There is a fine passage near the beginning of Aristotle’s Ethics that goes: “It is the mark of an educated mind to expect that amount of exactness which the nature of the particular subject admits. It is equally unreasonable to accept merely probable conclusions from a mathematician and to demand strict demonstration from an orator.” The work of a financial analyst falls somewhere in the middle between that of a mathematician and of an orator.
-The Intelligent Investor-
Investment Strategy
Although it is well known that the future should never be predicted exclusively by extrapolating from the past, it is important to evaluate, in statistical terms, how the strategy worked in the past. Therefore, this strategy has been built on fundamental premises of value investing, premises that, after being evaluated, have resulted in positive returns on investments decade after decade.
Investment objectives: Outperform the S&P500 on an anual basis with a risk-adjusted approach.
Time horizon: Long-term (more than a year).
Diversification: Asset allocation through different companies (stocks) in different sectors.
Investment analysis and selection: In-depth fundamental analysis to estimate intrinsic values of stocks, integrating DCF (Discounted Cash Flow) based on FCF (Free Cash Flow) and EPS (earnings per-share), and Relative Valuation Methods.
Monitoring and adjustments: Daily monitoring with monthly rebalancing on the first trading day of each month.
Limitations and Risks: It is important to note that both DCF and relative valuation methods have their limitations and inherent risks. DCF relies heavily on accurate cash flow projections and the selection of an appropriate discount rate, which can be challenging to estimate. Relative valuation methods are subject to market fluctuations and the availability of reliable comparable data. Additionally, fundamental analysis does not consider short-term market trends or behavioral factors, which can impact stock prices in the short run.