If you want to invest in the best companies, here’s why you should look for wide economic moats

Julie Brownlee, Fsp Invest, 10 Dec. 2014

Tags: economic moat, economic moats, what is an economic moat, investing, investment strategy, how to find companies with wide economic moats,

When you risk money on the stock market, it’s important to give your money the best chance of working hard for you.

One way to do this, and it’s one of the cornerstones of investing great Warren Buffett’s strategy, is to seek companies with wide economic moats.

So what is an economic moat? And how can you find companies with wide economic moats?

Read on to find out…

What is an economic moat?

In days gone by, the reason moats surrounded castles was to protect them. It’s this thinking that’s behind economic moats.

An economic moat is the ability of a company to withstand competition for its services and products.

Generally speaking, the bigger the moat, the bigger the competitive advantage a company has.

Warren Buffett is a strong advocate of buying shares in companies with wide economic moats.

What is the purpose of an economic moat?

There isn’t one factor that you can describe as an economic moat. It all depends on the company in question.

But the role of an economic moat is the same in each case: It makes it very difficult for competitors to steal away a company’s customers.

Examples of companies with economic moats include:

  • A company that produces a certain product at the lowest cost;
  • A company that has a patent for a certain technology or a manufacturing process; and
  • A company with a very strong brand.

How to spot a company with a wide economic moat?

One way to find a company with a wide economic moat is to look at financial track records. You want to see:

  • Stable and growing profits;
  • High profit margins; and
  • A high return on capital employed (ROCE).

The key then is to see whether the company’s economic moat can survive any attacks by competitors into the future.

Companies that have wide economic moats tend to be expensive. You need to have a list of companies that meet the above criteria and be ready to pounce during times of market turmoil and volatility to buy them at a decent price.

So there you have it. Why you should look for wide economic moats if you want to invest in the best companies.

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