In a recent discussion with a client, we were reassuringly told that whilst there is always scope to learn as an investor, we should remain true to the sort of investment philosophy we most identify with. We couldn’t agree more. But how does one know what type of an investor they are? Here’s a simple categorisation by Joe Wiggins in this short but lucid read.
The first category is that of a trader which we all understand but Wiggins’ tongue-in-cheek take is:
“This is staggeringly difficult to do consistently well, which is why profits often seem to accrue to the people who teach trading to others rather than do it themselves.”
The second is a price-based investor who hopes to make money by predicting price movements i.e, how other investors are likely to react to events such as Fed policy and the likes.
“This is probably the most comfortable style of investing from a behavioural perspective as it caters to plenty of our biases – our desire to be active, to be part of the herd, to tell stories. For similar reasons, it is also likely to prove the most prudent survival strategy for professional investors.
The problem is that it is incredibly challenging to get these types of calls right (or even more right than not).”
The third is of a valuation based investor who looks to value an asset based on fundamentals and hopes to capture any mispricing by the market.
“Given that market movements over short and medium horizons often bear little relationship with the fundamental features of an asset class, a valuation-led approach is undoubtedly the most behaviourally taxing. This group will inevitably spend a great deal of time appearing out of touch and idiotic, even if they are right, and they might end up waiting years for validation that never arrives (taking a valuation-led approach doesn’t mean that you will necessarily be correct in the end).
Relative to a price-based investor they are more likely to be successful in their investment decision making, but also more likely to lose their job.”
And finally the passive investor – buy and hold a fundamentally good asset for long periods of time.
“Although a long-term, passive approach appears simple it is not without behavioural challenges – doing nothing is tough and rarely lucrative. There will also be incessant speculation around how some profound change in asset class behaviour will soon render a passive approach defunct.
But perhaps a more credible problem is that a purely passive style requires investors to be ambivalent about extreme asset class overvaluation – passive investors are fully / increasingly exposed to equities trading at 100x PE or bonds yielding zero – even if the evidence suggests this will lead to derisory future returns. It is reasonable to suggest that this is a known cost and one which still leaves it superior to other strategies. It should not, however, be ignored.”
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