Think Like an Equity Analyst: Tips for Identifying Durable Stock Opportunities

In a recent webinar offered to Morningstar Investor subscribers, Michael Hodel, director of equity research at Morningstar, offered a practical look at how equity analysts turn ideas into investment opportunities. Rather than focusing on market forecasts or stock picks, the session walked through something more foundational: how an analyst takes an idea (in this case, one sparked by another Morningstar expert’s research) and pressure-tests it using the economic moat framework and Morningstar’s tools.

The webinar wrapped up with an engaging Q&A moderated by Erin Lash, director of equity research at Morningstar.

Here are the key takeaways.

1. Start with the “why”: economic moats signal long-term value

At the heart of Morningstar’s approach is a simple but powerful idea: not all profits are created equal.

When companies earn outsize profits, competitors inevitably take notice and enter the market. Over time, that competition tends to erode margins. The key question for investors isn’t just how profitable a company is today, but how long it is likely to generate similar returns.

That’s where the concept of an economic moat comes in. Companies with moats have durable competitive advantages that allow them to fend off rivals and continue generating excess returns over long periods.

This long-term lens is critical. It shifts the focus away from short-term noise and toward the durability of a company's advantages year after year.

2. The five sources of competitive advantage

We explored the five sources of economic moats that Morningstar analysts use to evaluate companies:

• Intangible Assets: Brands, patents, and regulatory licenses that are difficult to replicate (Example: Coca-Cola)
• Cost Advantage: Structural efficiencies that allow firms to underprice competitors or earn higher margins (Example: Sysco)
• Efficient Scale: Markets that naturally limit the number of profitable competitors (Example: railroads)
• Switching Costs: Friction that makes it difficult for customers to change providers (Example: Microsoft)
• Network Effect: Platforms that become more valuable as more users participate (Example: Meta)

When you read the economic moat section of a Morningstar company report, you will find a discussion of the moat sources that we believe are relevant to that firm.

3. Three types of moat ratings

Morningstar assigns companies one of three moat ratings: Wide, Narrow, or None. Economic moats are rare because they signal a company that has the potential to compound value for investors over decades, vs. those that can’t.

• Wide moat: Advantages expected to last 20+ years
• Narrow moat: Likely to persist for at least 10 years
• No moat: Limited protection from competition

These ratings are forward-looking. A company may look strong today, but could still lack a moat if competitors can easily replicate its success.

4. From idea to insight: applying the framework

Michael then explained how this framework gets applied in practice. He walked through how he engages with research from other Morningstar analysts—such as insights shared on Morningstar.com or on podcasts like The Morning Filter—and uses that as a starting point for his own analysis.

To illustrate his point, he explored a timely example: the impact of artificial intelligence on cybersecurity companies.

Rather than taking the conclusion at face value, he worked through the moat framework himself:

• Questioning switching costs: Are high customer retention rates truly durable, or could new technologies erode them over time?
• Exploring network effects: Do leading cybersecurity firms gain an advantage as they collect more threat data across their customer base?

This step—actively debating the thesis rather than passively accepting it—is a critical part of the process. It mirrors how Morningstar’s internal moat committee evaluates companies through discussion and challenge.

5. Turning analysis into action with Screener

Using the Morningstar Investor screener, Hodel showed how to take a broad theme like cybersecurity and narrow it down to a focused list of companies:

• Start by filtering for firms with moat ratings
• Narrow by sector and industry
• Use the keyword filter to zero in on a specific theme
• Sort and compare based on size, ratings, and valuation

This quickly reduced a large universe of stocks to a smaller group worthy of deeper investigation. From there, he identified a handful of companies with strong competitive positions and attractive valuations for further research.

Then, he built a watchlist to track these companies over time—creating a repeatable system for monitoring ideas as they evolve.

Q&A

Note: Questions and answers are paraphrased for easy scanning. To listen to the full dialogue, skip to the 20-minute mark of the above recording.

Erin: What factors do you look at when deciding whether a company’s moat is improving or eroding—especially given recent changes in technology like AI?

Michael: Our moat ratings are long-term and forward-looking, so the key factor is our confidence in a company’s ability to generate similar returns over time. With developments like AI, we reassess whether advantages like switching costs will remain durable. We don’t want to overreact to short-term changes, but if uncertainty increases (as it has in software), we may lower ratings because we have less conviction in those advantages holding up over the next decade or more.

Erin: How should investors think about the relationship between moat ratings and valuation, using Comcast as an example?

Michael: Moats and valuation are related but distinct. Comcast has created significant value over time, but changes in the competitive landscape, like fixed wireless, reduced our confidence in its long-term advantage, leading to a moat downgrade. Meanwhile, valuation reflects both long-term cash flow expectations and how the market is pricing those risks. In Comcast’s case, we think the market may be overreacting to near-term competition, even though the long-term role of its network remains intact.

Erin: How do you incorporate short-term challenges versus long-term opportunities when modeling a company?

Michael: We explicitly model cash flows many years into the future—often five to 10 years or more—to reflect how competitive dynamics may evolve. For example, in pharmaceuticals, we probability-weight potential outcomes like drug approvals to estimate long-term revenue. The more diversified and predictable those outcomes are, the higher our confidence, and that feeds into both moat and uncertainty ratings.

Erin: How do you decide which companies to cover, given that there are companies going public all the time, names getting acquired, and tons of corporate actions around divestitures and combinations?

Michael: It’s a balance. We prioritize large-cap companies because that’s where investor interest is highest, and those names take up the majority of our resources. That said, we also look for compelling opportunities in mid- and small-cap stocks, especially when we see differentiated competitive advantages—though those are more selective.

Erin: Morningstar’s ratings differ from traditional sell-side ratings. How do you determine whether a stock is undervalued or overvalued?

Michael: We start by estimating a company’s intrinsic value based on long-term discounted cash flows. Our star rating simply reflects how the current market price compares to our fair value estimate. The size of the discount or premium needed to earn a 5-star (undervalued) or 1-star (overvalued) rating depends on our uncertainty rating—higher uncertainty requires a larger margin of safety.

The Bottom Line

As a DIY investor, cultivating a disciplined process can help build confidence in your approach:

• Start with an idea
• Test it using a consistent framework
• Use tools such as Screener to narrow your focus, Watchlists to keep tabs on your shortlist, and carefully read analyst reports for stocks that meet your criteria
• Continue refining your thinking over time

And for Morningstar Investor subscribers, you can take comfort in knowing that the research, frameworks, and tools used by Morningstar analysts are available to support your own decision-making.

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