Dmitry Leus, CEO, Imperium Investments, discusses how he has predicted a new crisis – and how to protect money? He argues that reading smart books and applying other successful investment strategies will not lead to success.

Leus explains that at the end of the year many financial experts such as Marko Kolanovic, global head of macro quantitative and derivatives research at JP Morgan; and Jim Mooney, president of the Baupost Group hedge fund (he owns a capital of $30 billion), stated that a new economic crisis is coming, comparable in scale to almost a catastrophe.

The reason for the international market collapse, in their opinion, would be the excessive activity of investors in the conditions of coming, but temporary stability. The level of fluctuations in stock indices across the planet is suspiciously small now, but for key players this for some reason does not cause concern. Investors boldly take on debt risks, massively buying up assets at low rates, which sooner or later will begin to grow and reduce the value of the acquired property. The debt will remain the same, which will force investors to sell what was purchased. And this again will lead to an increase in stock index fluctuations. The process will turn into a cycle.

Leus says, and asks: “Is a false sense of comfort and short views of investors likely to lead to the world economy collapse? What are the rules to play in order to successfully take the leading positions on the market and not bring it to the second ‘great depression’?

“You have probably heard about recent financial forecast. If it is correct, then how to behave in an investment-friendly time?

“What is the secret of a successful investor? What is the main criterion determining your advantage and a higher competitive position on the market? These and similar issues are of interest to many novice (and not only) investors. Someone finds answers on their own, based on their own experience; someone is looking for advice and recommendations in the literature, studying the experience of others and trying on their situation. Everyone has his own story.

“I picked out another rule: to find yourself, to believe in yourself and be yourself.

“I came to this conclusion after more than 20 years of experience related to finance, investment, optimisation and development of various businesses. Someone will say that this is not news and that many ‘great’ (businessmen, investors or entrepreneurs) individuals have long been talking about this. And if this is true, if so much is said about this and many people are spreading this idea in business, then why does not everyone succeed? Is it possible that today we need something else in the environment overwhelmed with accessible information? As it turned out, it is needed.”

In Leus’ view the use of other people’s strategies will only lead to temporary success,. In the future, they often lead to loss of income and bankruptcy.

He explains: “The correct formula, in my case, became the ’50\50′ rule. The first 50% is the knowledge that you can get from different sources, and the skills that you acquire in the process of work. The second 50% is your attitude to yourself and the world. Some kind of internal philosophy, if you want. This determines how successful you will be and what results you will achieve.

“If we talk about the world of investment and finance, everything is the same here – philosophy is the key factor that determines success. It, on the one hand, is rational and takes into account the objects of investment, on the other – it is emotional and is based on the personal characteristics and qualities of the investor himself. In other words, success in investing is hidden not in how and what you need to do in order to be like Warren Buffet (the world’s greatest investor with a capital of $75.4 billion), but in what you need specifically to achieve the same results.”

You are talking about philosophy in the world of finance. What do you mean by this?

“Nowadays, there is no single definition of the ‘investment philosophy’ concept. Someone says ‘this is a map and a compass in the world of investment, without which you can easily get lost and do not find the right way’. Someone considers this to be a ‘well-formed logical chain of knowledge about the market, the principles of its work and the typical mistakes of most investors’.

“I consider investment philosophy to be closely related to your investment strategy. The key word is ‘your’. Because often you can see a situation when a novice investor, after reading a few smart books on investing, decided that this is the most important secret and began to apply one or another investment strategy to his activity.

“Against a background of the low-competitive market, he achieved his first positive results. It can continue until the market ‘warms up’. Here, as a rule, miracles, misunderstandings and loss of control over the situation occur. The novice investor suddenly starts searching and applying new magic ‘strategy recipes’ due to someone’s recommendation or decides to trust his intuition and the fifth point of support and relies on ‘favourable coincidence of circumstances’. As a rule, it leads to unpredictable, and often negative in terms of profitability, results.”

What should be done then? Is it better not to read and not to use other people’s strategies?

