Tuesday, December 08, 2009

Interpreting Equity Valuation and simple strategy

The way to interpret equity valuation has changed in the context of current crisis. The day CNBC talking heads realize this will mark a new beginnings in the history of mankind. 

At some stages, we find same cash-flows being looked upon more kindly (higher valuations). This does not mean that analyst should rework forecasts tampering with cash-flows to retrofit the price and valuation equations. Yet, that is precisely what I am noticing currently. That is bad analysis!

It is the liquidity stupid!
There is ample liquidity in global system at the moment. This money moves across borders, based on whatever reason it deems fit, and lands into a sector or stocks. So the traditional logic of valuation is stretched a bit. Though we don't throw it out of the door. Therefore, watch the global macro in a more meaningful way.

A simple investment strategy
Given the current environment, the best way to manage investments is going back to basics. 

  1. We have to find financially robust companies that generate positive cash flows and have lesser leverage. 
  2. We then look for managements that have a vision for growth. We are looking for cash-flow accretive growth. So companies with plans to buy market share are out. Growth should be profitable growth.
  3. Thereafter we watch these companies for opportunities to buy. Any correction is opportunity to accumulate.
  4. Exit when the market peaks! Exit is very critical otherwise all profits are paper profits.
Notes and disclaimers
Equity investment is filled with risks so beware. The ideas above are for investors and not for speculators.

Do not construe this as advice to buy at any time. (Timing is critical). These views, though fundamentally sound, are echoed by very few people. So mostly, you will hear very different ideas.