by Looking at Value and Equity Hedging
Since Laker Asset Management’s establishment in 2018, our thematic investment strategy has been the club’s bread and butter. This is, attempting to forecast future economic trends and consumer behavior, and investing around ideas. Some of our themes have been generally safe, and others have been inherently more risky, but the club has managed to find relative success and keep up with our benchmark index throughout the past few years. COVID-19 and it’s namesake recession has been the toughest challenge LAM has faced. For the first time in the club’s history, we have been underperforming relative to the S&P 500. With intense market volatility and the start of a bear trend underway, we can look no further than value investing in proven companies as a hedge method to be implemented within our thematic strategy.
Value investing, in essence, is the strategy of investing in stocks that are undervalued. This is, finding stocks that based on the numbers, are trading at a lower cost than calculated as reasonable. Regardless of how valuations are conducted, the name of the game is placing great weight on the numbers, and to not give in to the headlines and the hype. This is called quantitative analysis, the broader statistical and mathematical system of valuation. One of the primary metrics used is the PE ratio, a tool for measuring what investors are paying for a stock versus what they are getting, based on current financials. Companies with higher PE ratios are typically in spaces like the technology industry, where investors will pay extra because they have a strong faith in an innovative startup to become the next household name in Silicon Valley. When PE ratio is included in our quantitative analysis, we are naturally going to find greater value in larger, established companies in things like manufacturing or retail.
Upon looking at some of the financials including PE ratio and growth rate, we can assign what is called a margin of safety to a given security, and determine a statistically reasonable price point for a share to trade at. What are considered to be “value stocks” also serve a different demographic of investors entirely, rendering them less prone to week-to-week volatility. Naturally, value stocks in established sectors can serve as a great hedge to inherently riskier buys within the same thematic package. Team One employed this investment strategy in this semester’s short term competition. We considered our airline stocks of Southwest and Delta to be rather risky due to COVID-induced travel restrictions, but the overall portfolio risk factor was offset with investments in companies like McDonalds, American Tower, and VF Corporation. While these stocks aren’t going to see any sort of crazy gains anytime soon, they serve as anchors to maintain low overall risk, keeping our alignment with the market, or beta, in check.
As the 2020 bear market endures another quarter and we move into the next calendar year, it is more important a time than ever to think long and hard about company valuations before investing. Value investing in established names, despite being quite simple, can reduce loss in a bear market, but still move with the major indices when we experience economic prosperity once again. Even if it’s just a few dollars that is being saved per share when investing, every penny counts, and this is true today more than ever.