momentum investing

what it is

Momentum investing is a style, if one can call it that, of buying and selling securities based simply/solely on recent price momentum.  If a given stock is going up, buy some.  If it continues to rise, buy more.  If a stock begins to decline, sell it   …or, for very aggressive players, sell it short.  No fundamental data counts.

Day traders and very short-term-oriented algorithmic players are the main people who use this simple buy-if-they’re-going -up, sell-if-they’re-going-down rule.  In my career, I’m only aware of two “professional” investment groups who have practiced momentum investing as their main strategy:  Wood Mackenzie trading oil stocks in the early 1980s, Janus trading tech stocks in the late 1990s.  The former was an almost immediate disaster; the latter had a surprisingly long period of success before going down in spectacular flames.

recent use

The term has come into recent vogue in the financial press as a description of growth investing.

It isn’t one, although it may reflect the jaundiced view a few (narrow-minded, in my view) value investors have of their growth colleagues.

To be clear, growth investors try to make money by finding companies that are expanding faster than the consensus expects.  This is not momentum investing.  Nor is the style of value investing that requires that a company not only be bargain-basement cheap but that there be a catalyst (reflected in positive price momentum) for change before buying.

why write about this?

A few days ago, a regular reader, Small Ivy, characterized my speculative dabbling in Tesla as momentum investing.  Maybe so, maybe not.  More tomorrow.


Snap (SNAP) non-voting shares (iii)

forms of capital

Traditional financial theory separates a company’s long-term capital into two types:

–debt capital.  This is money the firm has borrowed, either through bank loans or company-issued bonds.  Creditors may have influence over company operations through restrictions spelled out in the loan documents, called covenants.  They generally specify measures to accelerate loan repayment that the company must take if it fails to meet stipulated profit or cash flow measures.  (An example:  the firm may be forced to devote all cash flow to loan repayment if profits decline sharply.  Money can’t be spent on things like capital improvements or dividends unless creditors give the ok.)

–equity capital.  Equity means ownership.  Common stock ownership is typically established by the means equity owners have to assert/protect their interests–usually the ability to vote on appointment of members of the firm’s board of directors.  The board, in turn, hires and evaluates management.

Some companies may also issue preferred stock.   Preferreds qualify for their name because they have some advantage, or preference, over common.  The typical preferences are: higher/more secured dividend payment; and/or priority over common equity in liquidation proceedings.  On the other hand, preferreds typically either have restricted/no voting rights.  In the US, preferreds, despite the equity in their name, typically trade as if they were a form of corporate debt.

SNAP non-voting shares

Where do the SNAP shares fit in this scheme?

They’re clearly not debt    …but are they equity?

They are certainly not traditional equity.  They have no ability to exercise any influence on company operations, and certainly no way to replace an underperforming board of directors.  On the other hand, they don’t appear to have any of the greater security of preferreds.  In fact, they seem to be a hybrid that combines the riskier features of both.

The closest I can come, in my past experience, to US non-voting shares like SNAP’s (or Google’s for that matter) are Korean preferreds and Italian certificates of participation.  In both cases, they traded well in up markets but underperformed very signficantly during market declines.


Snap (SNAP): non-voting shares (ii)

Two potentially important issues arise with non-voting shares.  The underwriters and prospective investors in SNAP are clearly not worried about them.  Granted, they’re unlikely to emerge as actual issues in the near future, but here they are:

–value investors often buy shares in companies they believe are undervalued by virtue of  having bad management.  Their rationale is that management will change in one of several ways:  existing managers will learn from past mistakes and improve;  the board of directors will replace existing managers with better ones; shareholders will vote out current directors and replace them with better ones; the company will be taken over by a third party, which will toss out the incumbents and replace all of them with more competent individuals.

In the case of SNAP, management, the board and the voting shareholders are basically one and the same.  The likelihood of them firing themselves is pretty small.  And the chances of a hostile takeover are zero.  So the value investor argument for eventually buying SNAP shares that there’s a level below which they can’t go without triggering change of control doesn’t apply here.  So if things turn south with SNAP, the chances of rescue are small.

