How Performance Reviews Can Kill Your Culture

READING TIME: 4 MINUTES

If you ask people what’s wrong with corporate workplaces, it won’t take long before you hear someone mention something about being put into a performance bucket. The A bucket is for the best, and the C bucket is for the underperformers. The middle and most common bucket is B, as it spares the supervisor from having to justify why an individual is exceptional or on the verge of getting fired. The problem is that ranking someone against their peers is not the ranking that matters and is counterproductive in terms of building an exceptional corporate culture.

People hate performance reviews. And why wouldn’t they? You either come up short against the superstars, walk away being told to keep doing what you’re doing, or leave feeling like your days are numbered. In this common construct, no one is getting the information they need to properly grow, and a toxic competitive situation is created within the organization. Forced comparisons against others don’t accomplish what we want from them. We think it inspires people. It often makes them dislike each other.

The problem is the system.

The goal of performance reviews is ostensibly to help people become better, but forced ranking has two serious flaws. First, it doesn’t take account of individual rates of improvement. We’re all starting from different places, and we’re also all improving at different rates. If you always come up short, no matter how hard you try, eventually you can’t be bothered putting in the effort to get better.

The second, more important, argument is that forced rankings create a toxic environment that rewards poor behavior. When you’re pitted against your coworkers, you start to game the system. You don’t need to improve at all to get into the A bucket, you just need to make the others look bad. The success of one person means the failure of another. How likeable are you? How good are you at whispering and gossip? How big is your Christmas present to your boss? You can end up cutting others down to stand out as a star performer. But undermining the success of your coworkers ultimately means undermining the success of the entire organization.

Margaret Heffernan, author and former CEO, explained on The Knowledge Project how the relationship between coworkers is fundamental to the function of an organization:

“…the whole premise of organizational life is that together you can do more than you can do in isolation, but that only works if people are connected to each other. It only really works if they trust each other and help each other. That isn’t automatic. … You’re only really going to get the value out of organizational life to the degree that people begin to feel safe with each other, to trust each other, to want to help each other…What impedes the flow is distrust, rivalry, or not knowing what other people need.”

Most of us inevitably compare ourselves to others at some point. Chronic comparing though leads to misery. What matters is not what we do compared to what someone else does, it’s what we do compared to what we’re capable of doing. Both as individuals and in organizations, we need to pay attention to this gap—the gap between where we are right now and what we’re capable of.

Internal motivation is easier to sustain. We produce and push ourselves because we get this immense satisfaction from what we are doing, which motivates us to keep doing it. It doesn’t work the same way when your motivation comes in the form of external comparisons.

So what do we do instead?

If you must grade performances, do it against the past. Is she learning? Is he improving? How can we increase the rate of progress and development? Empower people to help and learn from each other. The range of skills in an organization is often an untapped resource.

Organizations today are often grappling with significant corporate culture issues. It can be the one thing that differentiates you from your competitors. Comparing people against their past selves instead of each other is one of the most effective ways to build a culture in which everyone wants to give their best.

The Anatomy of a Great Decision

READING TIME: 7 MINUTES

Making better decisions is one of the best skills we can develop. Good decisions save time, money, and stress. Here, we break down what makes a good decision and what we can do to improve our decision-making processes.

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Improving our decision-making abilities is a central goal of everyone. Better decisions save time, money, and stress. While it’s an investment now, in the long run, learning principles and developing a multidisciplinary lens that we can apply throughout life is a worthy investment.

As we have said before, a decision should not be judged solely on its outcome. Sometimes good decisions produce bad results. A recruiting process that has resulted in mostly excellent candidates will still occasionally fail to weed out a bad fit. It is impossible to have perfect and complete information for all the variables involved. So we do the best with what we have.

Using a decision journal can move us to that place where we are consistently making better decisions. At its core, the technique of identifying and reflecting on process from beginning to end helps us achieve the two main qualities in better decisions:

1. Using principles, not tactics
2. Looking at a situation through a multidisciplinary lens

These qualities are what we need to improve over time. And in the same way compounding interest increases our bank balance, better decisions produce exponentially better results the more of them we make. Hard decisions today, made well, prepare us to make decisions more easily in the future.

When we look around, however, to see what we can learn from others who made great decisions, we often judge based solely on the outcomes. Whether a decision by a family member to buy Coca-Cola stock in the ’80s, or Caesar to cross the Rubicon, we evaluate a decision as good based on how things turned out.

Evaluating decisions on outcomes prevents us from learning. We need to dive into a decision, cut it open and examine its parts. Regardless of what happened, learning how a decision was made is the place to find knowledge. So what does the anatomy of a great decision look like?

