Investment Fables: Exposing the Myths of "Can't Miss" Investment Strategies (Financial Times Prentice Hall Books)

The truth about 13 of today's most widely touted investment strategies. 10 powerful lessons for every investor Overcoming the enduring myths about markets High dividend stocks: better and safer than bonds--or not? Cheap stocks: cheap for a reason? Should you invest in quality? Momentum? The next big thing? Or what? You've heard 'em. (Maybe even from your broker!) They're the "can't lose" investment stories that promise you a no-risk path to profits … "Buy companies trading below book value." "Follow the momentum." "Buy stocks with low P/Es." "Stick with quality." "Buy after bad news." "Buy after good news." "Follow the insiders." "Do whatever Warren Buffett's doing." And on, and on, and on … They sound good. But do they really work? You're about to find out. In Investment Fables, one of the world's leading investment researchers runs the numbers on 13 of today's most widely touted strategies, objectively answering the questions your broker can't answer. Has it worked over the long term? Over the short term? If it made sense once, does it still make sense? Are the promised benefits a statistical mirage? Could it work, as one part of your investment strategy? What are the downsides–and how can you mitigate them? If you want to make smarter investment decisions, you'll find this book utterly indispensable. Cover......Page 1 CONTENTS......Page 14 INVESTMENT FABLES: TALL TALES ABOUT STOCKS......Page 26 THE POWER OF THE STORY......Page 30 Stories for the Risk Averse......Page 31 Stories for the Risk Seeker......Page 33 Stories for the Greedy......Page 35 Stories for the Hopeful......Page 37 DECONSTRUCTING AN INVESTMENT STORY......Page 38 I. Theoretical Roots: Isolating the Kernel of Truth......Page 39 II. Looking at the Evidence: Getting the Full Picture......Page 40 III. Crunching the Numbers: Developing a Frame of Reference......Page 42 IV. More to the Story: Probing for Weaknesses......Page 43 V. Lessons for Investors......Page 44 CONCLUSION......Page 45 Chapter 2 HIGH DIVIDEND STOCKS: BONDS WITH PRICE APPRECIATION?......Page 46 CORE OF THE STORY......Page 47 THEORETICAL ROOTS: DIVIDENDS AND VALUE......Page 48 Dividends Do Not Matter: The Miller-Modigliani Theorem......Page 49 Dividends Are Bad: The Tax Argument......Page 50 Dividends Are Good: The Clientele and Signaling Stories......Page 51 LOOKING AT THE EVIDENCE......Page 52 Do Higher Yield Stocks Earn Higher Returns?......Page 53 The Dividend Dogs......Page 55 Dividend Increases......Page 58 Dividend Yields: Across Companies and Over Time......Page 59 Sector Differences in Dividend Policy......Page 62 THE REST OF THE STORY......Page 64 Unsustainable Dividends......Page 67 Low Growth......Page 73 Taxes......Page 76 LESSONS FOR INVESTORS......Page 79 CONCLUSION......Page 80 Chapter 3 THIS STOCK IS SO CHEAP! THE LOW PRICE-EARNINGS STORY......Page 86 CORE OF THE STORY......Page 87 THEORETICAL ROOTS: DETERMINANTS OF PE RATIO......Page 88 What Is the PE Ratio?......Page 89 A Primer on Accounting Earnings......Page 90 Determinants of PE Ratios......Page 92 Ben Graham and Value Screening......Page 95 Low PE Stocks versus the Rest of the Market......Page 96 PE Ratios Across the Market......Page 99 PE Ratios Across Sectors......Page 102 PE Ratio Across Time......Page 104 MORE TO THE STORY......Page 106 Risk and PE Ratios......Page 110 Low Growth and PE Ratios......Page 113 Earnings Quality and PE Ratios......Page 116 LESSONS FOR INVESTORS......Page 117 ENDNOTES......Page 120 Chapter 4 LESS THAN BOOK VALUE? WHAT A BARGAIN!......Page 124 THE CORE OF THE STORY......Page 125 Defining the Price-to-Book Ratio......Page 126 How Accountants Measure Book Value......Page 127 Determinants of PBV Ratios......Page 130 EVIDENCE FROM THE UNITED STATES......Page 132 Evidence from Outside the United States......Page 135 Distribution of Price-to-Book Ratios Across the Market......Page 136 Price-to-Book Ratios by Sector......Page 137 A Low Price-to-Book Portfolio......Page 138 High-Risk Stocks......Page 141 Low-Priced Stocks......Page 144 Poor Projects: Low Return on Equity......Page 146 LESSONS FOR INVESTORS......Page 150 CONCLUSION......Page 151 Chapter 5 STABLE EARNINGS, BETTER INVESTMENT?......Page 156 CORE OF THE STORY......Page 157 MEASUREMENT OF EARNINGS STABILITY......Page 158 Diversification and Risk......Page 160 Stable Earnings, Risk and Value......Page 161 LOOKING AT THE EVIDENCE......Page 162 Stable Businesses with No Competition......Page 163 Diversified Business Mix: The Allure of Conglomerates......Page 164 Global Diversification......Page 166 The Risk Hedgers......Page 167 The Earnings Smoothers......Page 170 