Investing Philosophy

I believe superior returns are derived from secular growth trends (mostly technological advances) and inflation; and that price action is driven not by growth or inflation per se, but rather by changes to growth and inflation expectations.

Below is a list of beliefs and underlying assumptions that drive On Island Asset Management's trading and, taken as a whole, have become our investing philosophy: 

On Risk Management

• I believe capital should be protected at all costs, where as paper profits should be given plenty of room to breathe. Open positions should be treated like children, free to roam and experiment as they please as long as they aren't becoming a nuisance. Think of your trading strategy and selection process as a child's upbringing. If raised on a good foundation, the position should be able to take care of itself without much need for intervention.  However, when a position begins behaving badly, it should be treated like a death row inmate, given a second chance only on spectacular behavior. If behavior fails to improve, it should be dropped from the portfolio without hesitation.
• I believe risk takes many more forms than most investors care to admit. The risks of over-diversification are just as severe as those of under-diversification. The risk of paradigm shifts (though rare) are enough to amplify the risk of finacial pricing and correlation models to an unacceptable level.  If you ever hear your money manager say "This isn't how things are supposed to happen" it's time to collect what's left of your money and run.
• I believe if you have no exit plan, you're either A) a fool who soon will be parted from his money, or B) wise enough to understand the risk of severe losses and have justified those losses against a well-stacked reward. But most of the time I believe you're a fool.
• I believe, through our own animalistic behaviors, that the market will always do its best to make us second guess ourselves, look like fools, and part us from our money. Knowing that the market is cunning and always out to get us is a major step towards becoming a successful investor.
• As Keynes said best, it is better to be roughly right than precisely wrong.  Precision can generate spectacular profits in "normal" markets, but precision has also taken down giants in the past, from tulip traders to LTCM to the world's financial markets in 2008-2009.  Aim to hit the target instead of the bullseye.  Fail-safe's, however crude they are compared to modern day financial and economic models, are required if there is to be any proper risk management against unpredictable events.

On What Drives The Market

• I believe stocks are driven by earnings over the long run and sentiment over the short term.
• I believe earnings growth is driven by real, tangible, secular business trends. I believe those earnings drive individual stock prices, which drive industries, which drive sectors, which drive the market as a whole. But equally as importantly, I believe sentiment drives the broader market, which drives sectors, which drive industries, which drive individual stocks. Top-down and bottom-up; looking at the market from either single perspective is failing to see the entire picture.
• I believe that markets are efficient, but only so far in that they efficiently price out the future through the perspective of current sentiment. As sentiment transitions from one state to another, discounting mechanisms are rightfully altered and along with them the new "efficient" prices.
  
• I believe it takes time for the market to fully appreciate and price in both positive and negative developments, though bursts of clarity (eg. big moves on big volume) are seen from time to time and present excellent trading opportunities.
• I believe momentum and sentiment trump growth and valuation, but liquidity trumps all.
• I believe sentiment is influenced by so many variables as to render tracking sentiment through a rigid and calculated approach worthless. Yes sentiment is extremely important, but no, sentiment does not and should not have to be analyzed and dissected with a microscope. Short term fluctations in sentiment are almost always noise and not signal. It takes a long time for the herd to change direction. The two most important sentimental-transitions to track are when things have been bad and are becoming less bad, and when things have been good and are becoming less good. In the former, be a bull. In the latter, be a bear.
• I believe the earnings multiple is the best reflection of current sentiment. The absolute level is important, but the longer-term direction the multiple is trending is far more so.

On Market Interpretation

• I believe much of what we see on a day to day basis is nothing but noise.  You must distance yourself from the market in order to differentiate the signal from the static.
• I believe volume is an excellent tool for deciphering signal from noise.

On Performance

• I believe absolute performance is the only kind of performance. Simply being better than the other guy is not an accomplishment.
• I believe there will always be another opportunity. Don't be afraid to let this one pass if something isn't quite right.
• I believe you should hold onto your winners and sell your losers, but you'll also never go broke taking a profit.  A balanced exit strategy is the only way to achieve consistent returns while leaving room for the rare grand slams.
• I believe discipline and consistency are equally as important as intelligence and trading strategy.
• I believe decisiveness and agility are advantages that should be employed within your portfolio.
• I believe stability is often an illusion. The more optimized a strategy is for current conditions, the less resilient and more risky it is over the longer term. A certain level of volatility is healthy and beneficial to the long term performance of the portfolio.