Investing Styles

Many people find the language and acronyms thrown around by the investment industry to be totally mind boggling. In an attempt to clear the fog with respect to investment styles, the descriptions below should provide some simplification. This is not all-inclusive, as creatives in the industry are constantly evolving new ideas or rebranding old ideas. Ask if there is something that can be clarified.

Ultimately, we will explain what is meant by active, fundamental, bottom up, value investing.

Active and Passive

First of all there is the notion of active and passive investing. Many people confuse active investing with active trading, meaning you trade a lot, like a day trader. This is not at all what active investing is all about. There are some people who believe you cannot beat the market and so you might as well just own a broad selection of investments (in theory own a small portion of all investments that exist) and accept the market average level of returns. This is called passive investing. If you are going to be a passive investor there is no point doing research because you are just going to own the market average investments anyway. On the other hand some people believe there is merit in doing research, being very selective about the investments you choose, and trying to beat the average market return. These are active investors. The point is not that they are active traders, it is that they are active researchers.

Top-down and Bottom-up

Some people doing active analysis place priority on first analyzing the overall economy and gradually drilling down to specific investments, whereas others first and foremost look at the quality of the individual company before considering other details. these investors are referred to as top-down and bottom-up investors, respectively.

Momentum and Fundamentals

Within the active investing space there are people who focus their analysis on security market data like stock price trends. Those are often called technical traders, chartists, or momentum traders.

On the other hand there are investors who dig into the financial statements of a company, the markets a company operates in, and the real world prospects of a company. Those investors are called Fundamentalists and the data they are analyzing is called company fundamentals. Note there can also be fundamentalists analyzing at an overall economy level, not just a company level.

Value-Growth Continuum

When an active bottom-up fundamentalist decides to analyze a company, they are trying to determine what they think the business is worth. Implicit in this analysis is that they think the business might be worth something different from the market price of the stock and they can make profits if they can find mispriced businesses. Most typically, fundamental investors describe themselves as somewhere along the value-growth continuum. There are four typical categories: Growth, GARP (growth at a reasonable price), Value, and Deep Value.

Note that it is not necessary to pick growth companies to have a growing investment portfolio. Some investors are confused by this. In fact some research has shown that the profits to be made by picking underpriced value stocks can be higher (and thus grow your portfolio faster) than the profits from owning growth companies (many of which end up floundering and letting you down).