29-Nov-23 Equities

Quality: A potential stock picking guide

In theory, quality investing makes a lot of sense in an uncertain world. In practice, it takes a great deal of skill and effort.

“I have the simplest tastes,” Oscar Wilde declared. “I am always satisfied with the best.”[1] Many successful investors, such as the legendary Philip Fisher, tend to take a similar approach to picking quality stocks. At a time of geopolitical, economic and technological uncertainties, the idea of compounding return by investing into a proven winner is appealing.[2]

Of course, that leaves the problem of how to recognize “the best.” In identifying high-quality stocks, the traditional distinction has been in terms of metrics encompassing offensive and defensive characteristics. Offensive traits include durable growth, innovation leadership and management quality. Defensive strengths relate to a solid balance-sheet, financial flexibility and shareholder-oriented capital allocation. Especially over the last 30 years, new techniques have emerged to refine traditional measures of quality and value creation more precisely. These are constantly refined further, as : our understanding of equities is still in the making.[3]

Over the last ten years, quality has outperformed the broader market


Source: Bloomberg Finance L.P., DWS Investment GmbH as of 11/21/23

On the other hand, a company which delivered great returns for ages may all of the sudden struggle. “Nothing fails like success,” as the business scholar Richard Pascale has argued.[4]   Even the best-managed companies with a stellar track record, can become subject to what Clayton Christensen famously called "The Innovator's Dilemma.”[5] “In an age of disruption and fast-paced structural change, resiliency and adaptability are key quality criteria aside from hard financial metrics,” argues Sebastian Werner, Head of Growth Equities, Americas at DWS.

Adaptability includes undertaking investments even in uncertain times. Having the support of long-term-thinking and patient investors who understand the need to prepare for the next wave and see the potential of new opportunities early on helps. Resilience means risk-preparedness, operationally and financially as well as via diversification. Just as a good defense enables a good and effective offense, resilience is a precondition for adaptability, as it creates financial flexibility. In combination with continuous improvement, this can create a virtuous cycle, enabling market leaders to profitably grow further, independent of the macroeconomic circumstances.

Identifying such potential long-term value creators involves qualitative assessments of management, organizational flexibility and effective corporate culture. This takes a great deal of skill and effort. Conversely, the potential rewards from correctly identifying long-term winners have rarely seemed larger with so many unknowns lying ahead.

Find more themes here

29-Nov-23 Macro

Female Finance: the benefits of diversity

How and why we still need to do more to get more women into finance, encourage more women to invest and improve education about gender, diversity and finance.
29-Nov-23 Macro

Cryptocurrencies: the portfolio perspective

As a relatively young asset class, cryptocurrencies, in our view, could be a valuable portfolio addition in an uncertain (rather than just a risky) world
29-Nov-23 ESG

Electrification: The Innovator's Dilemma

Current plans for utilizing renewable energy as the most cost-effective solution to reduce greenhouse-gas emissions look set to shake up many established business models
29-Nov-23 Equities

India: Delivering on many promises

India’s structural strengths – demography and democracy – are well known. Business-friendly politics, a thriving service sector and geopolitics add to the positive picture.
29-Nov-23 ESG

Circular Economy: Squaring the circle

How moving towards a carbon-neutral and ecologically sustainable circular economy is not only natural but can also be profitable.
29-Nov-23 Fixed Income

Bonds – strong year ahead

After a historically long dry spell, 2024 could become a good year for bonds. A resurgence of inflation remains a risk, but the high carry provides some security cushion – especially for corporate bonds.
29-Nov-23 Equities

Asia Pacific: regional diversification

With its diverse strengths, Asia remains a global growth driver in our view. It is worth taking a look at the entire region, not least as a potential counterweight to the dominance of U.S. equities.
29-Nov-23 Alternatives

Real estate – time to enter?

Higher yields have proven to be a formidable headwind for both residential and commercial properties, but fundamentals have generally been stalwart.
29-Nov-23 Artificial Intelligence

Investing in the age of Artificial Intelligence

How (not) to identify the long-term beneficiaries of artificial intelligence (AI) and other types of disruptive technologies.

1. Day, B. (2000) “Oscar Wilde: A Life in Quotes Hardcover”, p. 88

2. Fisher, P. (2003 ed.) “Common Stocks and Uncommon Profits and Other Writings”, John Wiley & Sons, p. 113

3. Notably, this can be done by adjusting reported accounting figures in various ways to get clearer measures of capital invested and returns generated. See Curto, F. (2020), Valuing and Investing in Equities: CROCI: Cash Return on Capital Investment, Academic Press, esp. p. 21 and p. 183

4. Pascale, R. T. (199), “Managing On the Edge: How Successful Companies Use Conflict to Stay Ahead”, Penguin, p. 11

5. Clayton, M. Christensen (2011), “The Innovator's Dilemma: The Revolutionary Book That Will Change the Way You Do Business”, esp. part 1

CIO View