The Marshall Plan

After WWII, Europe was in ruins. Much of the infrastructure had been destroyed. Many people were starving, and had lost everything they possessed. Those systems we take for granted, but on which we rely daily—transportation, manufacturing, agriculture—had been devastated. The economies were essentially broken, and the countries that saw a lot of fighting had much to rebuild. But with what money? Many countries were in serious debt. Continued, widespread economic hardships were on the horizon.

In 1947, Secretary of State General George Marshall put forward a plan that has since carried his name, a plan to give a massive amount of money to several European nations. Those countries accepted, the continent was rebuilt, and Marshall is credited with one of the most positive defining acts of economics, politics, and ethics in the last century. But when you look at the thinking that went into the Marshall Plan, the reasoning behind the details, you see that it would have been a great decision regardless of the outcome.

Asking the Right Questions

At the beginning, participants asked questions. What do we want to achieve? What problems are we addressing? What does a successful outcome look like?

From there came the principles, things like: strong economies minimize social unrest; countries that work toward mutual goals are less likely to fight each other; let’s not have another war in Europe anytime soon.

Starting from these principles, decision makers evaluated the situation through a multidisciplinary lens. Economics, politics, humanitarian responsibilities, historical and psychological factors—the plan sought to address issues on many fronts and took a wide perspective into account.

The plan was developed in the State Department of the United States. It was not the work of a single individual, and contributions from many people made it into the final version that Marshall fought for in Congress.

In the end, there were three key decisions made in terms of the structure of the plan:

1. To give, versus lend, the majority of the aid
2. To require the nations receiving the aid to work out how to allocate it
3. To invite Russia to partake

Using Multiple Lenses

The decision to give rather than lend the majority of the aid was the result of looking at the situation through economic, political, and humanitarian lenses. It was also a win-win.

Immediately following the war, the European nations had put significant effort into restarting their economies. But they were doing it with borrowed dollars, needing to import far more than they were capable of exporting. Many economies needed modernization, which was impossible to fund while paying for imports at the same time. Without full economic recovery in Europe, there was great danger of a recession, or even a second depression. Basically, Europe needed money.

But economies are also about people. It is people who produce and consume and develop the economy. So it wasn’t just the countries that needed financial assistance, but the people in them. The designers of the plan knew that hungry, desperate people would only create more social unrest. They saw that if they didn’t give the money to Europe they might very well have to spend it on national security as Europe fell apart.

And we can’t discount the impact of the physical reality of the aftermath of the war that the liberating forces confronted—starving people, towns reduced to rubble. The case for humanitarian assistance was strong.

Letting the World Do the Work For You

The decision to have the participating nations allocate the aid among themselves was the answer to what the historical, political and psychological lenses revealed.

Many people felt that the approach to reparations after WWI was a significant impetus for WWII. The First World War had a similar effect on the economies and infrastructures of the nations involved. In 1918, angry at Germany, France and Britain had demanded huge sums of money. The problem was, it essentially crippled Germany economically, and caused a social and political situation that created enmity among the European nations. Many argue that it was this series of events that produced a situation in which Hitler could come to power.

The creators of the Marshall Plan were aware of this, and it was one of the elements that influenced the design of the terms. If Germany collapsed again, they might be fighting World War III in twenty years.

By asking enemies to work together and approve each other’s share, the plan created a buy-in that defused much of the anger and animosity between the nations. Just a couple of years earlier they had been at war with each other. After sacrificing so much in both lives and money, it was natural that the various peoples were angry over both who started the war, and the many violent and destructive events that were enacted over those six years.

But the US decided to not take sides and extend the alliances of the war. The plan creators realized this wouldn’t help fulfill the principles they had chosen to abide by. Europe working meant Europe working together.

Outcomes Over Optics

Inviting Russia to share in the aid was another important result of applying those political, historical, psychological, and humanitarian lenses.

The end of WWII marked the beginning of the Cold War. More nebulous by nature, starting a couple of years after the liberation of Europe and the dropping of the atomic bomb, this political climate would shape international relations for the next 40 years. The Marshall Plan took into account how best to navigate this complicated territory. Russia had been a valuable ally during the war, holding the eastern front and inflicting considerable damage on Hitler’s efforts. But immediately post-war their actions demonstrated a desire to at least influence, if not control, the political structure of the world. Their version of communism was at direct odds with US democracy, and was thus considered a legitimate threat.

Even though there was very little expectation that Russia would participate, and possibly even less desire to give them money, Russia and its allied countries were invited by both the US and the European nations to participate in the talks involving the implementation of the plan. They chose not to, and followed up with accusing the plan of being a front to American imperialist goals. This was important because it forced Russia’s hand. They could not later claim that the Iron Curtain was something that was thrust on them. It was, instead, something they deliberately chose to build.

The Marshall Plan is remembered as a great decision, not strictly because of its outcomes—though it did contribute to the debatably successful reconstruction of Europe, it did not succeed in preventing the deterioration of relations with Russia—but because it was firmly grounded in principles that were identified and executed through a multidisciplinary lens.

