Richard Driehaus is widely regarded within the investment industry as an expert in the specialty of
He founded Driehaus Securities Corporation in 1979, followed by Driehaus Capital Management, Inc. in 1982. He is the architect of the firm's investment philosophy and is primarily responsible for all domestic portfolio management and investment analysis within the firm.
In early 2000, Mr. Driehaus was named in Barron's "All-Century" team of the 25 individuals who have been the most influential within the mutual fund industry over the past 100
Paradigms are beliefs that most people have. Unfortunately, they are often
and really no longer true, yet people tend to hold on to these paradigms. In fact, they search for evidence to support them and reject information that conflicts with their beliefs.
Mistaken Paradigm 1: 'Buy low and sell high.'
Perhaps the best known investment paradigm is 'buy low, sell high'. I believe that more money can be made by buying high and selling at even higher prices. I try to buy stocks that have already had good price moves, that are often making new highs and that have positive relative strength. These are stocks that are in demand by other investors.
What is the risk? Obviously, the risk is that I'm buying near the top. But, I would much rather be invested in a stock that is increasing in price and take the risk that it may begin to decline than invest in a stock that is already in a decline and try to guess when it will
Mistaken Paradigm 2: 'Just buy stocks of good companies and hold onto them.'
Another mistaken belief: 'just buy stocks of good companies and hold on to them; that way you don't have to pay close daily attention.' I would say: 'buy good stocks of good companies and hold on to them until there are unfavorable changes.' Closely monitor daily events because this will provide the first clues to long-
change. Remember, just as the business value does not equal the stock price, things are always changing, and
's good company may not be today's great investment.
Mistaken Paradigm 3: 'Don't try to hit home runs; you make money
a lot of
more. I believe you can make the most money hitting home runs. But, you also need a discipline to avoid striking out. That is my sell discipline. I try to cut my losses and let my winners run. Perhaps that's a paradigm too, but it is one that works.
Mistaken Paradigm 4: 'A high
strategy is risky.'
Most people believe high turnover is risky. I think just the
. High turnover reduces risk when it is the result of taking a series of small losses in order to avoid larger losses. I don't hold on to stocks with deteriorating fundamentals or price patterns. For me, this kind of turnover makes sense. It
Mistaken Paradigm 5: 'An investment process must be very systematic.'
Many people believe an investment process needs to be rigidly systematic. I believe a good process involves discipline, but must be flexible enough to respond to changing market conditions. Let me give you an example:
At the end of November 1991, the Dow Jones Industrial Average was trading at 2895 and the market's price to earnings ratio was 23. The price-to-book ratio was a lofty 2.7 and the market's yield was only 2.8%. A rigid, systematic value-based process would have told you to get out of the market with at least a portion of your assets. After all, the market was higher relative to those valuation measures than it had been 90% of the time, on a historical basis.
But, I believed that there were other relevant factors that suggested the market could go much higher. This was not a time to rigidly
to valuation disciplines. People who stayed fully invested benefited. From that time, through January, 2000, the Dow Jones Industrial Average quadrupled.
Don't invest because of what you think should be happening. Invest because of what is happening.
Mistaken Paradigm 6: 'You must have a value-based process.'
Often when I talk to
, they like to see a very systematic, value-based process. They think that each stock has to be submitted to some type of disciplined, precise and uniform evaluation. But the real world is not that precise. I'm convinced that there is no universal valuation method. In fact, in the short run, valuation is not the key factor. Each company's stock price is unique to its place in the market environment and to its own phase in its corporate development.
Mistaken Paradigm 7: 'The best measure of investment risk is the standard deviation of return.'
Another paradigm and one that I deal with frequently is that 'the best measure of investment risk is the standard deviation of return'. In other words, volatility. But volatility only measures risk over the short-term yet a long-term perspective is far more important. For most investors, a major long-term risk is portfolio underperformance due to insufficient exposure to high returning, more volatile assets. In my opinion, investment vehicles that provide the least short-term volatility often embody the greatest long-term risk.
Mistaken Paradigm 8: 'It's risky to place your money with a 'star system' manager.'
I disagree! In any industry, performance is achieved by the stars. Working with a diversified
of investment management stars is probably the safest way to invest. Great ideas,
and works of art have always been created by individuals, not groups or
. This is also true in the investment business: good long-term results have been achieved by talented individuals.