SALecture3Fall20242024September17

Lecture Overview

• Framework for Security Analysis

  • Focus on where and how to search for investment opportunities.

Stock Market Prediction

• Definition: Trying to determine the future value of company stocks or financial instruments.

• Three Popular Approaches:

  • Fundamental Analysis:

    • Company value determined by future profits discounted to present value.

    • Long-term strategy based on public information such as financial statements and economic metrics.

    • Includes ex-post (after-the-fact) vs ex-ante (before-the-fact) analysis.

Intrinsic or Fundamental Value

• Methodology: Extends fundamental analysis.

  • Combines financial statements with intangible factors not reflected on those statements.

  • Present value calculated by summing discounted future income from all assets.

  • Assumption that some resources and capabilities are tacit.

Technical Analysis

• Approach: Focuses on historical price trends rather than company fundamentals.

  • Assumes all significant information is already priced into stocks, and price history tends to repeat due to market psychology.

  • More suited for short-term strategies, common in commodities and forex markets.

Efficient Market Hypothesis (EMH)

• Concept: Stock prices reflect all available information and rational expectations almost immediately when new info is revealed.

  • Changes in stock prices react to new information, but can also result from general market changes or random movements.

  • Conditions for EMH:

    • No transaction costs.

    • Information is freely available to all participants.

    • Uniform interpretation of information by all.

Random Walk Theory

• Statement: Future price movements of securities are unpredictable and do not rely on past prices.

  • Neither fundamental nor technical analysis produce superior results.

  • Prices incorporate new and random information quickly.

Arbitrage Pricing Theory

• Critique: Markets can be inefficient at times, with securities mispriced, leading to arbitrage opportunities.

  • Exploited using multi-factor macroeconomic models.

Strategic Surprises and Discontinuities

• Context: 1970s characterized by discontinuities, challenging corporate planning.

  • Traditional models fail to predict environmental changes leading to strategic surprises.

Typology of Companies and Risk Profiles

• Established Companies: Future profits modeled using financial statements.

• Start-ups: Difficult to predict, requires alternative evaluation methods like option pricing.

Ansoff Growth Matrix**

• Categories:

  • Market Penetration: Increase market share in existing markets (Low Risk).

  • Product Development: Extend existing products (Medium Risk).

  • Market Development: Find new markets for existing products (Medium Risk).

  • Diversification: New product lines in new markets (High Risk).

Start-Ups and Market Capture

• Key Focus: Ability to create and capture market value.

  • Examples:

    • Fage and Chobani in yogurt.

    • Ford's success with the Model T.

    • Tesla's market potential.

On-Demand Business Logic

• Definition: Companies that leverage existing resources rather than owning assets.

  • Examples include Uber, Facebook, Alibaba.

Business Model Competition

• Issues:

  • Price wars lead to low customer loyalty and undifferentiated services.

Impact of Autonomous Vehicle Technologies

• Transformation: Businesses like Uber pivot to potentially outdated models if they become fleet owners instead of service providers.

Investment Opportunity Search**

• Approaches:

  • Top-Down: Analyze trends to find profit opportunities.

  • Bottom-Up: Identify companies with sustainable competitive advantages.

PEST Analysis for Investment Assessment

• Components:

  • Political: Monopolies, legislation, government stability.

  • Economic: GDP trends, interest rates, inflation.

  • Sociocultural: Demographics, income distribution, lifestyle changes.

  • Technological: Speed of tech transfer, innovation rates.

Political Context for Investments

• Polities create business contexts affecting risks and costs of pursuing opportunities.

Economic Dynamics and Asset Prices

• Economic growth impacts asset prices, GDP growth, unemployment, and inflation.

Behavioral Economics in Expansions

• Expansions can influence inflation and interest rates differently based on demand vs supply-side triggers.

The Effect of Demographics on Investment

• Normal population pyramids are bullish for stocks; abnormal shapes can hurt economic growth.

Creative Destruction Theory

• Model by Joseph Schumpeter: Innovations create cycles of winners and losers.

Evaluating Competitive Advantages

• Check for sustainable competitive advantages to ensure long-term profitability.

Measuring Sustained Profitability

• Tools: Economic Value Added (EVA) and investment returns relative to market rates.

Conclusion**

• Key Strategy: Identify promising industries and sustainable companies with competitive advantages through in-depth analysis and valuation.