The Importance of Working With “A” Players

Stop me if this sounds familiar. There is a person who toils alone for years in relative obscurity before finally cracking the code to become a hero. The myth of the lone genius. It’s the stuff of Disney movies.

Of course, we all have moments when we’re alone and something suddenly clicks. We’d do well to remember, though, that in those moments, we are not as independent as we like to think. The people we surround ourselves with matter.

In part, because we tell ourselves the story of the lone genius, we under-appreciate the role of a team. Sure, the individual matters, no doubt. However, the individual contributions are supercharged by the team around them.

We operate in a world where it’s nearly impossible to accomplish anything great as an individual.  When you think about it, you’re the product of an education system, a healthcare system, luck, roads, the internet and so much more. You may be smart but you’re not self-made. And at work, most important achievements require a team of people working together.

The leader’s job is to get the team right. Getting the team right means that people are better as a group than as individuals. Now this is important.  Step back and think about that for a second — the right teams make every individual better than they would be on their own.

Another way to think about this is in terms of energy. If you have 12 people on a team and they each have 10 units of energy, you would expect to get 120 units of output. That’s what an average team will do. Worse teams will do worse. A great team will take the same inputs and get a non-linear outcome. The result won’t be 120; it’ll be 360.No matter where you’re going, great teams will get you there multiples faster than average teams.

Here is a quote by Steve Jobs on the importance of assembling “A” players.

I observed something fairly early on at Apple, which I didn’t know how to explain then, but I’ve thought a lot about it since. Most things in life have a dynamic range in which [the ratio of] “average” to “best” is at most 2:1. For example, if you go to New York City and get an average taxi cab driver, versus the best taxi cab driver, you’ll probably get to your destination with the best taxi driver 30% faster. And an automobile; what’s the difference between the average car and the best? Maybe 20%? The best CD player versus the average CD player? Maybe 20%? So 2:1 is a big dynamic range for most things in life. Now, in software, and it used to be the case in hardware, the difference between the average software developer and the best is 50:1; maybe even 100:1. Very few things in life are like this, but what I was lucky enough to spend my life doing, which is software, is like this. So I’ve built a lot of my success on finding these truly gifted people, and not settling for “B” and “C” players, but really going for the “A” players. And I found something… I found that when you get enough “A” players together, when you go through the incredible work to find these “A” players, they really like working with each other. Because most have never had the chance to do that before. And they don’t work with “B” and “C” players, so it’s self-policing. They only want to hire “A” players. So you build these pockets of “A” players and it just propagates.

Building a team is more complicated than collecting talent1. I once tried to solve a problem by putting a bunch of PhDs’ in a room. While comments like that sounded good and got me a lot of projects above my level, they were rarely effective at delivering actual results.

Statements like “let’s assemble a multidisciplinary team of incredible people” are gold in meetings if you work for an organization. These statements sound intelligent. They are hard to argue with. And, most importantly, they also have no accountability built in, and they are easy to wiggle out of. If things don’t work out, who can fault a plan that meant putting smart people in a room.

Well … I can. It’s a stupid plan.

The combination of individual intelligence does not make for group intelligence. Thinking about this in the context of the Jobs quote above, “A” players provide a lot more than raw intellectual horsepower. Among other things, they also bring drive, integrity, and an ability to make others better.  “A” players want to work with other “A” players. Accepting that statement doesn’t mean they’re all “the best”.

In my experience solving difficult problems, the best talent available rarely led to the best solutions. You needed the best team. And the best team meant you had to exercise judgment and think about the problem. While there was often one individual with the idea that ultimately solved the problem, it wouldn’t have happened without the team.  The ideas others spark in us are more than we can spark in ourselves.

A Letter For IAS aspirants

When IAS results are declared then some of you are selected and many are dejected thinking their life is finished, right?

Let’s talk about the realities. Today I am here to discuss the blatant truth. Let’s not hide it and talk about it…..

You know this is the biggest problem. We love to make sweeping assumptions. It makes our task easier, isn’t it? Otherwise, how on earth it is even imaginable to address the entire fraternity of Civil Service aspirants through a single letter or lecture or monologue. But we love doing that. Deep within our hearts we know that out there in a dingy room of Rajinder Nagar/Mukherjee Nagar or any place on earth sits a hapless candidate browsing through multiple websites, hopping in between from facebook to PIB, from Youtube and random online retail websites to Wikipedia.

The person sitting in the next room is equally or even more desperate. May be after spending three hours on the internet he will move out of his room and make a visit to the nearest bookshop, immerse himself in the pile of xeroxed copies and emerge with a thick compilation of current affairs only to disown that within two days. You see that frantic desire in their eyes, sort of a search for the ultimate solution that shall keep them afloat in competition and sail them through the rapids to reach their destiny.

