Many investors rely on their expertise, or their advisors’ expertise, to develop and follow an investment style. These styles are important and can help provide direction and assist in making investment decisions. Investment styles are developed based on many factors, including age, gender, income, family, wealth, tax situation and previous investment experience. These factors play important roles when developing an investment style and should be considered thoroughly.
One of the most important factors to consider when determining an investment style is the investor’s objective. For example, the portfolio of an investor whose main objective is growth (accumulation phase) may differ significantly from the portfolio of any investor whose main objective is capital preservation (income phase).
The majority of investment choices available, be they equities, bonds, or financial derivatives, follow their own particular investment style. It is important for investors to understand each to ensure they fit into their style. A financial professional can help with research and help determine the appropriate style for an investor and his or her needs.
Most money managers typically focus on a few dominant styles, including active vs. passive investing, growth vs. value, bottom-up vs. top-down, and technical vs. fundamental analysis.
An active investor’s primary focus is to outperform the market by picking various individual stocks. On the other hand, passive investors may consider investing in an index fund designed for long-term results. An active strategy consists of timing the buying and selling of different stocks in hopes of beating the ups and downs of the market. The passive approach is very hands-off and relies on market performance alone.
One can also qualify an investor as having a growth or value approach to investing. Typically, growth styles seek investment in companies expected to have a 15 percent to 25 percent increase in earnings. Value investors, on the other hand, tend to lean more toward companies offering bargains or “cheap” shares compared to current earnings. Growth style investments tend to be more volatile than value investments. Many money managers may combine both styles for diversification.
Bottom-up or top-down approaches are also important to understand and consider in one’s investment style. A bottom-up approach focuses on a particular company’s fundamentals. One example may be the performance of a company’s earnings (price/earnings ratio). A top-down approach will look at the macroeconomic picture, considering inflation and consumer spending, then choosing to invest in a particular industry.
Investors may also decide whether their investment style fits a technical or a fundamental approach. When applying a technical style, money managers will use charts, price and specific economic data to identify patterns related to a particular stock investment. An investor who uses a fundamental approach will analyze actual financial accounting data as well as the profitability of a company to determine what stocks to have in his or her portfolio.
These are important factors to understand and can help investors identify which investment style best suits them. Keep in mind that an investor’s style will most likely change as his or her objectives change. Constant monitoring of investments is critical to success and helps to avoid style drift.