The writer Bearbull in the Investors Chronicle made some interesting comments in this week’s edition. He said:
“Talking of research, I might question the way that I dig out investment candidates. My off-the-peg approach focuses on number crunching from a company’s accounts. It uses past performance as the basis for guesstimating a range of per-share valuations – from optimistic to pessimistic – based on both accounting profits and cash flow. I back that up with more spreadsheet work to assess the trends in a company’s efficiency, its productivity and its financial resilience.
The merits of this approach is that it is an efficient way of scanning lots of candidates. Its shortcoming is that it pays insufficient attention to the future, which is where investment returns will come from. True, but the lion’s share of my time spent crawling over any company always comes down to relating the quantitative findings to the question, to what extent is the future likely to be as good as the past, better than or worse than? I don’t think that will change”.
This is very much my own approach. Doing an initial scan of the financials to weed out the worse candidates for investment makes a lot of sense. But the problem with relying on financial analysis alone is that it is not very predictive of the future. In the modern world where markets and businesses are rapidly changing, relying on a study of past accounts is of limited use. Or as I say in my book Business Perspective Investing: “typical ratios used by investors to evaluate and compare companies tell you almost nothing about the future”. That’s assuming you can even trust the accounts of companies which is another dubious proposition of late.
I’ll be covering this more and what investors really need to look at in my presentation at the Mello London event (Tuesday the 12th at 12.55 pm: https://melloevents.com/event/ ).
Roger Lawson (Twitter: https://twitter.com/RogerWLawson )
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