Interview with Tim du Toit of Quant-Investing
- 3. 16/08/2016 Meet the investor that “really” beats the S&P 500
http://www.quantinvesting.com/blogs/general/2016/02/11/meettheinvestorthatreallybeatsthesp500 3/7
So we end up with a large spectrum from extreme deepvalue netnet guys to Price Earnings Growth (PEG)
ratio guys.
The cryptogrowth guys love to use PEG to put a value spin on an investment. For example, “Yeah it’s got a
P/E of 35x but analysts expect 40% growth”.
But what has history and research shown us? That is the basis of my philosophy. I don’t focus on hope but
evidence. And evidence shows that analysts’ high growth expectations fail and that the market prices in too
much growth.
As human beings it is easy to become emotionally involved and investors find themselves looking for ways to
convince themselves to buy or hold on to a stock.
So I needed a philosophy that took care of this problem. During my research I stumbled upon “What Works on
Wall Street”. In the book, James O’Shaughnessy shows the results from back testing different statistics and
combinations of them.
That inspired me to spend thousands of hours creating and back testing models.
My conclusion was that practically any model that has a value focus will beat the market. This can branch out
into a variety of combinations such as valuegrowth, valuedividends, etc.
So to find investment opportunities I use quantitative value models.
What I like about that is that it solves the problem of emotion. It’s either cheap, as given by the model or it isn’t.
There is no middle ground.
Furthermore, you know that the model is based on solid theory and logic and the back tested results provide
some emotional comfort.
I use variables that make logical sense and am leery of quantitative machine learning investing. Most of the
time, machine learning is a just a sophisticated method of curve fitting that sounds great when you are
marketing.
So as you may have understood, while I use investment models, but I do not believe in using them in an
automated way.
Obviously we have to correct for data errors, and believe me there are plenty that can occur.
I remember contacting Bloomberg because their output for a $35 billion US listed company gave the wrong
number of shares.
But as you know you can’t model everything away. So after generating a list of potential investments, from my
model, I conduct qualitative analysis.
I try to understand the story and the reason behind the stock’s cheapness.
- 6. 16/08/2016 Meet the investor that “really” beats the S&P 500
http://www.quantinvesting.com/blogs/general/2016/02/11/meettheinvestorthatreallybeatsthesp500 6/7
On risk management, I will take a directional bet on a sector via investing in more than one stock but at the
same time I will keep this percentage below 20%.
I did this with health care. I had positions in Anthem (exWellpoint), Humana, Aetna and some Cigna at one
point, but as the stocks went up I took profits and kept the overall sector weight at 15 to 17%.
Recently with the drop in oil and commodities, I went to underweight in stocks that were directly and indirectly
affected.
And while I believe in a concentrated portfolio, I do keep my largest holding at or below 10% to reduce potential
volatility and risk.
What is your view on the use of stoploss strategies?
Sophocles: Stop loss strategies are a must when holding short positions, because the loss is unlimited.
You see on the short side, I’m usually involved in some overvalued growth story and the stock can have a
fanatical following because of the belief in what the company could become.
The stop loss levels should be based on market activity rather than a random percentage.
On the long side I have a different view.
If the story has not changed then I will not exit a position, although I may reduce my investment based on
market activity.
You need to constantly monitor the story and try to understand what is going on.
Usually something is happening that pushes the stock down. It could be an earnings miss, a change in outlook,
or industrywide consequence.
Depending on what is happening you need to judge whether it justifies reducing or exiting the position or even
in some cases buying more.
What do you think of short selling?
Sophocles: Essential for surviving in weak markets.
I believe an investor can enhance returns by focusing on the long side in bull markets, however when markets
go down, the inclusion of shorts helps significantly.
My view is that you need to monitor both fundamentals and technicals to reach a conclusion on where the
market is, because an expensive market can always get more expensive and a cheap market cheaper.
Once both fundamentals and technicals turn bearish, a market neutral strategy should be considered.