“In the so-called ‘classical’ financial model, investment activity treats investor behaviour purely rationally and does not take into account the psychological aspects of his behavior. In other words, decisions should be made solely based on mathematical calculation. However, in fact, this is far from the reality.

“The basis of investment philosophy is human behavior itself.

“Moreover, the new trend that emerged in the 1990s, which was called ‘behavioural finance,’ is based on the connection of three main components, two of which are clearly far from the finance world – sociology and psychology.

“Human weakness and behavioural motives play an important role in the formation of investment philosophy. The most widespread human weaknesses, which the market can play on, are: desire to be like everyone else (the desire not to stand out from the market strong players), delusion of stability (to think that the situation on the market cannot fundamentally change), and also inability to separate facts from opinions.”

That is, the game upon weaknesses, as you put it, can be conditionally called informational manipulation?

“It is true, and in this case it is necessary to consider the market in terms of its effectiveness. And I suppose we need go to into details a little bit here.”

Indicator of market efficiency is equal access of investors to information on securities

Leus explains that market efficiency is a market, that provides equal free access to information regarding current investment opportunities. That is, any market participant has the ability to use information to assess the behaviour of the considered securities in the past, to identify the reasons that led it to the current market price, predicting its future dynamics.

In addition, on the efficient market the value of securities reacts instantly to the new information (financial report, review of analysts, statements of leading investors) and quickly adapts to such information.

Recently, and according to Leus, it has been assumed that markets are effective most of the time, but they react excessively to information “manipulation”. Therefore, it is important to understand in what state the market is now and what is affected by it – an objective situation or “manipulations”.

That is, for the analysis of market efficiency, just “mathematical calculations” and a clear strategy are needed, and for separating the real situation on the market from someone’s manipulation – the human factor. True?

He says: “As we considered earlier, philosophy and strategy are two related concepts. If you have already formed investment philosophy, then the investment strategy must be built based on your philosophy. If you base your philosophy on the market reaction on the information messages, then you are likely to buy shares on the fall (if the market receives a financial report that does not meet their expectations) and sell on the rise (after the publication of a positive report). If you play against the market (the irrational strategy approach) and are a major player, then you can act against the market, thereby strengthening the position of the stocks you are interested in on the market to the critical level for sale and then sell.

“It primarily depends on you, your goals, your experience and strengths. Because there is a great amount of investment strategies, and they have the peculiarity of being combined depending on market conditions.”

Experience and strengths certainly play a big role, but playing against the market is not not a big risk?

“In the investment business, the risk is the degree of your freedom, on the one hand, and the amount of your reward, on the other. There are several options for risk assessment.”

One of the most important stages in the investment project implementation is risk assessment

In his view, there are three stages.

First – checklists method. It presupposes conducting peer review internally or engaging independent experts, introducing a discount rate in relation to the project implementation timeframe.

Second – scoring systemThis is based on the knowledge base and other informational sources. It assumes a comprehensive analysis of the investment object, taking into account the quality of corporate governance and decision-making, the structure and position in the industry, the liquidity of financial indicators etc.

Third variant – сredit ratings of independent agencies like S&P, Moody’s, Fitch. Besides, it is possible to explore the statistics of bankruptcies in your region and the world as a whole.

Leus believes one of the most complex methods is the analysis of the investment project sensitivity to risks. This is the construction of an imitative mathematical model of the influence of various kinds of uncertainties on the project indicators and the subsequent investment decision, taking into account the impact of these risks.

So there is the same logic here as in the topic of human weaknesses and market efficiency? Risk assessment is pure analytics, the choice of a variant of this assessment is a human factor or philosophy, as you say.

Leus concludes: “The philosophy of the investment business is a set of statements, rules and principles concerning the behaviour of investors and the work of markets.

“In order to be a successful investor and have a competitive advantage in the market, you need not only take into account all market trends and facts, but also explore your own strengths.

“In order to determine which investment approach is optimal for you. Without your investment philosophy, you can wander from one ‘winning’ strategy to another, losing transaction costs and experiencing losses!”

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