Investment Fables Exposing the Myths of "Can't Miss" Investment Strategies

by Damodaran, Aswath

• ISBN13: 9780131403123
• ISBN10: 0131403125
• Edition: 1st
• Format: Paperback
• Copyright: 2004-03-12
• Publisher: Ft Pr

Summary

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. Book jacket.

Author Biography

Aswath Damodaran is Professor of Finance at the Stern School of Business at New York University.

Table of Contents

Investment Fables: Tall Tales about Stocks	p. xxv
Introduction	p. 1
The Power of the Story	p. 1
Categorizing Investment Stories	p. 2
Deconstructing an Investment Story	p. 9
Conclusion	p. 16
High Dividend Stocks: Bonds with Price Appreciation?	p. 17
Core of the Story	p. 18
Theoretical Roots: Dividends and Value	p. 19
Looking at the Evidence	p. 23
Crunching the Numbers	p. 30
The Rest of the Story	p. 35
Lessons for Investors	p. 50
Conclusion	p. 51
This Stock is So Cheap! The Low Price-Earnings Story	p. 57
Core of the Story	p. 58
Theoretical Roots: Determinants of Pe Ratio	p. 59
Looking at the Evidence	p. 66
Crunching the Numbers	p. 70
More to the Story	p. 77
Lessons for Investors	p. 88
Conclusion	p. 91
Endnotes	p. 91
Less than Book Value? What a Bargain!	p. 95
The Core of the Story	p. 96
Theoretical Roots Theory: Price to Book Ratios and Fundamentals	p. 97
Looking at the Evidence	p. 103
Evidence from the United States	p. 103
Crunching the Numbers	p. 107
More to the Story	p. 112
Lessons for Investors	p. 121
Conclusion	p. 122
Stable Earnings, Better Investment?	p. 127
Core of the Story	p. 128
Measurement of Earnings Stability	p. 129
Theoretical Roots: Earnings Stability and Value	p. 131
Looking at the Evidence	p. 133
Crunching the Numbers	p. 145
More to the Story	p. 151
Lessons for Investors	p. 158
Conclusion	p. 159
In Search of Excellence: Are Good Companies Good Investments?	p. 163
Core of the Story	p. 164
What Is a Good Company?	p. 165
The Theory: Building Quality into Value	p. 170
Looking at the Evidence	p. 174
Crunching the Numbers	p. 180
More to the Story	p. 187
Lessons for Investors	p. 190
Conclusion	p. 192
Endnotes	p. 193
Grow, Baby, Grow!: The Growth Story	p. 197
The Core of the Story	p. 198
The Theory: Growth and Value	p. 199
Looking at the Evidence	p. 204
Crunching the Numbers	p. 212
More to the Story	p. 219
Lessons for Investors	p. 228
Conclusion	p. 229
The Worst Is Behind You: The Contrarian Story	p. 233
The Core of the Story	p. 234
Theoretical Roots: The Contrarian Story	p. 235
Looking at the Evidence	p. 240
Crunching the Numbers	p. 247
More to the Story	p. 251
Lessons for Investors	p. 258
Conclusion	p. 259
Endnotes	p. 260
The Next Big Thing: New Businesses and Young Companies	p. 263
Core of the Story	p. 264
Theoretical Roots: Risk and Potential Growth	p. 265
Looking at the Evidence	p. 270
Crunching the Numbers	p. 283
More to the Story	p. 292
Lessons for Investors	p. 304
Conclusion	p. 307
Endnotes	p. 308
Small-Cap Companies That are Lightly Followed: January 2003	p. 310
Mergers and Returns: The Acquisitive Company	p. 311
Core of the Story	p. 312
Theoretical Roots: Acquisitions and Value	p. 315
Looking at the Evidence	p. 321
Crunching the Numbers	p. 328
More to the Story	p. 336
Lessons for Investors	p. 344
Conclusion	p. 346
Endnotes	p. 347
Potential Takeover Targets Among US Companies--March 2003	p. 350
A Sure Thing: No Risk and Sure Profits	p. 353
Core of the Story	p. 354
Theoretical Roots of Arbitrage	p. 355
Looking at the Evidence	p. 363
Crunching the Numbers	p. 373
More to the Story	p. 379
Lessons for Investors	p. 385
Conclusion	p. 387
Endnotes	p. 388
It's All Upside: The Momentum Story	p. 391
The Core of the Story	p. 392
Theoretical Roots of Momentum Investing	p. 393
Looking for the Evidence	p. 397
Crunching the Numbers	p. 409
More to the Story	p. 421
Lessons for Investors	p. 426
Conclusion	p. 429
Endnotes	p. 430
Follow the Experts	p. 435
The Core of the Story	p. 436
Theoretical Roots: The Value of Expert Opinion	p. 437
Looking at the Evidence	p. 439
Crunching the Numbers	p. 455
More to the Story	p. 463
Lessons for Investors	p. 467
Conclusion	p. 469
In the Long Term... Myths About Markets	p. 475
Core of the Story	p. 476
Theoretical Roots: Market Timing	p. 477
Looking at the Evidence	p. 479
More to the Story	p. 505
Lessons for Investors	p. 513
Conclusion	p. 515
Ten Lessons for Investors	p. 519
The more things change, the more they stay the same	p. 519
If you want guarantees, don't invest in stocks	p. 520
No pain, no gain	p. 520
Remember the fundamentals	p. 520
Most stocks that look cheap are cheap for a reason	p. 521
Everything has a price	p. 521
Numbers can be deceptive	p. 522
Respect the market	p. 523
Know yourself	p. 523
Luck overwhelms skill (at least in the short term)	p. 524
Conclusion	p. 525
Index	p. 527
Table of Contents provided by Ingram. All Rights Reserved.

