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Bottoms up or top down: What investment strategy works for you?

Be it bottoms up or top down, make sure that whatever investment strategy you use is academically sound. Picture: AUSTIN DISTEL on UNSPLASH

EXTRAORDINARY PROFITS FROM ORDINARY SHARES

WINNING STOCK MARKET STRATEGIES

By WILLIAM MEYER

An investor can successfully adopt many approaches and strategies. The approach must suit the investor’s character and preferences, and can rely on a single philosophy or may use many strategies.

Successful investors invariably have an investment strategy of their own. In many cases they may use other techniques as a filtering mechanism or to validate decisions already made, but they have a guiding philosophy and strategy from which they will not deviate.

Investors often classify themselves as either “bottoms up” or “top down”. “Bottoms up” refers to the technique of searching for investment companies that meet the investor’s criteria and fit his or her philosophy, no matter the industry or geographical location for investment. Bottoms up investors regard themselves as value investors. “Top down” investors may regard themselves as technical or momentum investors.

Discount

Value investors emphasise cash flows, net asset value, competitive positioning and management. The challenge is to obtain more assets for every rand spent. In other words, to buy shares that are trading at a discount to the inherent net asset value per share.

Value investing does not only involve buying shares that are trading at a discount to net asset value. It also arises when shares can be purchased at what appear to be very expensive levels, but which are not so dear when related to forecast growth rates.

Technical analysts believe a picture is worth a thousand words. They put store by studying shares prices as depicted in graphs, coupled with various other indicators. These analysts believe that various patterns have predictive properties and that, by carefully studying them, it is possible to ascertain the next move in the share price.

Technical analysis

The most extreme technical analysts rely only on their graphs and often use other strategies and philosophies to round off their approach to investing.

Often value investors use technical analysis to time the purchase of their investments. In other words, once value investors have chosen their shares according to their criteria, they use technical analysis to decide when the short-term price movement is depressed and when the next accelerated increase is likely to occur.

A technical analyst often refers to trend lines, flags, head-and-shoulder patterns and moving averages. That illustrations or graphs have certain predictive powers is probably because there are so many adherents of this philosophy that it can become self-fulfilling.

The usefulness of any technique must, however, diminish when it becomes too popular. Investors must remain open-minded and flexible, and never adopt blindly any one aspect of an investment philosophy.

Long-term investor

Technical investors are often traders and take short-term positions in shares, while fundamental or
value investors tend to hold their investments over the long term.

Short-term traders have to carefully consider transaction costs such as brokerage and sundry levies, as well as taxes. These costs are not a major consideration for the long-term investor.

Even CGT can be indefinitely deferred if one never sells the investment. The contingent liability on the gains can then be considered an interest-free loan from the receiver of revenue.

So make sure that whatever strategy you choose to adopt it is academically sound and distinctively yours. And then stick to it.

If you are not happy with your portfolio performance or would like a second opinion, please do not hesitate to contact Fenestra for a free, independent, objective and confidential review of your portfolio.

WILLIAM MEYER IS A QUALIFIED CHARTERED ACCOUNTANT (SA) AND CHARTERED FINANCIAL ANALYST (USA). HE HAS BEEN CEO OF FENESTRA ASSET MANAGEMENT SINCE 1990. HE LIVES IN MOOI RIVER WITH HIS WIFE, CLAIRE, AND THEIR FOUR CHILDREN, COMMUTING TO HIS HEAD OFFICE IN CAPE TOWN. HIS COMPANY HAS OUTSTRIPPED THE ALL SHARE INDEX WITH A COMPOUND GROWTH RATE OF 18.87% PER YEAR SINCE 2004.

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