CRUNCHING THE NUMBERS......Page 174 Earnings Volatility Across the Market......Page 175 A Portfolio of Stable Earnings Companies......Page 177 Stable Earnings, Risky Investment?......Page 180 Giving Up on Growth Opportunities......Page 182 Priced Right?......Page 184 Earnings Quality......Page 185 LESSONS FOR INVESTORS......Page 187 CONCLUSION......Page 188 Chapter 6 IN SEARCH OF EXCELLENCE: ARE GOOD COMPANIES GOOD INVESTMENTS?......Page 192 CORE OF THE STORY......Page 193 Financial Performance......Page 194 Corporate Governance......Page 196 Social Responsibility......Page 198 THE THEORY: BUILDING QUALITY INTO VALUE......Page 199 Inputs in a DCF Valuation......Page 200 EVA and Excess Return Models......Page 201 Project Quality and Stock Returns......Page 203 The Payoff to Corporate Governance......Page 204 The Payoff to Social Responsibility......Page 205 Broader Definitions of Good Companies......Page 206 Across the Market......Page 209 A Superior Company List......Page 211 Failing the Expectations Game......Page 216 Revering to the “Norm”......Page 217 LESSONS FOR INVESTORS......Page 219 CONCLUSION......Page 221 ENDNOTES......Page 222 Chapter 7 GROW, BABY, GROW!: THE GROWTH STORY......Page 226 THE CORE OF THE STORY......Page 227 THE THEORY: GROWTH AND VALUE......Page 228 Growth in a Discounted Cash Flow Valuation......Page 229 The Value of Growth in a Relative Valuation......Page 232 High PE Strategy......Page 233 Growth at a Reasonable Price (GARP) Strategies......Page 237 Across the Market......Page 241 The Value of Growth......Page 243 A High Growth Portfolio......Page 245 Identifying Growth Companies......Page 248 Screening for Risk......Page 252 Poor-Quality Growth......Page 254 LESSONS FOR INVESTORS......Page 257 CONCLUSION......Page 258 Chapter 8 THE WORST IS BEHIND YOU: THE CONTRARIAN STORY......Page 262 THE CORE OF THE STORY......Page 263 Information and Price......Page 264 The Random-Walk World......Page 267 The Basis for Contrarian Investing......Page 268 LOOKING AT THE EVIDENCE......Page 269 Serial Correlation......Page 270 Loser Stocks......Page 273 Across the Market......Page 276 The Sector Effect......Page 278 A Portfolio of Losers......Page 279 Transactions Costs......Page 280 Volatility and Default Risk......Page 285 Catalysts for Improvement......Page 286 LESSONS FOR INVESTORS......Page 287 CONCLUSION......Page 288 ENDNOTES......Page 289 Chapter 9 THE NEXT BIG THING: NEW BUSINESSES AND YOUNG COMPANIES......Page 292 CORE OF THE STORY......Page 293 THEORETICAL ROOTS: RISK AND POTENTIAL GROWTH......Page 294 Additional Risk......Page 295 Potential for Excess Return......Page 297 Small Companies......Page 299 Initial Public Offerings......Page 304 Private Companies......Page 308 Market Capitalization......Page 312 Initial Public Offerings......Page 315 Private Equity Investments......Page 319 A Portfolio of Small Cap, Lightly Followed Stocks......Page 320 MORE TO THE STORY......Page 321 Small and Lightly Followed Stocks......Page 324 Initial Public Offerings......Page 329 Private Companies......Page 332 LESSONS FOR INVESTORS......Page 333 CONCLUSION......Page 336 ENDNOTES......Page 337 APPENDIX: SMALL-CAP COMPANIES THAT ARE LIGHTLY FOLLOWED: JANUARY 2003......Page 339 Chapter 10 MERGERS AND RETURNS: THE ACQUISITIVE COMPANY......Page 340 CORE OF THE STORY......Page 341 Acquisitions and Value Creation......Page 344 Acquisitions and Value Division......Page 348 Acquisition Date......Page 350 From Announcement to Action......Page 354 After the Acquisition......Page 356 Acquiring and Acquired Firms......Page 357 Creating Portfolios......Page 361 Investing in Acquiring Firms......Page 365 Investing in Target Firms......Page 370 LESSONS FOR INVESTORS......Page 373 CONCLUSION......Page 375 ENDNOTES......Page 376 APPENDIX: POTENTIAL TAKEOVER TARGETS AMONG US COMPANIES—MARCH 2003......Page 379 Chapter 11 A SURE THING: NO RISK AND SURE PROFITS......Page 382 CORE OF THE STORY......Page 383 THEORETICAL ROOTS OF ARBITRAGE......Page 384 Pure Arbitrage......Page 385 Near Arbitrage......Page 390 LOOKING AT THE EVIDENCE......Page 392 Pure Arbitrage......Page 393 Near Arbitrage......Page 395 Pseudo or Speculative Arbitrage......Page 400 Futures and Options Arbitrage......Page 402 Depository Receipts......Page 405 Closed-End Funds......Page 407 MORE TO THE STORY......Page 408 Near Arbitrage......Page 409 Speculative Arbitrage......Page 411 LESSONS FOR INVESTORS......Page 414 CONCLUSION......Page 416 ENDNOTES......Page 417 Chapter 12 IT’S ALL UPSIDE: THE MOMENTUM STORY......Page 420 THE CORE OF THE STORY......Page 421 Measures Used by Momentum Investors......Page 422 Models for Momentum......Page 424 LOOKING FOR THE EVIDENCE......Page 426 Serial Correlation in Stock Price Drifts......Page 427 Information Announcements......Page 429 The Confounding Effect of Trading Volume......Page 434 Momentum in Mutual Funds......Page 435 Momentum Measures......Page 438 Constructing a Momentum Portfolio......Page 444 Risk......Page 450 Momentum Shifts (When Do You Sell?)