The results of this situation are plain to see in the Japanese stock market, where disenfranchised shareholders have had to watch their investment in family-owned company shares lie dormant for decades.

–change of control can happen voluntarily.  But does an acquirer have to buy non-voting shares in order to take the reins?  I don’t know.  But I don’t think the answer is clearly “Yes.”  Say Amazon decided to bid for the voting shares of SNAP at double the price of the publicly traded, non-voting ones.  AMZN could presumably then replace management and the board of directors and guide the company in any direction it chose–without buying a single non-voting share.  If this were to happen, my guess is that non-voting shares would plunge in value.  Years of expensive legal wrangling  would decide the issue one way or the other.

A third musing:   Can SNAP declare dividends for voting shares but not for non-voting?  The answer should be in the prospectus, which I haven’t read carefully enough to have found out.  But then I’m not interested in taking part in the IPO.

the issue of Snap’s non-voting shares

A time-honored strategy for entrepreneurial individuals or families to maintain control over their enterprises is to issue two classes of stock.  One will be held by the entrepreneurs, the other by the investing public.  Shares of the former type will typically have a high multiple, say 10x, the voting power of the latter.  If the number is 10x, the entrepreneurs will still control a majority of the votes even if they hold only 10% of the outstanding shares.

Hershey shares are like this.  So, too, the New York Times, News Corp, Facebook and Google.

A variant on this idea, often used outside the US, is to list and issue to the public only preferred stock, not common.  Preferreds vary.  They derive their name from the fact they have some “preference” or other over common (which are also sometimes called ordinary). It may be a higher dividend.  Most usually in the US, preferreds simply have a place in line in the case of bankruptcy in back of all creditors but just ahead of common stockholders–which, to my mind, is as small a preference as you can get.

Snap (ticker: SNAP), the parent of Snapchat, is taking this idea one step farther.  It currently has two classes of stock:  Class C which has 10 votes per share and which the company’s founders hold; and Class B that has one vote per share and which is held by key employees and venture capital investors.  Snap intends to go public by issuing Class A shares that have no voting power at all.  Third party investors will have to accept the fact from Day 1 that they will never be able to wrest control of Snap from its insiders.


–Will investors stand for this?

–Are the A shares really stock?   …or are they a funny kind of option?

–What does this say about value investing in the 21st century?

The answer to the first question is apparently “Yes!!!”


More tomorrow.




reading financial newspapers

When I began working as a securities analyst, I noticed that my more experienced colleagues–and especially the most accomplished–had a peculiar reading habit.  They might glance over the front-page headlines and skim the articles.  But they spent most of their time in the back half of the paper, studying smaller pieces about more obscure economic developments or about small-cap companies.

Why do so?

reading back to front

Their idea, which I quickly adopted, was that the headlines dealt with well-known topics, whose importance was most likely already fully factored into stock prices.  The most important thing for an analyst, on the other hand, is to uncover information that is not yet discounted.  That means, of course, going beyond newspaper coverage.  But as far as the newspaper as a source of new ideas is concerned, it means reading the back half much more carefully than the front.

I, too, soon began reading the paper from back to front.


In the online world, that’s hard to do, for two reasons:

–during the day, stories are constantly being rearranged, with the most-read (arguably the least valuable for us as investors) being pushed forward to the beginning pages and the least read gradually fading further and further back.  In addition,

–there’s no easy way to jump to the back of the queue, where the potentially financially valuable news should be increasingly piling up.

physical paper vs. online

The easiest way I’ve found to deal with the problem of online curation is to read the physical paper instead.  However, that isn’t always possible.  Luckily, if you hunt around on major newspaper websites, you can find an option that lets you read the news in the form the original editors laid it out for the physical paper, that is, without curation.  To my mind, that’s not as good as jumping directly into the stuff few people are paying attention to.  But it’s better than having to wade through the larger piles of non-investable stuff that the online edition creates as a “service” to us.