Math isn’t an Edge
- Joshua M Brown
- September 18th, 2012
Love this – How many times have you heard an analyst or market commentator base a thesis around something so obvious and apparent that even a child could see it. I always say “great, and then what?”
Nicholas Colas, ConvergEx Group chief market strategist, has an even better answer:
One of the more instructive portfolio manager-analyst interactions I ever witnessed took all of about 14 seconds, but left an indelible impression on me. Picture a typical morning meeting, with the PM sitting at a round table and listening to his staff pitch him ideas. We pick up the conversation about half way through the meeting:
Analyst: Boss – I think we should go big into XYZ Corp from the long side.
PM: It has made a new low three times in the last month. What’s your edge in making that call? Looks like it wants to go to zero.
Analyst: It’s cheap enough to buy now. It is trading at 5x forward earnings.
PM: What does that mean?
Analyst (befuddled): It is the price of the stock divided by the average of the Street’s earnings expectations for next year. Five is really cheap. The stock is cheap enough to own now.
PM: Did you calculate that 5 P/E on a calculator?
Analyst (more befuddled): Umm… Yes…
PM: Do other people own calculators? I think I’ve seen them around the desk. They’re pretty popular.
Analyst (now realizing he has essentially called his boss stupid AND pitched a lousy idea): Umm. Yes. They do.
PM: Right. Math isn’t an investing edge. Go find something that doesn’t come out of a calculator.
The meeting resumes, with every other analyst starting their pitch with “My edge in this call is…”
Josh here, in other words – tell me something I don’t know.
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The Reformed Broker is a blog about financial markets and the economy. Joshua Brown is a New York City-based investment advisor for high net worth individuals, charitable foundations, retirement plans and corporations... More.