Disclaimer: The analysis is the expression and assessment of investments right now. They cannot replace individual counseling. Always research and evaluate the investments you are considering based on your investment strategy, risk, and time horizon. Therefore, following the recommendations, you are responsible for any losses you may incur.
When I first started investing, I was advised that I shouldn't expect higher returns than the market. According to the theory of the efficiency of the market, the large number of market participants leaves no room for bargains. They are highly intelligent, objective, motivated, and hardworking, with widely known and employed analytical models. If there is a bargain on a stock, participants will rush to buy the stock, driving up its price to reach a fair value and selling expensive stock, by looking at risk and potential. This means that all these participants give us a sort of data, and while some investors may present as outsiders, the main opinion will give a fair valuation within its standardization. However, I believe that the market is efficient, but not in the same way as others do.
Firstly, every stock is in theory valued in the same way, but not every investor uses the same tool to value an asset. While the Discounted Cash Flow (DCF) model is the main tool to estimate an investment's value based on its expected future cash flows, predicting a company's future is challenging, especially on a five-year scale. There are too many unpredictable events that can impact a company's performance, making it impossible to predict the future with 100% accuracy. Even if an investor cannot predict all the events, they can still outperform their benchmark.
Secondly, not all investors invest with the same method. Different investors have different philosophies and strategies, such as value, growth, and dividend investors, swing and day traders, among others. Every investor has unique goals with investing and is in different stages to reach their objectives. Therefore, not every stock can be valued with the same multiple.
Lastly, the market can behave irrationally when there is too much greed or fear. When investors have too much money, and the market is rising, it becomes challenging to find bargains for individual investors and professionals. However, when there is fear in the market, participants tend to follow the stock price and try to exit the market regardless of the price, which can cause the stock price to drop even further. In some cases, investors might get a margin call, which can further press the stock price down. Therefore, in some situations, market participants can be more irrational than usual.
Although this is just an opinion and cannot be proven, there are some strong arguments that suggest the market is inefficient. However, I believe that the market isn't efficient in terms of valuing but instead information and news. Expectations, macroeconomic factors, and company-specific news all contribute to the market's volatility. So the market takes the information and makes an opinion on that information, but isn't always right on the opinion. This does not necessarily mean that the market is always correct in pricing assets at fair value. If many participants are analyzing a stock, it will be less likely to find it undervalued.
Here are some examples of why a stock can be traded on a bargain:
- Professional participants can't buy or don't follow it
- Turmoil at the management post
- Issue at the financial statement or balance
- The stock price has fallen significant
It's difficult to predict the future of a company due to numerous unknown events. However, one thing we do know is that stock prices are influenced by the interaction of buyers and sellers, meaning there is always a disagreement on the price of a stock. The average holding period for stocks is constantly decreasing, indicating a short-term focus in the market. When it comes to news about the stock market, new trends, or significant economic events, it's important for major participants to pay attention and not just follow the crowd due to fear of missing out (FOMO). If they don't pay attention, their investors may withdraw their capital if the performance doesn't measure up to the benchmark or if investors believe their money would be better invested in other stocks that the fund doesn't hold. Short-term predictions are more common, while long-term views are less prevalent. Although predicting specific future details is challenging, it's easier to identify the direction of a trend, similar to how it's easier to determine if a person is overweight rather than their exact weight.
Comments