While we successfully decode their desperation, we simply fail to understand a simple fact that all their desperation is not borne out of the same reason. Some grow frustration because they are unable to clear even prelims in their third or fourth attempt while some feel agitated because despite appearing for the interview in all their previous attempts they don’t find their names in the final list. Yet others may have different reasons. It may be their girlfriend refusing to commit until they clear the exam or it may be their parents asking them to marry and settle down in their native villages. Despite all these differences and diversity we seek redemption by applying a one size fits all solution. Do this, read that, study Hindu in this manner, must buy that magazine, join this institute, make notes, discuss in groups, practice answer writing, don’t lose hope, do hard work……GOSH!!!! Aren’t we always ready with our piece of advice?

I shall not therefore do injustice to you and to myself. While I type my words, I don’t know who you are, where are you from, where do you study, what is your strength, what are your weaknesses, what is your set of problems, have you just had a break up or the teacher in the class mocked you because you thought Kathak and Kathakali were the same! Yet I take the liberty to tell you something. What I intend to say is truth. This truth is about you, about your friends, about your preparation and about your future. What ensues may not apply to super humans out there but for mortals like me and you they fit perfectly.

Try to remember the last book or the notes that you purchased from the bookshop or ordered online or even saved that pdf from any website. You thought you had just found a treasure. While you flipped through the pages your eyes glittered like gold. Oh! That book had all that you wanted. Immediately you prepared a plan to finish that book in 5 odd days, make notes out of that and put to shame your friends with your newly acquired knowledge. You started out with full of energy, you bought a notebook and started as per your plans.

Then you realized it was taking longer than you had anticipated. You do the course correction, reset your targets and extend the deadline to 10 days. On the third day you find the exercise monotonous. You go out with your friends to the juice corner, try to flaunt your knowledge by asking a question from the topic you had just read. But you are taken by surprise as to how one of your friends answers the question articulately. You bombard him with more questions but he manages them all. In fact he knows more than you on that subject. You feel dejected as you find that there is nothing exclusive or special about your knowledge. You curse yourself and when you return to your room you don’t even bother to study. You feel that there is some lacunae in your preparation.

You want to be the talk of the town. You want your friends to praise you for your analytical abilities and immense knowledge but that doesn’t seem to be materializing now. You then start remembering your school/college days when the entire class used to clap for you. Boy! you were something those days. You remember the teacher coming to your parents and telling them about your potential and suggesting them to make you prepare for the civil services. All that looks like a dream to you now.

It has been so many days that anyone has appreciated you. In the coaching class also you feel like one of the grains constituting a giant heap of sand. You think you have lost your charisma. This feeling sinks deep within your heart and you experience a hollowness in you. The phone rings. It’s your mother that side. She immediately understands that you are upset about something. After multiple inquiries you simply pretend of a headache. She shows concern and asks you not to study so hard and take rest. You have no clue as to how you would start again. And then, all of a sudden the picture of that front bencher guy pops up in your mind. How good he was in communicating with the girls! The kind of English he uses in the class, even the teacher stammers to answer his questions. No doubt, a true intellectual he is! You start wondering is it even possible to compete with such people! You are scared of the fact that only 1000 seats are there this year. Everything starts to appear so difficult, so distant.

That one visit to the juice corner ruined your day. From a hungry, confident aspirant, you have just become a listless and disheartened soul. The world has turned upside down. That one visit triggered a series of negative bouts in your mind and heart. Ask yourself this simple question – is it wisdom? Is is wise to wash away all your confidence and enthusiasm so easily? You see yourself slipping away in the swirling waves of negativity helplessly. My dear friend! You need to stop doing this to you. With all my experience I can safely declare this trap of negativity as the biggest hurdle of an aspirant’s life.

We are all grown ups and not school kids. A sincere candidate will always find the best strategy to study and deliver. But even the brightest and the best aspirants are destined to be doomed if they are not able to cope up with this negativity. Be rest assured that an unhappy and frustrated soul can never qualify this examination or for that matter any test of life. You must learn the art of being happy before you embark or reembark on the path to your goal, be that Civils or anything else.

Stop getting disheartened by the looks of those random citizens with big beards or that girl from Stephens. A grown beard or sophisticated English is no guarantee of good marks in CSE. I have seen people too loud and extra confident about their preparation but flunking eventually. I have also seen the modest ones doing exceedingly well at the same time. We try to imitate the stereotypes we think are worthy of selection in this examination. In this process, we lose our own identity and persona. We stop cultivating our hobbies and think that the only way to succeed is to become a frustrated monk. The feel good factor is lost in the shabby corners of Rajinder Nagar. You desperately wait and dream of the day when you would see your name in that holy list. You try to save all the joys and fun for that day thinking that moment would define rest of your life. Alas! If this were true.

