Form & Substance | Denewiler Capital

Observations on the Market //

Form & Substance

Written by Greg Denewiler, CFA® // October 19, 2021

Investing is usually viewed as a singular event. You invest money, then you wait and see if your investment was profitable or not. Some investors wait a few seconds (they do exist), some wait until the end of the day, and then there are those that wait decades. Most people do not consider why they pick the process they use to invest. However, I can assure you that Quant firms (investors who make trades lasting seconds or less) know exactly what they are doing and why. We can learn something from them, not because we too might be able to trade as they do, but from the discipline, they apply to their strategy.



To help us better understand why anyone would hold an investment for less than one second, let’s break the investment process into two parts – form and substance. Quant firms take large amounts of data and process the information looking for small discrepancies in prices that may only last for very short periods. They are only investing to take advantage of these small price differences. They are very clear on what they are doing with the data, and the substance becomes the result of making pennies on one trade. Make enough trades, thousands per day, and soon you have real money. This is probably about the time when you are thinking – this has nothing to do with me!



JP Morgan Asset Management has a chart showing various returns of different asset classes over the last 20 years ending in 2020, with one of the asset classes being the S&P 500 and a return of 7.5%. Further down the list was the return of the ‘average investor’ earning only 2.9%. How does that happen? This is where our Quant firm investor can teach us something. They take their definition of form, the data regarding the markets, the economy, and any other financial data that is streaming throughout the day and use it for a very specific reason. The result, or substance, is immediately clear. Success to them is pennies of profit per trade. They are not making judgment calls or looking for companies to invest in. The data is simply a means to an end. The process has a clarity to it. Unlike the Quant fund, most investors consider a wide array of investment information in its many forms (including social media), as an advantage to their process. Overconfidence leads to trading that doesn’t create wealth. It may be profitable but 2.9% is less than ideal if your goal is market returns. How costly is the daily distraction of news if day trading is not your goal? If you grow $10,000 for 20 years at 2.9% you have almost $18,000. Compound the same $10,000 at 7.5%, at the end of 20 years you have over $42,000.



Substance is the result of what you are looking for. If your goal is just to earn more than the rate of inflation, create a growing income stream, invest in high-growth companies, or just invest in the S&P 500, these are all viable results. You get to create your own definition of substance. The substance you are seeking should determine how you use the information that is available to you. Reacting to the latest news release is not going to have a positive impact on your goal if it is long-term growth. Unless you are one of the very few that is very successful trading for small profits. However, how many of these day traders that make headlines every day have a long-term successful track record? JP Morgan suggests that there are not many with a return of 2.9%.



Form, which also comes by way of social media, can either be your ally or your enemy. The daily media’s drive to distract you and win your attention will probably be your enemy. It will most likely cause you to lose sight of what substance you are trying to create. Form and substance, if not working together, create confusion and chaos. Chaos is a 2.9% return versus the market earning 7.5%. For some, it is the addiction to being right, analyzing the daily flood of market news, and listening to social media but not even realizing how these day-to-day decisions are affecting their long-term goal. We can probably call this trading vanity without any substance. Social media has made this a bigger issue than many investors realize by creating YouTube stars. Don’t get caught up in being right for a day, be right for a decade.

Observations on the Market No. 364 – Published October 2021