Excerpts

As investors, you have all been on the receiving end of sales pitches from brokers, friends and investment advisors about stocks that they claim will deliver spectacular returns. These stories not only sound persuasive and reasonable but are also backed up by evidenceanecdotal, in some cases, and statistical, in othersthat the strategies work. When you try to implement them for your investments, though, you seldom can match their success on paper. All too often, you end up with buyer''s remorse, poorer for the experience and promising yourselves that you will not fall for the allure of these stories again. All too often, you forget the lessons of past mistakes and are easy prey for the next big stock story. While there are literally hundreds of schemes to beat the market in circulation, they are all variants of about a dozen basic themes that have been around for as long as there have been stocks to buy and sell. These broad themes are modified, given new names and marketed as new and different investment strategies by salespeople to a new generation of investors. There must be something in these stories that appeals to investor instincts and to human weaknesses greed, fear and hubris, to name but threeto give them the staying power that they do. This book is an exploration of the appeal of these stories, why so many investors fall for them and fail with them, and what it may take to win with each of them. As you will see, with each story, there is a kernel of truth that makes it believable and a base in financial theory that allows proponents to claim to have a solid rationale. Each chapter begins with an examination of the basis for each investment story and the theory that would justify its adoption. Why bother with the theory? Not only will it give you perspective on what makes each story work, but it will also allow you to identify potential weaknesses with the story. If you have been on the receiving end of one of these investment stories, you probably have also been told of studies that back them up and you are offered evidence of their potency. It should come as no surprise, given the source, that most of these studies give you only a portion of the truth. As you will see in this book, every investment strategy ever devised has succeeded for some periods and with some stocks, but the complete picture requires an assessment of whether it works over long periods and with a wide cross section of stocks. That is why you will see a review of the existing empirical evidence, drawn from both believers and skeptics, on each strategy and some of the potential problems with each. With every investment strategy, investors also grapple with the question of what adopting that strategy will mean in terms of investment choices. If you adopt a strategy of buying "low" PE stocks, you have to judge what represents a low PE ratio and what types of stocks have low PE ratios. If you believe that your best investments are in small companies, you have to decide how to measure the size of companies sales, market capitalization, etc.and what level would represent a small company. You will be presented with rules of thumb, that a PE of 8 is cheap or that a company with a market capitalization less than $100 million is small, but these rules of thumb can be dangerous as markets themselves change over time. To provide a frame of reference, this book examines the distribution of various measures PE, price-to-book ratio and market capitalization, to name a few across the entire market. This should then allow you to get a sense of differences across the market and to develop portfolio standards. The best test of any strategy is to apply it to the market and to peruse the portfolio that you would have ended up with as a result of following it. This book attempts to do this with each of the broad strategies examined, and you can ask yourself whether you would be comfortable investing in the stocks that make up this portfolio. If you are not, it is a warning sign that this strategy may not be appropriate for you. If you are a careful investor, putting this portfolio under a microscope will allow you to study the strategy for weaknesses and examine what you can do to minimize the damage. It is worth emphasizing what this book is about and what it does not try to do. It is not about promoting or debunking investment strategies, since there are plenty of analysts and brokers who do the former and lots of cynics, many from academia, who do the latter. But it is about providing a full picture of each investment strategy so that you can make your own judgments about what works and what does not. It is not about answering every investment question that has ever been asked; no one can have the foresight to do this. But it is about providing you with the ammunition to ask the right questions when confronted with promoters of these strategies. It is not a book for pessimists who are convinced that picking stocks is an exercise in futility, but it is a book for optimists who want to figure out how to make active strategies pay off and how to use them prudently. It is not about things you cannot and should not do while investing, but it is about things you can and should do as an investor to improve your odds for success. As long as there have been financial markets, there have been mountebanks and frauds luring investors into get-rich schemes that ultimately fail. In the aftermath of these failings, you are often tempted to turn to the courts and to governments to protect you from yourself. The best antidote, though, to an unscrupulous sales pitch about "stocks that cannot lose" or to a "get rich quickly" scheme is a skeptical and informed investor. I hope this book helps you become one.