What’s Behind the Science of Investing?

The phrase, that investing is both an art and a science, is commonly heard. I was never an artistic person and when I first started investing, it was a huge challenge for me to understand the “art” part of the game.

Fortunately, there’s a way for people (like myself) who are more inclined toward the numbers to have a solid and systematic approach to investing. Here’s all about the science of investing.

Theoretically, the artistic part about investing deals mostly with the qualitative aspects about a company. These things include the economics of the business, the quality of the management, the culture of the company, and maybe the future prospects of the firm.

On the other hand, the science bit is more about understanding easily quantifiable aspects of a company, like its past and present financial figures.

So, things like the firm’s current price to earnings ratio, price to book value, dividend yield, strength of its balance sheet, and the operating metrics of the business are areas to focus on if you’d want to approach investing in a more scientific manner.

What’s interesting here is that such an approach has been proven by many famous investors to be highly profitable. One of the most famous investors who utilised a very systematic and scientific method of investing would be the late Walter Schloss.

Schloss used to be a colleague of billionaire investor Warren Buffett when they were both working for the legendary investor Benjamin Graham. After Schloss left Graham’s firm and set up his own investment fund in 1955, he went on to amass a phenomenal track record: From 1955 to 2002 (he stopped managing money in 2003) Schloss achieved an average annual return of 16%.

For some perspective, every $1,000 invested in 1955 at a 16% annual return would have become $1 million by 2002; over the same timeframe, the same $1,000 that’s plonked into the US stock market would have turned into “only” $88,000.

Schloss achieved investing success by very systematically building his portfolio with companies that scored very well in most of the scientific factors I had described earlier. He would invest in shares of companies with low price to earnings and price to book ratios; he abhorred companies with lots of debt; and he would also focus on shares that paid solid dividends. And unlike his ex-colleague and good friend Buffett, Schloss wasn’t so particular about the quality of the businesses and management teams in the shares that he bought.

Although Buffett’s penchant for buying great companies at a fair price – a more art-based style of investing – has been widely discussed in the investing community, it should be noted that it’s certainly not the only way to invest successfully. As Schloss has shown, buying fair (maybe even lousy) companies at a great price – a more science-based approach  – can be just as profitable over the long term.

For those of us who struggle with the artistic aspect of investing, don’t despair. There is still hope.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Stanley Lim doesn’t own shares in any companies mentioned.