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Tuesday, July 11, 2006
A Refreshing Look at Market Performance
Expectations Investing
By Alfred Rappaport and Michael J. Mauboussin
Harvard Business School Press (September 2001)
ISBN: 1578512522
Rating – 5 stars
There is no question stock prices climb and fall based on
investors’ current perceptions of their future performance.
Identify an error in those perceptions; you, as an
investor, have uncovered a catapult to superior performance. In Expectations
Investing, Alfred Rappaport and Michael J. Mauboussin argue current stock prices
express investors’ collective expectations. A change in those expectations
lies at the heart of investment success.
This is a tall task. Approximately 75 per cent of all
active investors deliver returns below those posted by passive index funds. The
authors argue poor performance is built on a foundation of poor tool selection,
high costs, and short-term vision and style limitations.
They argue investment performance can be improved by
following three simple steps:
1. Estimate Price-Implied Expectations. Forget
earnings and cash-flow estimates. Long-term discounted cash-flow models market
performance.
2. Identify Opportunities. Expectation changes
lead to changes in market evaluations. Whether you are looking at innovative
technology or value, developed or developing markets, new or old economies,
these principles are universal.
3. Develop a Disciplined Buy, Hold or Sell
Strategy.
The ramifications of this discipline are they remove three
misconceptions from investment thinking:
1. The market is short-term.
2. Earnings per share dictate value.
3. Price-earnings ratios determine value.
This well-written and thought provoking book harnesses the
market power of discounted cash flow without requiring difficult and dubious
long-term forecasts. It helps the serious investor develop a theory of where he
or she is headed, why and more important, the courage to ignore advice that has
nothing to do with underlying value.
Penned by the Pointed Pundit
July 11th, 2006
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