Richard Beddard considers why analysing a company’s fundamentals is much more important than obsessing about the level of indices.
I experienced one of those “Aha!” moments last Saturday, when I was reading an interview with novelist and author Matt Haig in the money section of The Times. Asked whether he invests in shares, he replied: “No. Too many numbers and indices. It seems a dull hobby and an inexact pseudoscience, like astrology. It’s like gambling without the stigma.”
Wow. Talk about making every word count. Those three short sentences triggered a cascade of memories, conversations with friends who have also inadvertently dismissed my life’s work in very similar terms. This, I thought, is the attitude I must combat – not just in other people, but should I stray towards numerology and pseudo-science myself.
First of all, numbers. Indices are heinous, I agree, but we don’t have to take any notice of them. Until a moment ago I could not have told you the level of the FTSE 100 index, but I thought it would be fun to guess and parade my ignorance about our premier index, the one you hear quoted on the Today programme and the news, and in the headlines every day. I guessed 6000. Actually, at this precise time it is 7038.
Excessive worrying about how investments are performing
But, I hear the cries, if we do not know how the index is doing, what can we compare our investments to? I think many investors spend far too long worrying about how investments are performing, and nowhere near enough time understanding what they are invested in. Maybe once every five or 10 years we should compare our performance to an index.
There are other kinds of number that are very important, though, and those are the numbers that account for the profits and losses of businesses and how they are financed. Accounting has a dull reputation, which is probably why people focus on the thrills and spills of share prices and indices. But I do not think accounting deserves its reputation. It is the language of business, and through it we can better understand the wealth firms create and the frauds they perpetrate.
That doesn’t mean we have to pore over every number, however. Some numbers tell us more than others. For the kind of stalwart companies I study, we often need to know little more than return on capital, debt and cash flow (preferably both over a long period) to help us judge the quality of the business. After that it is the words – working out how the company makes money, why it should make more and what might go wrong – that are important, and our own observations of the business.
There is a broader perspective too. Companies and sole traders are the engines of capitalism. As shareholders, we get a little more insight into a machine that finances most of our lives and – should we choose to hold to account the managers of the businesses in which we own shares – a slightly greater say in how it works.
Not a science
Investing is not scientific, so it should not be dressed up as science. Most of the worthwhile things we do cannot be done with scientific precision, from writing a novel to bringing up a family. Investing requires judgement and when we make judgements we err, so the onus is on investors to be as diligent, honest and thoughtful as we can be.
I am thinking about all this because New Year is approaching. I am looking back and wondering what I can do better in the year ahead. The challenge inadvertently issued by Matt Haig’s answer has girded me. In 2019, I will focus more adamantly on the numbers that matter, get closer to the truth about businesses and what makes them special, and in the process, I hope, demonstrate that investing in shares can be fascinating.
Of the four companies profiled in Share Watch this month, one, Finsbury Food, is already a member of the Share Sleuth portfolio.
An explanation of Share Sleuth’s investment philosophy and past monthly blogs are available here.