An Investment Strategy for All Markets

Most investment strategies aren’t based on long-term data or good theory. They work only at certain times. But those promoting the theories often don’t understand the limits and don’t convey the limits to the rest of investors. That’s why a good rule of thumb is that an investment strategy will stop working as soon as it is well-promoted and you start following it. I list a number of such theories in my book, Invest Like a Fox…Not Like a Hedgehog.

But there are some investments strategies that work most of the time and over the long term, though not every strategy works well all the time. Two strategies that work well most of the time are value and momentum. Read about the data and theory supporting it here.

The basic idea of value investing is to buy assets that are “cheap” — meaning that the market value or price is low relative to fundamental or intrinsic value — and sell those that are expensive. Simple measures of price-earnings ratios or price-to-book values seem to adequately capture this notion and have produced consistently positive returns, on average, for more than 80 years.

Similarly impressive are the average returns over the same period when one looks at data generated by momentum investing, which means buying stocks that have risen in price over the preceding six to 12 months, and selling those that have fallen.

The two strategies seem at odds with each other. While value investing buys cheap stocks and sells expensive ones, momentum strategies seem to do the opposite. How can they both generate positive returns on average?