
Morningstar Analyst Rating: Gold
Wide-Moat Stock %: 76.37
This fund is currently closed to new investors.
“Loomis Sayles Growth benefits from an experienced manager, a stable dedicated analyst team, and a methodical and research-intensive process. The Morningstar Analyst Rating for its cheapest share class is upgraded to Gold, while others range from Silver to Bronze, depending on fees.
Aziz Hamzaogullari has a successful, long-term track record. With 27 years of investment experience overall, he founded this strategy at Evergreen in 2006 before moving to Loomis Sayles in May 2010. The supporting team is strong and stable. It consists of seven sector analysts, three of whom have worked with the manager since 2006. The team supports Hamzaogullari on the other strategies he manages--All Cap, Global Growth and Long/Short--although the overlap between them is relatively high. The team launched an international growth strategy in December 2020, which may increase the team's workload.
An area worth watching is the strategy's rapidly increasing asset base, which was $69 billion as of December 2020. While some vehicles outside the U.S. remain open, the U.S.-domiciled mutual fund has been soft-closed since November 2016. Despite asset growth, the strategy’s rigorous and research-intensive investment approach remains in place. The focus on quality and growth has been consistent. The strategy has one of the largest stakes in firms with wide Morningstar Economic Moat Ratings in the large-growth Morningstar Category (typically 75%-80% of assets).
Although this is a compact portfolio of 30-40 names, the focus on wide-moat businesses and diversification of holdings with different business drivers have kept volatility in line with the Russell 1000 Growth category index. Given its quality bias, the strategy tends to protect well in down markets, including during the pandemic-induced market sell-off in early 2020.
The strategy's record is strong over the manager’s tenure, and its clearly defined approach and long-term orientation should serve investors well.”
Lena Tsymbaluk, analyst
Vanguard Dividend Growth (VDIGX)
Morningstar Analyst Rating: Gold
Wide-Moat Stock %: 75.65
“Vanguard Dividend Growth's key attributes remain intact and so does its Morningstar Analyst Rating of Gold.
Downside protection has been such a strength for this fund's roughly 40-stock portfolio that it has typically made up for lagging in rallies. The fund's 2020 results were an exception, though, as it didn't just trail in the rebound but also in the preceding bear market. The fund didn't fall as far as the Russell 1000 Index and the large-blend Morningstar Category norm, but its 33% peak-to-trough loss was 1.3 percentage points worse than the Nasdaq U.S. Dividend Achievers Select Index--the first time under manager Donald Kilbride that it has lost more in a major downturn since the Nasdaq bogy's 2006 inception.
Yet, even the best investors make mistakes. Although Kilbride had reduced his expectations for oil and gas firms' long-term earnings beginning in 2016, he stuck with Exxon (XOM) for its petrochemical capabilities until early 2020, when Kilbride sold it near a low because oil oversupply and plummeting demand jeopardized its dividend. Anticipating a lengthy stock market recession and preparing the portfolio for it also hurt.
In other respects, however, Kilbride showed his characteristic blend of restraint and opportunism. He didn't chase pandemic winners, like Walmart (WMT), because of their anemic dividend growth and rising valuations and instead sought bargains whose dividend growth prospects would improve once the broader retail economy revives, such as American Express (AXP).
Kilbride's discipline should help the fund come back, as it has in the past. The fund lagged the Nasdaq index from April 2009 to March 2011 and from late 2015 to early 2018 before outperforming again. And even after this recent slump, the fund's strong long-term record remains intact.
Kilbride also added talent to his now three-person dedicated team. In July 2020, he and backup manager Peter Fisher hired Ashley Carew, whose prior accounting experience influenced the fund's sale of 3M (MMM) in 2020. And he still draws on a deep central analyst bench.
This fund remains a keeper.”
Alec Lucas, strategist
Jensen Quality Growth (JENSX)
Morningstar Analyst Rating: Silver
Wide-Moat Stock %: 74.83
“Experienced managers who stick to a carefully circumscribed approach underpin a Morningstar Analyst Rating of Silver for most of Jensen Quality Growth's share classes.
Seasoned stock-pickers who know this strategy's strengths and limits run it. Six managers with an average of about 26 years in the industry and 14 years at Jensen Investment Management work as a team. They understand the process' forte is selecting attractively priced stocks from a well-vetted universe of consistently profitable companies. The squad has stayed within this circle of competence across market cycles and generational changes among its members.
The process' simplicity disguises its effectiveness. It sifts for companies with market caps of more than $1 billion that have produced returns on equity of at least 15% in each of the previous 10 calendar years and buys those that still look good after a thorough vetting of their business models, growth opportunities, market positions, and more.
It seems easy to replicate--indeed many rival exchange-traded funds that use quantitative methods to isolate such so-called quality stocks are available--but this fund sets itself apart with focus, attention to valuation, and low turnover. It buys and holds 20 to 25 stocks trading below the managers' estimates of intrinsic value, informed by a conservative, three-stage discounted cash flow model. It can look contrarian for a growth fund, shunning growth darlings like Amazon.com (AMZN), Tesla (TSLA), and Nvidia (NVDA), and holding on to laggards, such as apparel conglomerate VF Corp (VFC) and payroll and human resource software provider Automatic Data Processing (ADP), that have struggled in the wake of the coronavirus pandemic. So, it tends to produce a portfolio of modestly valued but consistent and enduring stocks rather than high-expectation companies. Such holdings tend to trail peers in extended growth markets, but hold up better in downturns. Indeed, the fund's results, even when it lags, look better on a risk-adjusted basis.
This has been a winning formula over the long term, albeit one that requires patience.”
Dan Culloton, director
Susan Dziubinski does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.