Monday, March 29, 2010

Review of Investment Fables: Exposing the Myths of "Can't Miss" Investment Strategies by Aswath Damodaran

I just finished reading Investment Fables: Exposing the Myths of "Can't Miss" Investment Strategies by Aswath Damodaran, who, like Edward Altman, is an NYU professor.

Damodaran is a prolific writer of finance and investing tomes, some of which I have in my pile of books to read, like The Dark Side of Valuation: Valuing Young, Distressed, and Complex Businesses (2nd Edition)

Investment Fables reviews the arguments and empirical studies for and against the most common investing strategies, like low P/E, low P/B, growth, momentum, etc. The essence of the book is as follows:

"Every investment strategy is a bet against the market. You are not only making a wager that you are right and the market is wrong but that the market will see the error of its ways and come around to your way of thinking (p523)."
That is something that I try to be mindful of at all times. Michael Steinhardt described this mentality perfectly in No Bull: My Life In and Out of Markets. He said that an analyst should be able to tell him
in two minutes, four things: 
1) the idea
2) the consensus view
3) his variant perception, and
4) a trigger event.
I would say that every investor should certainly be aware of the arguments for and against the strategies/"fables" that Damodaran describes, but it isn't really an advanced text. I did pick up a few interesting things though.

In talking about a strategy of following market analysts and expert opinions, he cites a study from 1999 that found that "stock prices for recommendations made by nonunderwriters do significantly better than the market, but the stocks recommended by underwriters (in those stocks) tend to do poorly (p466)." Aha! We had this issue recently with the upgrade of Grubb & Ellis (GBE) stock!

Also, I want to pick up a copy of The Synergy Trap which is said to be "the most comprehensive and rigorous, yet practical, analysis of the drivers of acquisition performance."

One surprising weak point of Investment Fables was that the charts in the book aren't the greatest. Heavy use of bar charts where I would like to see more scatterplots that would better show the strength of relationships between variables. This is something that I really notice as an Edward Tufte fan.

The other weakness is a certain amount of filler material - companies that in 2001 passed the investment screens contemplated in the book - that has not aged very well.

But I give it 4/5.

P.S. Damodaran has a blog, and he has recently posted some interesting afterthoughts about Investment Fables.

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