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Investors should consider a company’s “economic moat” status when deciding whether or not to add the stock to a long-term investment portfolio. Coined by Warren Buffett, an economic moat is a quality that allows companies to maintain a strong competitive edge for decades, with a “wide” moat of more than 20 years.
Wide-moat companies tend to be those that operate in monopolistic industries, allowing them to fend off competition and maintain profitability. This results in stronger and more stable yields over time. The TSX is full of sectors with companies that exhibit these characteristics, including banking, energy, transportation, and industrials.
Candidate #1: a railway stock
When it comes to keeping competitors at bay for decades, few companies have done as well as Canadian National Railway (TSX: CNR)(NYSE: CNI). This is mainly due to its scale efficiency. CNR is able to provide transnational shipping services unmatched by trucking or cargo aircraft companies.
CNR operates in a virtual duopoly with Canadian Pacific Railway. With both companies’ infrastructure dominating the Canadian landscape, there is little incentive for new competitors to even try to grow to beat them. Both companies have been extremely profitable for decades and are looking to continue doing so.
CNR’s future still looks bright thanks to its cost advantages. Currently, freight transport by rail is the most affordable option. Trucks, barges and freight aircraft cannot offer the same measure of low value per unit weight as railroads, nor can they match their fuel efficiency. This gives the railways a huge competitive advantage.
Candidate #2: an industrial stock
What is the common thing that all societies produce? Garbage. It is an often ignored by-product of civilization, but also an important economic engine. We spend huge sums of money to store and dispose of garbage. When it comes to who we pay to complete this task, it turns out that there are few options.
Enter waste connections (TSX:WCN)(NYSE:WCN), a waste management company that provides non-hazardous waste collection, transfer, disposal and recycling services in the United States and Canada. WCN has a strong moat through its intangible assets, which prevent competitors from duplicating their services or charging a better price.
Imagine starting a waste management business. You would need regulatory permits for landfills, federal, provincial and municipal government approvals, environmental assessments, etc.
The insane takeaway
Long-term investing (especially if you choose stocks) should focus on buying large companies that provide services or commodities. Instead of being blindsided by flashy, high-growth tech companies, consider boring but essential industries. These companies are often mature, stable, profitable and very competitive.
A question I like to ask is “how bad would it be for society if this company disappeared”? If a railway, banking, telecommunications, utility or industrial company suddenly disappeared, Canadians would absolutely feel the effects. Therefore, Canadians should focus on finding companies with sustainable competitive advantages in which to invest for the long term.