You might be thinking that your selection is the panacea for all your troubles and the climax of the long ordeal you have been subjected to. But life is never as simple as a ‘lived happily ever after’ thing. You know, the joy of being selected remains for a while and when the party is over, you again have your own set of problems. You may not be satisfied with your service or cadre or posting or training. You will again start cursing your fate – had I got 20 more marks, I would have gone into the IAS or had the board been more generous to me I would have gotten home cadre instead of Manipur.

With my experience, let me tell you that this cribbing never stops. Your happiness is intrinsic to you. Externalities can only affect your life momentarily. Life goes on irrespective of who you are and what people think about you. Believe me the grass looks greener on the other side but the reality is different. The life of a bureaucrat is as frustrating as yours or even more. The IAS fraternity cries about cadres and postings, the IPS guys complain about work life balance, IFS recruits show discontent about the lack of facilities abroad, IT employees talk of smaller support staff, Customs and Excise taxmen fear about dilution of power after the introduction of GST and what not. You see everyone has his share of problems even after getting selected. The same holds true for all the other jobs in this world. Clearly, CSE is not the ultimate solution to all your worries. We prepared and you are all preparing to invite bigger worries.

In scenario like this, the only thing that saves you is you yourself. Do whatever you want to but try to maintain a balance in your life. An austere life is no guarantee to success. Don’t loose your prime youth in undue worries. Don’t become premature uncles and aunties at such young age. Work hard, play harder. Never feel guilty in attending a party or playing cricket. Watch movies with your friends, visit your family members, go on date with your partner. Half the job is done if you succeed in making yourself a cheerful and happy soul. People say CSE is half hard work and half luck, I say its one third hard work, one third luck and one third your ability to divorce negativity and remain joyful.

Guys you have got a great opportunity and it has come your way in the form of this platform where you got to interact and guided by the real experience holders. Nothing differentiates between you and us. We are the same as you are. Differences are created by the efforts we have put in. Who else can guide you when you are guided by defaulters within you, who make plans, strategies and commit but falls prey to him/herself or other diverting individuals or institutions (not to mention the names- you are learned enough).

 Let’s make a difference and show the world. Who you are? What you can do? Let’s clear the air that has belittled you. you are no small!!!

Investment Strategies To Learn Before Trading

The best thing about investing strategies is that they’re flexible. If you choose one and it doesn’t suit your risk tolerance or schedule, you can certainly make changes. But be forewarned: doing so can be expensive. Every purchase carries a fee. More importantly, selling assets can create a realized capital gain. These gains are taxable and therefore, expensive.

Here, we look at four common investing strategies that suit most investors. By taking the time to understand the characteristics of each, you will be in a better position to choose one that’s right for you over the long-term without the need to incur the expense of changing course.

KEY POINTS

• Before you figure out your strategy, take some notes about your financial situation and goals.
• Value investing requires investors to remain in it for the long-term and to apply effort and research to their stock selection.
• Investors who follow growth strategies should be watchful of executive teams and news about the economy.
• Momentum investors buy stocks experiencing an uptrend and may choose to short-sell those securities.
• Dollar-cost averaging is the practice of making regular investments in the market over time.

Take Some Notes

Before you begin to research your investment strategy, it's important to gather some basic information about your financial situation. Ask yourself these key questions:

• What is your current financial situation?
• What is your cost of living including monthly expenses and debts?
• How much can you afford to invest—both initially and on an on-going basis?

Even though you don't need a lot of money to get started, you shouldn't get start if you can't afford to do so. If you have a lot of debts or other obligations, consider the impact investing will have on your situation before you start putting money aside.

 

Make sure you can afford to invest before you actually start putting money away.

Next, set out your goals. Everyone has different needs, so you should determine what yours are.

 Are you intending to save for retirement? 

Are you looking to make big purchases like a home or car in the future? 

Or are you saving for your or your children's education? This will help you narrow down a strategy.

Figure out what your risk tolerance is. This is normally determined by several key factors including your age, income, and how long you have until you retire. Technically, the younger you are, the more risk you can take on. More risk means higher returns, while lower risk means the gains won't be realized as quickly. But keep in mind, high-risk investments also mean there's a greater potential for losses as well.

Finally, learn the basics. It's a good idea to have a basic understanding of what you're getting into so you're not investing blindly. Ask questions. And read on to learn about some of the key strategies out there.

Strategy 1: Value Investing

Value investors are bargain shoppers. They seek stocks they believe are undervalued. They look for stocks with prices they believe don’t fully reflect the intrinsic value of the security. Value investing is predicated, in part, on the idea that some degree of irrationality exists in the market. This irrationality, in theory, presents opportunities to get a stock at a discounted price and make money from it.

