The key to investment success is philosophical consistency. And there are essentially three approaches to managing equity portfolios. Each approach has advantages, as well as disadvantages, but success always requires discipline.
The essence of philosophical discipline is strict adherence to proven principles. Most investors fall into one of the following categories: Growth Investing, Technology Investing and Fundamental Investing.
Growth investors endeavor to identify trends; industries and companies that they believe will experience rapid growth and therefore a rapid increase in earnings per share. The problem with growth investing is that once growth is identified, the market has already placed a substantial premium on the underlying equity value. Furthermore, once a growth trend ceases, investors will abandon the stock like rats leaving the proverbial sinking ship. The moral of the story is that down is always faster than up.
Technology investors are always searching for the next Facebook! The search becomes a passion that can cause investor to throw caution to the wind. Identifying technology trends is extremely difficult at best, and creates a path with endless dead ends. Industry professionals miss most trends. For example, companies in the ice business never entered the refrigeration business, companies in the shoe business failed to anticipate the growth of the sneaker business and companies in the mainframe computer business failed to identify the need for desktop computers. We must also remember that there were approximately one hundred automobile companies in the early part of the past century and the largest company in the industry, General Motors went bankrupt twice. General Motors would have disappeared some time ago if not for a member of the DuPont family. We must also remember that IBM, Univac, GE, RCA, Cray, and others that failed, with the exception of IBM, dominated the computer industry of the 1970’s. They were outfoxed by an apple, – two kids in a garage. And Apple was outflanked by a Harvard drop out named Bill Gates.
However, there is an investment approach that yields successful long-term results. In the early 1900s a college professor at Columbia University revolutionized the investment industry. The professor established criteria for determining the value of an enterprise. He recognized that long-term success required resources and resiliency. He also demonstrated that careful prudent analysis of financial statements could identify strength and skilled management. He established strict criteria and preached that a company should be valued as if the investor was seeking to purchase the business for the long term. The college professor was Benjamin Graham, an investment legend, and his student was Warren Buffet, the Chairman of Berkshire Hathaway, one of the richest men in the world.
What do historic investment statistics tell us about investment style? The answer is simple – Value Investors – those that base their investment decisions on fundamental analysis – provide superior returns over complete economic and market cycles. They also defy efficient market theory by providing market returns at lower levels of risk.
As an investor – what else do you need to know?