The passive approach – benefits
In the investment world, there are two investment approaches – the active approach, according to which the investor/investment manager must be active in order to generate a return. The investor regularly manages the investment portfolio by buying and selling various securities. This approach is accepted by most mutual funds – the funds actually manage our money actively – the fund managers analyze financial statements and business events and decide whether to buy or sell securities. Their goal is to yield a return, but, on the other hand – there is the passive approach that simply completely passively follows indices. There are index-tracking products on the market – ETFs and mutual funds, and you can simply purchase them and get the index return.
And here’s the illustration – suppose we are looking for an investment manager who will manage the investment portfolio for us and suppose that part of the amount we want to invest in the TA 125 index shares – we can buy a mutual fund that invests in these shares, or invest in an ETF on TA 125 The fund manager will work on an ongoing basis to achieve a higher return than the TA 125 index, while the ETF manager will simply invest closely in the index (usually through futures and options). Has the active management of the fund manager paid off for the investor in the mutual fund? Not sure – and even if it is, in many cases the management fee caused the net return to be lower or the same as the return of the ETF that achieved exactly the return of the TA 125 index.
This introduction is very important because this is how investment options are actually divided today – active or passive. Portfolio managers, mutual fund managers usually choose the active method; In ETFs and funds that mimic the aforementioned method is passive, but wait, if so, do you even need an investment manager?
If you are interested in investing in the active method, then you are likely to do so through an investment manager. Direct investment in securities requires familiarity with the capital market, understanding all types of securities and the factors that affect them, recognizing and learning to analyze reports, understanding economic valuation, and understanding the rules of the game. Not a simple game at all, so many tend to invest through the institutional bodies, where are the experienced experts who will actively manage our money. One can only hope that they will indeed produce an excess return (and there are, here and there, entities that manage to generate an excess return over the years, although they are exceptional).
But, wait – if we think it is impossible to beat the market and get an excess return through active management, and we want to get the return on the indices (including stock index, bond indices and more), then basically we can save the management fee of the active products and purchase the Followers of indices where management fees are usually very low.It is only important to emphasize, you need to analyze and define the level of risk that suits you and choose the ETFs / mutual funds, and just to illustrate – the more you are willing to risk, the more exposed you are to stock certificates. The more careful you are, the more you will be exposed to solid certificates. This requires deep thought, and consultation with experts – you must know the limits of your sector, and in simple words what the weight of the dangerous devices in your bag will be.
Stock Selection – Earnings Multiplier Approach
Well – the passive approach is appropriate for the vast majority of the population; And yet there are quite a few who want to invest directly – how to invest directly in stocks? First examine the company – the company’s performance (revenue, profits), announcements, transactions, and the way of future profit valuation. It should be understood that perhaps the most important rule in this game is that the share price expresses the company’s ability to generate cash in the future, its ability to earn in the future. This is the fundamental method that relates to the company’s performance and future performance forecast. This is the method that should go hand in hand with the share price over time. Many good people have already said, perhaps best known, the legendary Warren Buffett who is considered a leading value investor (an investor in valuable stocks; that provide value over time) who claims that the price of a stock over time will express its results. It may be that at some point in time it will not be – for a year the company will trade inconsistently with its performance – higher, or lower, it may also last longer. But in the end, in the long run the company will trade according to its performance. Otherwise there is a distortion that will close over time – and this is, by the way, the method of value investors – to locate these distortions and invest in places where companies are trading at a discount (under / discount) in relation to their economic value.
This approach uses various methods to assess the viability of investing in the company’s shares. First, one has to evaluate its value, how do you do that? There are several approaches – cash flow discounting approach (all cash the company will generate from today to infinity), asset value (the value of its assets less its liabilities) and especially according to the profit multiplier approach – the profit multiplier approach is based on a simple formula – profit multiplier equal to market value of Company The company’s profit shares. The profit multiplier indirectly expresses the number of years the investor is supposed to return his investment (provided that the profit does not change). For example – if the company is worth NIS 100 million and the profit is NIS 20 million, then the profit is multiplied by 5, and the investor is expected to return his investment within 5 years. Investors look at the historical profit multiplier – the market share of profit-sharing in the last 12 months (depending on the frequency of reporting: quarterly, semi-annual or annual), but they mainly refer to and examine companies according to the future profit multiplier – market share of expected profit in the coming year.
Beyond that, this approach should address the company’s financial debt (or cash – if it has any), as well as assets that are not related to the core of the business. Assuming that a particular company needs to trade at a profit multiplier of 10, which is indeed its price in the market, but it has assets worth many hundreds of millions and are unrelated to the business itself, then the value at the profit multiplier does not represent its true value. On the other hand, if a company has huge debts, then even though they are reflected in financing expenses, these financial debts must be taken into account (especially in periods of low interest rates like now and almost no impact on the income statement), so the tendency today is to try and calculate the operating profit. The company (projected operating profit) and deduce from it (depending on the appropriate operating profit multiplier) the value of the firm’s activity, then deduct the debts (or add cash and / or add unrelated assets).
One way or another, the profit-multiplier method, which was originally simple, has become complex in recent years, and yet its basis is simple – market share of profit-sharing, when investors, in summary, examine the multiplier in the past year, and try to examine the multiplier in the year ahead. A low profit multiplier may be attractive (more than a high profit multiplier), but other parameters such as growth should also be considered – a company with a high profit multiplier and strong growth may be more interesting than a company with a low profit multiplier without growth, and this is because growth affects multipliers Future earnings, and to illustrate – Google issued on the US stock market in 2005 at a profit multiplier of 60 – many analysts claimed it was a sky-high price, but the company grew more than double earnings each year, so the earnings multiplier went down (although the stock price went up). In fact, you could say that Google issued a profit multiplier of 60, but given the profit for the next two years it was a multiplier of 30, and given the profit for another three years, it is a profit multiplier of 15, and so on; And when you look at it this way, it turns out that the profit multiplier was not high, it was your kind of optical error, though, it depends of course on meeting expectations. Google has lived up to expectations and profits have indeed risen, but there are examples of companies at this stage, which ultimately fail to realize the forecast.
Companies of this type are growth companies, and the market prices them at high profit multipliers (because of the growth, because of the potential). On the other hand, there are the value companies, which are traded at lower profit multipliers, but they are no longer growing at a significant rate.
Another method – the technical method reads the trend in graphs. The rationale of the method is that everything is expressed in a graph, and in the trend of the stock, and if there is an awakening in it, it also expresses something in the real field (in the company’s business, in relation to shareholders, etc.) that implies positive development. Believers in this method claim that they analyze the behavior of investors, and investors are the smartest of all, they know what is going on and what the direction of the company and stock is, so if there is a certain change they follow it and if it is strong enough it expresses a sign to enter or exit. On the other hand, it seems that in this method it is not possible to predict surprises – weaker-than-expected reports; Positive reports than expected, significant customer loss, CEO resignation and more. This method advocates linkage to the trend, while the value method actually finds value in places where the trend in paper is negative and the market has not yet discovered the potential.