Using primary research can help investors gain an informational edge, get deeper insights on a target company, build confidence and conviction in an idea, stress test an investment case, and make it quicker and easier to spot fresh investment ideas and trends.
Primary research as it relates to investing refers to a method of conducting due diligence about a company and it’s investment merits by speaking to a wide variety of people. The most common sources tend to be customers, distributors, vendors, trade bodies, competitors and current or former employees but there are many more. It’s true grassroots “feet-on-the-ground” type research that is a perfect compliment to (rather than a replacement for) traditional financial statement analysis. Nevertheless, each are equally important for any smart investor and here are 5 reasons why it should be a critical part of any investors decision making process:
- It Gives you an Informational Edge that Most Investors Don’t Have: For whatever reason, most institutional investors we speak to don’t fully understand or appreciate the value of primary research (particularly in Europe). It could be the fact it’s not as sexy as alternative data sets that use satellites to count the number of cars outside shopping malls or mobile phone GPS signals that give approximations of high-street foot traffic. It could also be because it’s virtually not covered in any financial textbooks or courses – none of the major one’s like the CFA exam’s at least. Or maybe it’s because it seems too easy being neither scientific nor intellectually rigorous enough to be seen as a “real” approach to making money in the markets. The fact remains the stock market is made up of people as are the businesses that are listed on them. The ebb and flow of a companies share price at least in the long run comes down to offering a service that clients and customers are willing to pay for. And what better way to gauge that than speaking to clients and customers directly! To think that most investors aren’t already doing this begs belief – particularly in the B2B channel!
- It Gives you Deeper Insights into a Company’s Performance & Operations: Primary research provides deeper insights into a company that you won’t typically find in financial statements, earnings calls, or alternative data like credit card transactions or email receipts. Employees can provide valuable insights about staff morale and sentiment. Customers and clients can also be an extremely valuable source for assessing a company’s moat and potentiality switching costs. Why do they continue to use the company’s products/services? What would motivate them to switch to a competitor? What alternatives are currently or soon to be available? I can assure you that if any of those questions are important to your investment process you are missing a big trick by not doing your own primary research!
- You Get a Higher Level of Confidence & Conviction in your Stock Picks: Collecting stakeholder insights from people that know best and first about the future earnings potential of a business is a perfect supplement to secondary research like reading financial statements or other company filings. Primary research is important because doing the legwork and kicking the tires on a potential investment gives you a higher level of confidence and conviction that your call is the correct one. When your Bloomberg terminal is a sea of red and the market sells off indiscriminately, that extra layer of research and due diligence gives you a strength of conviction and assurance that you just can’t get from secondary research alone.
- It Can Help you Stress Test Your Investment Idea: There’s always uncertainty when it comes to investing, no matter how many hours or sources you use to come up with an idea. But that doesn’t mean you can’t improve your odds. To take an example, lets say your thinking about investing in a company that has invented a high-power fibre laser that they predict will revolutionise the mass production market by offering greater precision, improved productivity, and more flexible production options to manufacturers. Management are experienced, the financials look solid, and multiples look attractive. But unless you have a Phd in Laser Physics the chances are you’ll have lots of questions about the potential for this technology! Why don’t customers use cheaper options like diode-pumped solid state (DPSS) lasers, lamp-pumped lasers, or carbon dioxide (CO2) lasers? What type of ROI are customers seeing when they switch from old technologies to fibre? What alternative technologies are currently available or are in the process of being developed that could make Fibre redundant? These are all good questions and ones that any rational investor would want to know the answer to before investing. The good news is there is likely to be thousands of subject-matter experts out there who do know the answers to these questions and by crowd-sourcing their opinions you’ll be able to get a true and reliable indicator of the companies prospects or economic moat. (We actually did a project in this space, check out the case study here!)
- It’s Quicker & Easier to Spot Fresh Investment Ideas & Trends: Finding the next big thing isn’t easy – for every Netflix there’s also a Blockbusters! Finding companies who ‘s value is able to increase by a multiple of 10 – or a so called 10-bagger in investor speak – is the holy grail for nearly all money managers. Predicting key themes and disruptive trends that are likely to shape the world over the next 5- to 10- years is difficult at the best of times never mind trying to then predict who stands to benefit or lose from those shifts. Most investors would probably struggle to name all the companies that comprise the EuroStoxx 50 never mind trying to predict what their competitive landscape will looks like! However, what we can be sure of is that people working on the front-line of those 50 companies everyday are going to be the first to know about disruptive trends and their potential impact on their industry, their company and ultimately their jobs. If you’re looking for the next big investment trend, you can do no better than speaking to active professionals and customers/clients in the industries you’re interested in! They are the canary in the cole-mine for investors looking for accurate, early predictors!