31 Jul Event-Driven Investing: An Introduction
Event-Driven Investing has always been in a niche by itself within the investing world – and in today’s markets the difference is even more pronounced. It requires not just a specific skill set; it’s an entirely different mindset to look at a company and assess whether a given event will transpire and what the impact will be.
The underlying theory of the market is that it is forward-looking. In other words, that stocks are priced today for where the market will be in the future. Event-Driven Investing turns this on its head: These types of investments are currently mis-priced because the market is discounting the future.
We find value through intensive, creative research. When we invest, it’s because we have conviction in our analysis. We don’t follow trends, or market moves, or economic moves, or what the Fed is doing. We don’t need to. We don’t limit ourselves by market capitalization, or sector, or geography or even where in the capital structure we invest. Our time horizon is however long it takes for our scenario to play out.
What is Event-Driven Investing?
The “event” could be anything that impacts the financial position of the company – a merger, an acquisition, a restructuring, litigation, etc. What makes the investment compelling is the existence of a catalyst – something that will create value and close the gap between the price we purchase a security and the true worth.
This sounds simple in theory, but the devil is definitely in the details. It takes a great deal of experience and expertise to pore through company financial reports and SEC filings and build up a complete picture of a company, to understand the event risk, and to develop a comprehensive investment scenario. Unlike traditional stock-picking, we aren’t looking at spreadsheets and trying to assess the future growth of a company. Instead, we are looking intently at the likely progress of the catalyst and what the impact will be on the value.
Our process includes meeting with company management and developing a sense of not only this company but the space they compete in. We also seek opportunities with multiple upside catalysts. We want to invest where there is not just one path forward that can create value. For us, investing is about real companies, with real assets and real revenues.
We’ve been consistently following this investment process for 23 years.
How does the strategy fit in a portfolio?
When we tell potential investors we do Event-Driven and Special Situations investing, they often think we must be a hedge fund. We’re not. Our investors are long-term with us, but not because they are locked up. We believe in creating value both through our investments and through the characteristics of the portfolio as a whole.
Low Entry Points: Lower Risk
The core tenant of the strategy is to find a deep value investment – our entry price is always low. We believe this keeps the level of risk in the portfolio lower. We also don’t tend to use hedging, as we feel it can create a false sense of security. If we’re not comfortable with the risk of a position, the easiest and most effective hedge is to not take the risk at all.
We view Diversification as a Crutch.
A stock portfolio of hundreds of stocks spread across asset classes may be diversified – but it’s not likely to successfully ride out a drop in markets. We believe that only intensive research at the company level that identifies a catalyst and a trajectory of return will create true non-correlation. The history of the strategy bears this out.
Because of the idiosyncratic nature of the investments – they are not tied to market moves but rather to the individual circumstances of the catalyst – the strategy offers low correlation with both stock and bond markets. It also exhibits lower volatility than equity markets. This can help to smooth portfolio returns.
In addition, the strategy is an all-weather investment that can perform across market cycles. While we may adapt to shifts in markets, we don’t change our investment thesis. We don’t need to rebalance or shift in and out of sectors or make changes to the portfolio based on economic events. We create a portfolio that is built for long-term investing.
These are the broad strokes of the investment philosophy. We’ll be going deeper into these topics, and also discussing our views on a broad range of things we are seeing in the markets as we move forward.