Want a smoother ride? Diversify your investment style!

Investors are known for their style of investing. The moment you hear of value investing, Warren Buffett leaps to mind; Peter Lynch reminds us of growth investing; Howard Marks of distressed debt; George Soros or Stan Druckenmiller are known for their macro trades; Jesse Livermore, a trader. And the list goes on.

It is important to know your own dominant style of investing. There would be something where you would be most comfortable in. For example, my natural inclination is to buy stocks which are compounding in nature and then sit and do nothing as long as they keep performing both on the business and stock price fronts.

The problem starts when we become slightly successful in your way of investing. Due to our ego, we tend to believe that our way of investing is the best and others are subpar. And then we look for confirmation from the external world. If we are a trader, we deify eminent and successful traders, if we are investors we do the same with the famous investors. And that is why you will find fundamental based investors deriding technical chartists and vice-versa. This also puts subtle biases into our mind based on the authority and commitment & consistency biases. For example, a generation of investors blindly followed Buffett and avoided tech stocks just because he said it was not within his circle of competence. And guess what, they missed the best companies and winners in the last 20 years – Google, Apple, Microsoft, Amazon etc.

Most of the people who start investing typically start with either the technical or fundamental side, based on how they started their journey and what influenced them. And over years, they keep getting better at their craft. Very few have the curiosity and courage to take a peek at the other side. And even for those that do, it is not easy to be successful. Trading and investing require two completely different and mostly complimentary mindset and very few can actually do well in both.

I have friends who are so deep-value oriented that they find even entertaining the idea of studying a company with a PE of greater than 15 repugnant. Similarly, others would not even look at stocks which are not growing above a 15% CAGR rate.

The table is from the book “Excess Returns” by Frederik Vanhaverbeke. The book is completely ignorable other than this one table! It captures the CAGR returns of investor-trades with long term track records. When I chanced upon this table a few years back, it triggered a major change in my thought process and I actually started delving into alternate styles of investing. In fact, if you look closely, the people who have the best long term public track records (greater than 10 years), it is the traders who more or less win hands down. And yet their longevity was not there. The moment you increase the investment duration to more than 20 years, the investors and quant guys started taking over.

My main takeaway from this table was that it is important not to deride other styles and get “style-boxed”. Style diversification is as important as portfolio diversification, probably much more important. Since my own style was primarily a buy-compounders-and-sit kind, I was perennially missing out on shorter-term upswings in stocks of companies which may not merit a buy in a concentrated quality portfolio. But even those stocks had a great potential of giving decent returns.

I started exploring how the people on this list made money. That opened up technical analysis and quantitative investing up for me. Now, I try to improve my skills in those areas as much as I spend time doing fundamental research. And the main motivation is to be able to marry my fundamental, technical and quantitative methods together to get a smoother return profile over time.

 

Abhishek Basumallick is the Head of the equity advisory www.intelsense.in for long term wealth creation and a pure quant focused newsletter at www.quantamental.in. Nothing in the article should be construed as investment advice. Please do your own due diligence before investing.