Investment styles: Five families, five logics

There are a thousand ways to pick shares. But most fall into five big families, called styles.

Value, growth, momentum, quality, low volatility. Each has its logic, its good years, and its lean spells.

Value first. The idea: buy a company for less than it is really worth.

Its father was Benjamin Graham. He spoke of a margin of safety: the gap between the price paid and the estimated value.

Say a share you value at one hundred euros. It trades at seventy. Your margin of safety is thirty per cent.

The trap: a share can be cheap because it deserves to be. That is called a value trap.

Growth does the opposite. It accepts paying a lot for a company whose profits grow fast.

For the example: a share at one hundred euros, earning two euros a year. You pay fifty times its profit.

If that profit grows twenty-five per cent a year for five years, it passes six euros. Yesterday's price then looks reasonable.

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But if growth slows, the fall is brutal. The market rarely forgives a broken promise.

Third style, momentum. What has risen in recent months tends to keep rising, for a while.

Researchers measured it in the nineties, over decades of data. The effect exists, but it sometimes reverses violently.

Fourth style, quality. Solid margins, little debt, steady profits. Companies that sleep well.

They are rarely cheap. But they have often held up better during crises.

Last style, low volatility. And it is the most surprising of the five.

Theory says: less risk, less return. Yet over long periods, the calmest shares have earned as much as the jumpy ones, or more.

It is the most stubborn anomaly in markets. One possible explanation: many investors prefer lottery tickets.

And losses weigh more than gains. Minus fifty per cent, then plus fifty: out of one hundred euros, seventy-five are left.

Minus ten, then plus ten: ninety-nine are left. Roller coasters cost a lot along the way.

No style always wins. Value, for example, disappointed for much of the twenty-tens.

Whoever jumps from one style to another often arrives just after the party. He buys yesterday's glory and sells tomorrow's rebound.

That is why a broad index contains a bit of every style at once. It never wins the race, but never loses it alone.

If you choose a style, choose it for its logic. And hold it long enough to get through its bad years.