Morningstar (MORN -0.65%) is perhaps best known for its five-star mutual fund rating system, but there's a lot more to the company.
In this Industry Focus: Financials clip, host Shannon Jones and Motley Fool contributor Matt Frankel discuss how Morningstar makes its money and why it's the best-performing large financial sector stock of this year, thus far.
A full transcript follows the video.
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This video was recorded on Sept. 10, 2018.
Shannon Jones: The first one is Morningstar, ticker symbol MORN for our listeners. Many of our listeners and investors will recognize Morningstar as one of the many research firms out there that's dedicated to providing investors, investment banks, asset managers, all the like, with a wide variety of data, research tools, all of that, for stock analysis. Probably most well-known, though, for their five-star mutual fund rating system. That comes to mind most when you think of Morningstar. Matt, were you at all surprised to see that Morningstar was a top performer?
Matt Frankel: Yes and no. Yes, because it's not a company we normally think of when we think of the best bank stocks and what's going to benefit from tax reform, deregulation, what I just mentioned. But, we're becoming much more of a data-driven sector. As in, financial companies are relying on data much more when they can make investment decisions, recommendations, and that sort of thing. From that perspective, it's not that surprising. They're more of a fintech company, than what you would traditionally think of as a financial stock, like a bank. So, I'm not terribly surprised.
Morningstar actually derives their revenue in two key ways. They get licensed-based revenue from pretty much everything that you just mentioned -- their mutual fund rating system, all their research, the data that they produce. They also get assets under management fees for their proprietary investment products. They have their own mutual funds, for example. Morningstar's biggest revenue driver has been the licensed-based portion of their business, meaning that their data-based products and subscription products are selling much better this year than they were a year ago. Their licensed-based revenue is up more than 10% year over year.
Yes, I was surprised in that the one leading the charge wasn't one of the banks that benefited from deregulation. But when you think of how well fintech as a whole has done over the past couple of years, it's not that surprising.
Jones: Yeah, I have to agree there. I think you hit the nail right on the head when it comes to the data that this company has. Oftentimes Morningstar is the one putting out the analysis and the ratings, and I think sometimes gets lost in terms of an actual good investment. Even if you look over the past 10 years, this stock has actually been up more than 200%, which is pretty incredible, especially for it to be one of those that just floats under the radar.
I will mention, too, what's interesting is, there was a slight blip, in terms of stock performance, that happened in late 2017. It was actually in part due to a Wall Street Journal report that was put out about Morningstar's five-star mutual fund rating system. It basically brought out the point that the ratings weren't as good a predictor of future performance as one might expect. Honestly, not a huge surprise there. Of course, those ratings are looking at past performance. You saw the stock take a slight blip as a result of that. But you actually saw the stock recover quite nicely from that. I think the reason why is because Morningstar really has a tremendous amount of brand power and brand recognition. As you mentioned, the data and the analysis that it provides is the extra icing on the cake for all of those analysts and fund managers that are using it.
All in all, to see this as a top performer for 2018, surprising, but just like you said, not so surprising when you consider what it is doing.
Frankel: Yeah, and I definitely agree with you, when you're saying their brand power. Morningstar is to mutual fund ratings as your Standard and Poor's is to stock indices. There's no bigger name and in fund ratings out there. And that's only one part of their business. Even so, that's definitely a big driver of their revenue.