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Introduction to Using Morningstar's Rating for Stocks

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The Morningstar Rating for stocks is based on a stock's market price relative to its estimated fair value, adjusted for risk.

What you will learn

  • What Is Fair Value?
  • How Does Morningstar Assign Stars?
  • What Causes a Morningstar Rating to Change?
  • A Different Valuation Approach

What do you know?

Introduction to Using Morningstar's Rating for Stocks

It's amazing how much attention some people pay to stock quotes, and how little they pay to the value of the underlying businesses they are buying.

Morningstar evaluates stocks as pieces of a business and not as "little wiggling things with charts attached," believing that purchasing shares of superior businesses at discounts to their fair values, and allowing those businesses to compound value over long periods of time, is the surest way to create wealth in the stock market.

The market may not always agree with Morningstar's long-term investment philosophy, so sometimes its recommendations are out of step with consensus thinking. When stocks are high and richly valued, relatively few will receive the highest Morningstar Rating of 5 stars. But when the market tumbles, there will be many more 5-star stocks. Morningstar's philosophy is that good companies are more attractive when they are cheap than when they are expensive, so there are fewer opportunities when the market is overheating. If we wait to buy clothes and flat-panel televisions until they go on sale, why shouldn't we also purchase stocks at bargain prices?

Morningstar has been analyzing investment strategies for over 30 years and has become an expert at separating successful styles from the mediocre majority. In this lesson, we will share the Morningstar approach to rating stocks so that you have an opportunity to benefit from its investment strategy and build enduring wealth in the market.