It’s not necessary for value investors to comb through volumes of financial data to find deals. Thousands of value mutual funds give investors the chance to own a basket of stocks thought to be undervalued. The Russell 1000 Value Index, for example, is a popular benchmark for value investors and several mutual funds mimic this index.

As discussed above, investors can change strategies anytime but doing so—especially as a value investor—can be costly. Despite this, many investors give up on the strategy after a few poor-performing years. In 2014, Wall Street Journal reporter Jason Zweig explained, “Over the decade ended December 31, value funds specializing in large stocks returned an average of 6.7% annually. But the typical investor in those funds earned just 5.5% annually.” Why did this happen? Because too many investors decided to pull their money out and run. The lesson here is that in order to make value investing work, you must play the long game.

But if you are a true value investor, you don't need anyone to convince you need to stay in it for the long run because this strategy is designed around the idea that one should buy businesses—not stocks. That means the investor must consider the big picture, not a temporary knockout performance. People often cite legendary investor Warren Buffet as the epitome of a value investor. He does his homework—sometimes for years. But when he’s ready, he goes all in and is committed for the long-term.

Consider Buffett’s words when he made a substantial investment in the airline industry. He explained that airlines "had a bad first century." Then he said, "And they got that century out of the way, I hope." This thinking exemplifies much of the value investing approach. Choices are based on decades of trends and with decades of future performance in mind.

Value Investing Tools

For those who don’t have time to perform exhaustive research, the price-earnings ratio (P/E) has become the primary tool for quickly identifying undervalued or cheap stocks. This is a single number that comes from dividing a stock’s share price by its earnings per share (EPS). A lower P/E ratio signifies you’re paying less per $1 of current earnings. Value investors seek companies with a low P/E ratio.

While using the P/E ratio is a good start, some experts warn this measurement alone is not enough to make the strategy work. Research published in the Financial Analysts Journal determined that “Quantitative investment strategies based on such ratios are not good substitutes for value-investing strategies that use a comprehensive approach in identifying underpriced securities.” The reason, according to their work, is that investors are often lured by low P/E ratio stocks based on temporarily inflated accounting numbers. These low figures are, in many instances, the result of a falsely high earnings figure (the denominator). When real earnings are reported (not just forecasted) they’re often lower. This results in a “reversion to the mean.” The P/E ratio goes up and the value the investor pursued is gone.

If using the P/E ratio alone is flawed, what should an investor do to find true value stocks? The researchers suggest, “Quantitative approaches to detecting these distortions—such as combining formulaic value with momentum, quality and profitability measures—can help in avoiding these ‘value traps.’”

What's the Message?

The message here is that value investing can work so long as the investor is in it for the long-term and is prepared to apply some serious effort and research to their stock selection. Those willing to put the work in and stick around stand to gain. One study from Dodge & Cox determined that value strategies nearly always outperform growth strategies “over horizons of a decade or more.” The study goes on to explain that value strategies have underperformed growth strategies for a 10-year period in just three periods over the last 90 years. Those periods were the Great Depression (1929-1939/40), the Technology Stock Bubble (1989-1999) and the period 2004-2014/15.

Strategy 2: Growth Investing

Rather than look for low-cost deals, growth investors want investments that offer strong upside potential when it comes to the future earnings of stocks. It could be said that a growth investor is often looking for the “next big thing.” Growth investing, however, is not a reckless embrace of speculative investing. Rather, it involves evaluating a stock’s current health as well as its potential to grow.

A growth investor considers the prospects of the industry in which the stock thrives. You may ask, for example, if there’s a future for electric vehicles before investing in Tesla. Or, you may wonder if A.I. will become a fixture of everyday living before investing in a technology company. There must be evidence of a widespread and robust appetite for the company's services or products if it’s going to grow. Investors can answer this question by looking at a company's recent history. Simply put: A growth stock should be growing. The company should have a consistent trend of strong earnings and revenue signifying a capacity to deliver on growth expectations.

A drawback to growth investing is a lack of dividends. If a company is in growth mode, it often needs capital to sustain its expansion. This doesn’t leave much (or any) cash left for dividend payments. Moreover, with faster earnings growth comes higher valuations which are, for most investors, a higher risk proposition.

Does Growth Investing Work?

As the research above indicates, value investing tends to outperform growth investing over the long-term. These findings don’t mean a growth investor can't profit from the strategy, it merely means a growth strategy doesn’t usually generate the level of returns seen with value investing. But according to a study from New York University’s Stern School of Business, “While growth investing underperforms value investing, especially over long time periods, it is also true that there are sub-periods, where growth investing dominates.” The challenge, of course, is determining when these “sub-periods” will occur. 

Interestingly, determining the periods when a growth strategy is poised to perform may mean looking at the gross domestic product (GDP). Take the time between 2000 and 2015, when a growth strategy beat a value strategy in seven years (2007-2009, 2011 and 2013-2015). During five of these years, the GDP growth rate was below 2%. Meanwhile, a value strategy won in nine years, and in seven of those years, the GDP was above 2%. Therefore, it stands to reason that a growth strategy may be more successful during periods of decreasing GDP.