......Page 453 LESSONS FOR INVESTORS......Page 455 CONCLUSION......Page 458 ENDNOTES......Page 459 Chapter 13 FOLLOW THE EXPERTS......Page 464 THE CORE OF THE STORY......Page 465 THEORETICAL ROOTS: THE VALUE OF EXPERT OPINION......Page 466 LOOKING AT THE EVIDENCE......Page 468 Insiders......Page 469 Analysts......Page 474 Investment Advisors and Other Experts......Page 482 Insider Trading......Page 484 Analyst Recommendations and Revisions......Page 486 Portfolio of “Expert” Stocks......Page 490 Following Insiders: Timing Is Everything......Page 492 Analyst Recommendations......Page 494 LESSONS FOR INVESTORS......Page 496 CONCLUSION......Page 498 Chapter 14 IN THE LONG TERM... MYTHS ABOUT MARKETS......Page 504 CORE OF THE STORY......Page 505 Market Timing Trumps Stock Selection......Page 506 Market Timing Works......Page 507 LOOKING AT THE EVIDENCE......Page 508 Do Stocks Always Win in the Long Term?......Page 509 Market Timing Indicators......Page 513 Market Timers......Page 528 MORE TO THE STORY......Page 534 Stocks Are Not Riskless in the Long Term......Page 535 Market Timing Works Only Infrequently......Page 538 LESSONS FOR INVESTORS......Page 542 CONCLUSION......Page 544 LESSON 1: THE MORE THINGS CHANGE, THE MORE THEY STAY THE SAME.......Page 548 LESSON 4: REMEMBER THE FUNDAMENTALS.......Page 549 LESSON 6: EVERYTHING HAS A PRICE.......Page 550 LESSON 7: NUMBERS CAN BE DECEPTIVE.......Page 551 LESSON 9: KNOW YOURSELF.......Page 552 LESSON 10: LUCK OVERWHELMS SKILL (AT LEAST IN THE SHORT TERM).......Page 553 CONCLUSION......Page 554 A......Page 556 B......Page 557 C......Page 558 E......Page 559 G......Page 560 I......Page 561 L......Page 562 M......Page 563 P......Page 564 R......Page 565 S......Page 566 T......Page 567 Z......Page 568 Annotation The truth about 13 of today's most widely touted investment strategies. 10 powerful lessons for every investor Overcoming the enduring myths about markets High dividend stocks: better and safer than bonds--or not? Cheap stocks: cheap for a reason? Should you invest in quality? Momentum? The next big thing? Or what? You've heard 'em. (Maybe even from your broker!) They're the "can't lose" investment stories that promise you a no-risk path to profits "Buy companies trading below book value." "Follow the momentum." "Buy stocks with low P/Es." "Stick with quality." "Buy after bad news." "Buy after good news." "Follow the insiders." "Do whatever Warren Buffett's doing." And on, and on, and on They sound good. But do they really work? You're about to find out. In Investment Fables, one of the world's leading investment researchers runs the numbers on 13 of today's most widely touted strategies, objectively answering the questions your broker can't answer. Has it worked over the long term? Over the short term? If it made sense once, does it still make sense? Are the promised benefits a statistical mirage? Could it work, as one part of your investment strategy? What are the downsidesand how can you mitigate them? If you want to make smarter investment decisions, you'll find this book utterly indispensable. Most investors make their decisions based on "stories" that sound logical...stories backed by anecdotes claiming enormous success. Value investing sounds great. So does momentum investing. So does choosing high-dividend or low P/E stocks. So do many other strategies...even strategies that flatly contradict each other. They can't all work, no matter how good they sound. But some work better than others. And it's possible to combine the best elements from several strategies...maximizing your return and slashing your risk. In this book, one of the world's leading investment and valuation researchers will show you how. No "happy anecdotes" here: This is a thorough, objective analysis of the actual results of 13 different investment approaches...and their current outlook. If protecting and growing your assets is more urgent to you than ever, don't settle for stories. Settle for hard analysis A hard-nosed, objective evaluation of today's most widely-touted investment strategies. Examines 14 common investment strategies and presents exactly what works--and what doesn't. Beyond anecdotes: run the numbers with one of the world's leading investment researchers and top-ranked business school professors Guidance on understanding the real opportunities and not-so-obvious risks associated with each strategy--and instruction on how to mitigate the risks