How to create An INVESTMENT THESIS ?

How to Write an investment Thesis?

(A written analysis that lays out The Case For Why a stock , Sector, Situation or Index Might Generate A compelling Return)

It’s a tool that’s not used by many but if you ask an experience and successful investor then they will tell you that an investment thesis is one of the most effective components of the investing practice that not only keeps them focused but also keep them intellectually honest and so in this video we should understand how anyone can create an investment thesis and use it smartly to become a better investor let’s begin investment thesis focuses on the wire that is why you believe that a particular investment will deliver an attractive return and asking so it acts as a guide to determine your next step now an investment thesis does not need to be long for it to be effective in fact the thesis just needs to contain the most important factors driving your decision to invest in a particular opportunity in effect there are only 5 steps or guiding principles to writing a thesis the first step is to determine an outline catalyst driving your investment thesis something like is there a trend turns showing up like what we are now seeing with electric vehicles or the commodity super cycle or are there societal changes like more companies using gig workers or hybrid working models to operate etcetera these trends and shifts can be regulatory social cultural environmental economic disruptive technological short term long term etcetera but remember at this stage you

 

If you are only looking at the big moving parts once we have a big play build out with then a sense how the investment or company is position within the catalyst this typically includes things like market sizing that is a particular industry worth pursuing the company standing with in the industry competitive advantages growth runways business segments up 5 potentials valuation does it align with your portfolio construction investment strategy etc. the output one looks for here are some key drivers and metrics which are a part of your wider analysis and projections in other words why does your investment look promising when allocating any form of capital towards this opportunity the 3rd step is to consider the biggest risks that the business faces these risks can be external ones like regulatory supply of raw materials logistical challenges competitors lawsuits recessions etc or it can be more internal such as too much leverage attrition of talent week execution skills poo allocation of capital compliance violations etcetera and while it’s good to jot down everything that could negatively impact disinvestment keep your focus on the top 3 risks when developing the thesis and the final step in the investment thesis creation process is to write down once expected return and the level of conviction you have in that investment to achieve that return assuming you are looking at multiple proposals the steps will help you select the investment that is likely to give you the highest risk adjusted return on a probabilistic basis so to put it all together creating an investment thesis is not very difficult if one follows these 4 steps in a sent it yes it does take time it requires a lot of reading but as the Spartan set centuries ago he who sweats more in training leads less in water but having said this here are a couple of useful tips which can make this task a lot easier and a lot more effective the first step is to not be very metric driven when developing the investment thesis what I mean by this is that there has to be a balance in terms of the strategic financial and operational parameters when developing the thesis or as the successful value investor Martin Whitman rightly concluded based on my own experience rarely do more than 3 or 4 variables really count everything else is noise

so keep the invest In pieces to 3 or 4 simple bullet points to extract the maximum benefit out of it a second trip to understand and imbibe is that the thesis creation process in itself isn’t iterative one which often gets incrementally improved overtime in that context I would suggest that once you are done with writing a thesis using the 4 steps we have discussed don’t be in a hurry to release it instead I recommend you keep it in your draw for a minimum of one week and use that time to talk to ex employees suppliers customers vendors etc. for different perspectives about the business which more often than not would enhance the quality of your original thesis

 Let’s walk through the investment pieces of a company we all know apple now this is just one people that I’m putting forward and as one can expect each of us can have a different point of view a different length of using the company and the factors surrounding first part of the research one would need to understand apples competitive landscape in strength weaknesses opportunities and threats one would need to analyse the financial statements talk to some ex employees vendors and customers identify the competitive advantages etc. now once we are armed with this information or whatever we can find it’s time to write down the main points on why one should buy the apple stock so simple by case investment thesis for apple me look something like this and while 7 points is a bit too much it does give us a clear idea on what makes apple the formidable brand it is why does it resonate with its users the growth that offers internal factors like its culture execution skills the product pipeline and of course the financial justification of it for the first time one looks at it these might seem like just words but within every point are some key actionable that you as an analyst will need to continue track for instance when tracking the strength of the brand but might want to examine things like the global ranking of the brand the growth and its market share the price elasticity demand and the impact that deals and discounts have on product sales so yes developing a good well rounded thesis does require some work and the more one Biggs in the higher are the chances of uncovering the major risks that the company faces which is also a key element of any investment thesis in fact one of the bigger advantages of researching reviewing tracking writing and referring back to the thesis is that it keeps an investor honest and his or her emotions at Bay than investing for example lets say some news comes in that Samsung is launching a new fancy smartphone next month what happens next is expected and there is absolute pandemonium in Cupertino California and on Wall Street where the apple stock drops by 20% there’s noise hear noise there people are even predicting the demise of apple but for a smart investor like you the real question will be is the investment thesis still intact if I expand that a bit the question is what impact is Samsung new smartphone likely to have on Apple’s brand power its ecosystem its growth its culture product cost etcetera to put it differently how likely is it that Samsung new phone will take a big bite of the apple and if your answer to that question from an investment thesis perspective is a resounding no then everything that’s going on around you is just noise and the more we develop the habit of constantly checking new information against our pieces the more will be learn how to effectively filter out the noise which can do wonders to an investment process on success

 Let’s take another example at this time let’s build an investment thesis around the cement sector and how one can use some parts of thesis to identify the right companies to invest in now on a macro basis we know a lot about the cement industry India is the world’s second largest producer and consumer of cement industry is positively correlated to our countries GDP it is expected to grow by 9 to 10% over the next 4 years its cyclical have seasonal demand etc. a lot of this will be somewhere in the thesis but the single point I want to focus on is this undifferentiated commodity product with low stickiness this phrase is another way of saying that the consumer or end user of cement is primarily concerned about one and only one thing and that is the price of cement now as expected the price of cement depends on its cost which effectively means that the lowest cost producer of cement is the one who decides the market price of cement so essentially cost competitiveness becomes a big part of the equation and will perhaps be the most important bullet point of your investment thesis in fact let’s go a little deeper into this now there are 3 main cost elements for the cement industry which individually comprise 20 to 30% of the total cost these 3 variables are the cost of raw materials the cost of power and fuel and the cost of transportation the first one the raw materials part is centred around line stone which means your ideal cement company should have a guaranteed access to limestone mines and which is probably why cement companies are clustered around limestone reserves the second cost element is power and cement companies depend on a lot of power for producing it which is needed in the manufacturing process now power generated from coal is cheaper than thermal wind or solar power which is why it is used most and why the price of cement is aligned to the cost of coal additionally cement plants that have a captive power generation unit have lower costs as capital power is a lot cheaper than grid electricity and the 3rd and final cost element revolves around transportation you see cement is a heavy commodity and to sell it at a place that far from the manufacturing sector Is never going to be a viable proposition which is probably why there is almost zero competition in this vector when it comes to imports and while the cement industry continues to innovate with clinkering grinding packaging etc the ideal maximum distance from plant to the consumption centre should be within 300 kilometres for the operation to be cost effective so there you have it the 3 essential aspects that demand a large share of the cement industry investment and if you were to transform this thesis into a stock selection criteria then what you are really looking for is a company that has the lowest cost of raw materials the lowest cost of power and the lowest transportation cost and with this we come to the end of this Article  I hope you 2 can see what I am seeing the construct of a well research investment thesis can hugely improve your investing decisions and make you a most successful investor unfortunately most people don’t do this because it’s hard work but if you’re keen on improving your skills.

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