Buy low, sell high. This investment strategy is the only way to outperform the market in the long run. It requires an understanding of why good companies are sometimes undervalued, so 'hidden gems' can be distinguished from 'value traps'. A longer investment horizon must be adopted in order to give good investment ideas the time they need to pay off. Here are our five steps to achieving a successful investment outcome. Widen your time horizon: How can one get ahead of the herd? One way is to have more information than the competition, but in this age of instant information, it is either impossible or illegal. Another option is to do a better job at analysing information, but this is also a challenge due to the sheer volume of research. Therefore, the only realistic way is by adopting a longer time horizon in order to allow good ideas time to come to fruition. Patience is a virtue: The adage 'buy low and sell high' sounds easy, but it hides a painful truth: buying low is easier said than done. It requires courage to resist peer pressure and avoid fashionable, but expensive, stocks. It can also entail buying stocks nobody likes or investing in times of panic.
Above all, investors should be patient. This requires homework and waiting for a good entry point. Then waiting again, sometimes years, until the market changes its mind. Avoid value traps: Unfortunately, cheap stocks can stay cheap for a long time. What your investors will never accept is to see your 'hidden gems' turn out to be 'value traps'. The way to avoid this is through forensic and demanding analytical research and in-depth 'worst-case scenario' simulations. Identify sustainable competitive advantages: The two key rules to selecting the right stocks are quite straightforward. The first is to buy high-quality companies; the second is to buy at attractive valuations. What makes a company good? If you are going to invest for the long term, you need a business that has a fundamentally sustainable competitive advantage. This can mean a strong brand ( LVMH ), market dominance and pricing power ( Legrand ), low cost providers (Easyjet), or Secrets of contrarian success B 5 technological advantage (Sanofi). A successful alpha manager needs to focus on free cash flow generation, as this is the real engine to wealth creation and is less susceptible to accounting manipulation.
Understand why it is cheap: Unfortunately, good companies generating a lot of free cash flow that are attractively valued do not grow on trees. It is therefore important to understand why at times this may be the case. There are basically three possible reasons: negative investor sentiment towards a country – as was the case for Spain after 2008 – or sector; negative sentiment due to cyclical or 'flight to safety' reasons; or company specific fears around its business model. Once the reason for the cheap valuation is determined, you can then assess whether it is justified or not.