Our Three Building Blocks of Investment Decision Making

Value Recognition

The most important factor from a long-term investment standpoint is the recognition of value, including the identification of overvaluation and undervaluation. Valuation measurement tools, including P/E multiples, dividends, asset factors, and growth rates are, of course, essential in stock analysis. They are equally important in group and sector analysis, and in the study of markets overall.

Eventually, the marketplace adjusts prices downward for overvaluation and upward for undervaluation, but it is often not very efficient and these adjustments can take considerable time.

Trend Analysis

Besides its inefficiencies, the market is often irrational. That is why technical analysis is a valuable skill for investment professionals. How many times has one sold a "fully priced" stock and then watched it continue to rise in price, doubling multiple more times in a spasm of irrationality? How many times has one bought a "cheap" stock only to see it fall another 30%?

Stock groups, market sectors, and the securities markets themselves demonstrate the same tendencies toward the extremes. While technical analysis has its limits, at times it can greatly enhance investment results.

Leadership Expectations

Since the beginning of market time, there have nearly always been clearly defined phases of market leadership: Emerging Markets and Commodities in the 2000s; Technology in the 1990s; Health Care-related stocks in the late 1980s; Consumer stocks and Bonds in the early and mid-1980s; Energy stocks in the late 1970s; the "Nifty Fifty" in the early 1970s; and Electronics in the early 1960s. Portfolio concentrations in the leadership themes can be very rewarding if one is able to identify the trend and develop positions in the early stages. It can be a horror if one loads up late in the game.

Projecting future areas of investment leadership is an art. It requires imagination and experience; a sense of what trends might attract far-reaching investment based on the existing environment or developing market conditions. 

Risk exposure can be reduced if fundamental value recognition tools are added to the process. Trend analysis, using traditional measures and newly developed methods, further reduces the twin risks: 1) being "too early"; or, 2) jumping on board near the end of a leadership phase.