Some growth investing style detractors warn that “growth at any price” is a dangerous approach. Such a drive gave rise to the tech bubble which vaporized millions of portfolios. “Over the past decade, the average growth stock has returned 159% vs. just 89% for value,” according to Money magazine’s Investor’s Guide 2018.

Growth Investing Variables

While there is no definitive list of hard metrics to guide a growth strategy, there are a few factors an investor should consider. Research from Merrill Lynch, for example, found that growth stocks outperform during periods of falling interest rates. It's important to keep in mind that at the first sign of a downturn in the economy, growth stocks are often the first to get hit.

Growth investors also need to carefully consider the management prowess of a business’s executive team. Achieving growth is among the most difficult challenges for a firm. Therefore, a stellar leadership team is required. Investors must watch how the team performs and the means by which it achieves growth. Growth is of little value if it’s achieved with heavy borrowing. At the same time, investors should evaluate the competition. A company may enjoy stellar growth, but if its primary product is easily replicated, the long-term prospects are dim.

GoPro is a prime example of this phenomenon. The once high-flying stock has seen regular annual revenue declines since 2015. “In the months following its debut, shares more than tripled the IPO price of $24 to as much as $87,” the Wall Street Journal reported. The stock has traded well below its IPO price. Much of this demise is attributed to the easily replicated design. After all, GoPro is, at its core, a small camera in a box. The rising popularity and quality of smartphone cameras offer a cheap alternative to paying $400 to $600 for what is essentially a one-function piece of equipment. Moreover, the company has been unsuccessful at designing and releasing new products which is a necessary step to sustaining growth—something growth investors must consider.

Strategy 3: Momentum Investing

Momentum investors ride the wave. They believe winners keep winning and losers keep losing. They look to buy stocks experiencing an uptrend. Because they believe losers continue to drop, they may choose to short-sell those securities. But short-selling is an exceedingly risky practice. More on that later.

Think of momentum investors as technical analysts. This means they use a strictly data-driven approach to trading and look for patterns in stock prices to guide their purchasing decisions. In essence, momentum investors act in defiance of the efficient-market hypothesis (EMH). This hypothesis states that asset prices fully reflect all information available to the public. It’s difficult to believe this statement and be a momentum investor given that the strategy seeks to capitalize on undervalued and overvalued equities.

Does it Work?

As is the case with so many other investing styles, the answer is complicated. Let’s take a closer look.

Rob Arnott, chairman, and founder of Research Affiliates researched this question and this is what he found. “No U.S. mutual fund with ‘momentum’ in its name has, since its inception, outperformed their benchmark net of fees and expenses.”

Interestingly, Arnott’s research also showed that simulated portfolios that put a theoretical momentum investing strategy to work actually “add remarkable value, in most time periods and in most asset classes.” However, when used in a real-world scenario, the results are poor. Why? In two words: trading costs. All of that buying and selling stirs up a lot of brokerage and commission fees.

Traders who adhere to a momentum strategy need to be at the switch, and ready to buy and sell at all times. Profits build over months, not years. This is in contrast to simple buy-and-hold strategies that take a set it-and-forget it approach.

For those who take lunch breaks or simply don’t have an interest in watching the market every day, there are momentum style exchange-traded funds (ETFs). These shares give an investor access to a basket of stocks deemed to be characteristic of momentum securities.

The Appeal of Momentum Investing

Despite some of its shortcomings, momentum investing has its appeal. Consider, for example, that “The MSCI World Momentum Index has averaged annual gains of 7.3% over the past two decades, almost twice that of the broader benchmark.” This return probably doesn’t account for trading costs and the time required for execution.

Recent research finds it may be possible to actively trade a momentum strategy without the need for full-time trading and research. Using U.S. data from the New York Stock Exchange (NYSE) between 1991 and 2010, a 2015 study found that a simplified momentum strategy outperformed the benchmark even after accounting for transaction costs. Moreover, a minimum investment of $5,000 was enough to realize the benefits.

The same research found that comparing this basic strategy to one of more frequent, smaller trades showed the latter outperformed it, but only to a degree. Sooner or later the trading costs of a rapid-fire approach eroded the returns. Better still, the researchers determined that “the optimal momentum trading frequency ranges from bi-yearly to monthly”—a surprisingly reasonable pace.

Shorting

As mentioned earlier, aggressive momentum traders may also use short selling as a way to boost their returns. This technique allows an investor to profit from a drop in an asset’s price. For example, the short seller—believing a security will fall in price—borrows 50 shares totaling $100. Next, the short seller immediately sells those shares on the market for $100 and then waits for the asset to drop. When it does, they repurchase the 50 shares (so they can be returned to the lender) at, let’s say, $25. Therefore, the short seller gained $100 on the initial sale, then spent $25 to get the shares back for a gain of $75.

