In chapter 8 of The Mindless Investor, the spotlight is on a popular approach to investing – fundamental analysis and why, according to Tyler Bollhorn, it is an inefficient approach for most small investors/traders to take when evaluating opportunities to invest in. The apparent popularity of fundamental analysis might not be driven by whether or not it works, but rather because it has been around for a long time.
Key Point #1: Fundamental Research is Expensive
An often heard phrase is that investors need to “do their homework”. When it comes to fundamental analysis, however, that homework can be both extensive and expensive. Large investors have the means and the motivation to pick through financial report after financial report, contact management and conduct extensive due diligence before considering where to park millions of dollars. For smaller investors who don’t have the same scale of resources, conducting extensive and in-depth fundamental analysis might not be the most efficient or effective approach.
Key Point #2: Fundamental Analysis is Recommended Because it isn’t New
The financial industry, in spite of all the risks it takes, strives to mitigate risk. The risk of getting sued for being innovative is easy to mitigate if you simply go with the status quo. According to The Mindless Investor, the financial industry continues to push fundamental analysis because nobody questions the “conventional wisdom” of fundamental analysis.
Key Point #3: Even Fundamental Analysis gets it Wrong
Even with all the data crunching that fundamental analysis entails, it can still lead to mistakes and bad decisions. While the future is uncertain for all participants, seeking comfort in numbers can sometimes lead to a false sense of security. The approach The Mindless Investor favours is to not let fundamental analysis obscure investors from paying attention to the market’s message. Because fundamental analysis involves such extensive research, those who do it not only invest in a company but also invest in their research process, something that can make letting go of a bad stock difficult even though the market is telling you to do so.