Your investment process should resemble the intake process when you visit the doctor’s office. Here’s what I mean.
When checking into the doctor’s office, or the emergency room, the staff hands you an intake form to fill out. It requests some basic identifying information, including name, birthday (age) and social security number. A nurse takes your vital signs, including height/weight, pulse, blood pressure and temperature, adding that data to the form. You also fill out your medical history, any prescriptions you currently are taking, and some information on “what brings you to see the doctor today.”
This intake process allows the doctor to quickly get a basic picture of your medical situation and to identify where to focus to better understand the issues. All incoming patients go through the same process.
When looking at an investment idea, investors may want to replicate this intake process, tweaked of course for a clearly different (and less urgent) task. By using a consistent process, regardless of whether the idea comes from a friend, that off-beat relative, an investment broker or a newsletter, you can better categorize and screen incoming ideas.
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My Investment Process
My investment process closely follows the medical process. First, I want to know the basic identifying information (company name, headquarter location, ticker symbol, market cap, industry). The HQ location helps me form an initial legal and culture context – is it based in New York City, or small-town Kansas, or perhaps London, Japan or China? The market cap helps me get a quick sense of the company’s scale, risk, complexity and other basic traits.
Next, I look at a stock chart. My goal is to get a basic picture of the price history, usually over a long period of time, ideally 10-20 years. I focus on volatility, direction, magnitude and smoothness, and anything that indicates disruption to these traits. The chart may also indicate how long a company has been public. A 20-year chart that smoothly shows cumulative outperformance compared to the S&P 500 provides a very different picture from a four-year chart that shows a parabolic 75% gain followed by a series of sharp drops and spikes.
I’ll also look at the vital signs. What is the company’s revenue, earnings and profit margin condition today, how does this compare to its history and what do analysts project for the next few years? How leveraged is the company? What does the valuation look like on an EV/EBITDA, EV/sales, and P/E basis?
What I’m looking for is analogous to the doctor asking, “What brings you here today?” I want to know if this situation is worthy of more exploration, and what the problems might be. Is it a trendy momentum stock (not really of interest) or has it been a chronic laggard with a cheap valuation and a cash-laden balance sheet (lots of interest)?
If I’m still interested, I will do some further research. This usually involves visiting the company’s website to learn about their business basics: how do they generate sales, who their customers are, who runs the company (board and management) and how long have they been there, and what their priorities/strategies are.
I’ll also troll the web for credible stories that may highlight recent controversies, changes, activist attention or other color that may help understand the current narrative. If I’m still interesting, I’ll dig into the earnings and other financial reports, start running some math, research the industry and competitors and seek to better understand if and where the narrative may be either wrong or out-of-date.
My intake process has modestly evolved over time, but not by much. Instead, as market conditions and companies change, and as my experience with new industries and business models expands, I have changed how I use the intake data. For example, last April, in the depths of the pandemic, most of the intake data was of little use … instead, I mostly looked at how far a stock had fallen, what the company’s liquidity position was, and what industry it was in. That was enough to pick winners and losers. Today, I have to dig much deeper into company fundamentals, leadership, change catalysts and competitive environment to sift through ideas.
Your Investment Process
Some investors already have a strong intake process. It might be similar to, or very different, from mine. For those without a defined process, a good starting point for developing one is to simply write down what you already do. In this early stage, it matters little what is in the process or how consistently it is applied – merely being aware of it is often enough to spark improvements.
A good intake process allows for faster and more effective “looks” at new ideas. It also helps clarify what you are looking for and more quickly recognize whether you have found it. More looks, more stones uncovered, better investment results.
Bruce has more than 25 years of value investing experience, managing institutional portfolios, mutual funds, and private client accounts. He has led two successful investment platform turnarounds, co-founded an investment management firm, and was principal of a $3 billion (AUM) employee-owned investment management company. Now he is helping his Cabot Undervalued Stocks Advisor readers find those undervalued stocks that let you buy low and sell high!Learn More >>