The problem with this strategy is that there is an unlimited downside risk. In normal investing, the downside risk is the total value of your investment. If you invest $100, the most you can lose is $100. However, with short selling, your maximum possible loss is limitless. In the scenario above, for example, you borrow 50 shares and sell them for $100. But perhaps the stock doesn’t drop as expected. Instead, it goes up.

The 50 shares are worth $150, then $200 and so on. Sooner or later the short seller must repurchase the shares to return them to the lender. If the share price keeps increasing, this will be an expensive proposition.

The Lesson?

A momentum strategy may be profitable, but not if it comes at the limitless downside risk associated with short selling.

Strategy 4: Dollar-Cost Averaging

Dollar-cost averaging (DCA) is the practice of making regular investments in the market over time, and is not mutually exclusive to the other methods described above. Rather, it is a means of executing whatever strategy you chose. With DCA, you may choose to put $300 in an investment account every month. This disciplined approach becomes particularly powerful when you use automated features that invest for you. It’s easy to commit to a plan when the process requires almost no oversight.

The benefit of the DCA strategy is that it avoids the painful and ill-fated strategy of market timing. Even seasoned investors occasionally feel the temptation to buy when they think prices are low only to discover, to their dismay, they have a longer way to drop.

When investments happen in regular increments, the investor captures prices at all levels, from high to low. These periodic investments effectively lower the average per share cost of the purchases. Putting DCA to work means deciding on three parameters:

• The total sum to be invested
• The window of time during which the investments will be made
• The frequency of purchases

A Wise Choice

Dollar-cost averaging is a wise choice for most investors. It keeps you committed to saving while reducing the level of risk and the effects of volatility. But for those in the position to invest a lump sum, DCA may not be the best approach.

According to a 2012 Vanguard study, “On average, we find that an LSI (lump sum investment) approach has outperformed a DCA approach approximately two-thirds of the time, even when results are adjusted for the higher volatility of a stock/bond portfolio versus cash investments.”

But most investors are not in a position to make a single, large investment. Therefore, DCA is appropriate for most. Moreover, a DCA approach is an effective countermeasure to the cognitive bias inherent to humans. New and experienced investors alike are susceptible to hard-wired flaws in judgment. Loss aversion bias, for example, causes us to view the gain or loss of an amount of money asymmetrically. Additionally, confirmation bias leads us to focus on and remember information that confirms our long-held beliefs while ignoring contradictory information that may be important.

Dollar-cost averaging circumvents these common problems by removing human frailties from the equation. Regular, automated investments prevent spontaneous, illogical behavior. The same Vanguard study concluded, “If the investor is primarily concerned with minimizing downside risk and potential feelings of regret (resulting from lump-sum investing immediately before a market downturn), then DCA may be of use.”

Once You've Identified Your Strategy

So you've narrowed down a strategy. Great! But there are still a few things you'll need to do before you make the first deposit into your investment account.

First, figure out how much money you need to cover your investments. That includes how much you can deposit at first as well as how much you can continue to invest going forward.

You'll then need to decide the best way for you to invest. Do you intend to go to a traditional financial advisor or broker, or is a passive, worry-free approach more appropriate for you? If you choose the latter, consider signing up with a robo-advisor. This will help you figure out the cost of investing from management fees to commissions you'll need to pay your broker or advisor. Another thing to keep in mind: Don't turn away employer-sponsored 401ks — that's a great way to start investing. Most companies allow you to invest part of your paycheck and tuck it away tax-free and many will match your contributions. You won't even notice because you don't have to do a thing.

Consider your investment vehicles. Remember that it doesn't help to keep your eggs in one basket, so make sure you spread your money around to different investment vehicles by diversifying—stocks, bonds, mutual funds, ETFs. If you're someone who is socially conscious, you may consider responsible investing. Now is the time to figure out what you want your investment portfolio to be made of and what it will look like.

Investing is a roller coaster, so keep your emotions at bay. It may seem amazing when your investments are making money, but when they take a loss, it may be difficult to handle. That's why it's important to take a step back, take your emotions out of the equation and review your investments with your advisor on a regular basis to make sure they're on track.

The Bottom Line

The decision to choose a strategy is more important than the strategy itself. Indeed, any of these strategies can generate a significant return as long as the investor makes a choice and commits to it. The reason it is important to choose is that the sooner you start, the greater the effects of compounding.

Remember, don’t focus exclusively on annual returns when choosing a strategy. Engage the approach that suits your schedule and risk tolerance. Ignoring these aspects can lead to a high abandon rate and frequently changed strategies. And, as discussed above, numerous changes generate costs that eat away at your annual rate of return.