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Blind equity investors must rely on relationships and guts in corona crisis


The economic devastation has made an absolute mockery of predicting corporate earnings and therefore, equity valuation. Companies have given up on providing forward guidance leaving equity investors in the strange position of having to pick stocks without the earnings estimates that they have come to depend upon. Undoubtedly, this makes their work harder but it will also mean they must add to their repertoire of techniques for analysing companies. Many will flounder but a few are bound to shine.

Around 114 S&P 500 companies have suspended guidance for the rest of the year, according to research from Bank of America, as have companies across Europe, giving investors little idea of what to expect for the rest of 2020 and removing their main means of trying to predict a stock’s future.

This should, however, not matter so much this year.

The coronavirus pandemic has made a mockery of trying to predict the immediate financial future.

It is right that investors are no longer able to home in on the company's own predictions of what lies in store for the next few months.

Instead, investors must assess which businesses in which sectors will have the best chance of surviving the crisis in what could be the largest hit to the global economy in a century. 

Warren Buffett’s decision to offload his airline exposure on Monday is an example of sort of gut decisions investors are going to have to start to make. Buffett had previously been critical of the industry but had slowly built up positions in various airlines nonetheless.

However, with the damage the pandemic is causing the industry obvious to all even without earnings estimates, Buffett took the decision to exit his positions at a loss, others followed on Monday.

Almost every company in the world is going to be affected by the pandemic and the global lockdowns which countries put in place to fight it.

Whether they survive the crisis will be down to fundamental factors like their sector’s exposure to the virus, its leverage levels and the ability of its management. Trimming a few percentage points off of different bits of the business here and there will make no difference.

Large, active investors, many of whom are shareholders across a number of portfolio companies should be in a position to thrive in this environment, with strong relationships with management teams and a long-term outlook on their holdings.

For these sorts of investors, the wave of primary capital raising, as seen recently in the UK, could be a great opportunity to buy into firms they know and like with managers they trust. 

It might sound primitive to have to ditch the complicated free cash flow models and all the other pseudo science behind company valuation. And it might sound downright backwards to have to rely upon what tales a silver tongued CEO might tell you for your investment rationale. But the models are redundant when the assumptions they are based upon are worthless (although plenty of analysts will tell you the problem lies with the data and not their beloved spreadsheets).

And after all, if all that modelling was so accurate, why were so many people still toiling away doing it? Should they not all have retired by now?

Without detailed forward looking numbers equity investors must go back to using all their wits, relationships and sometimes perhaps plain guts to decide what companies they will back to make it through the Covid-19 crisis. Active managers with a flexible, hollistic approach stand to thrive.

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