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How a hedge fund pro finds investing opportunities

Stephen Clapham recently joined us to speak to those who completed the Investing Fundamentals course. In November he published his book 'The Smart Money Method; how to pick stocks like a hedge fund pro'. In the book he highlights some ways in which he identifies stock ideas and thereafter the checklists and analysis he puts them under. Clapham talks about some of the factors which drive his idea selection including market action, his own knowledge and asymmetric pay-offs.

Asymmetric pay-offs

'My favourite opportunities are those with asymmetric pay-offs, there is potential for considerable upside but not a lot of downside..Sometimes a share will fall out of favour with the market.. it usually takes a catalyst such as a change of management for the market to become more enthusiastic and the share price to factor in the recovery opportunity.''

Own knowledge - laterals

He talks in the book about using a good stock idea or theme and applying it to a different stock, geography or industry.

For example he saw how the German discount retailers Aldi and Lidl destroyed the value of UK food retailers and believed the same could then happen in Australia.

This could therefore present a shorting opportunity for incumbent Australian retailers. Similarly he understood how Uber was gaining ground in the US taxi market, and how it would adversely affect those who financed New York taxi medallions, i.e Medallion financial.

Quality ideas

Buy quality companies which are undervalued. It's no surprise Warren Buffet is an expert at doing this. The book explores the qualitative and quantitative methods which Clapham uses to assess these opportunities including analysing the economic moat which a company may possess. The moat is a barrier which the company possess which makes it difficult for a competitor to enter and overcome.

Moats can include but are not limited to network effect, IP, customer loyalty, companies with a purpose and digital moats.


Screens allow you to filter stocks based on certain parameters. They can enable you to identify value anomalies and identify undervalued stocks. Yahoo have a plethora of free screening tools which you can use here.

Personal Observation / Keeping your eyes open

He gives an anecdote of how (the legendary investor) Peter Lynch used to apparently keep an eye out in the mall as to what was the most popular carrier bag and consequently most popular store in the mall. Similarly Clapham talks about how he did a similar exercise in the Spanish el corte ingles and realised the popularity of a Spanish laptop bag make Piquadro. He saw the opportunity to invest in them before they opened their store on Londons Regent Street when it was likely the rest of the London hedge fund managers were likely to have heard of them.

Companies you know well

It makes sense to invest in companies of which you may know well already or have an existing industry. If for instance you work in a certain vertical in the food industry and have a reasonable knowledge of this space then you will be better able to access opportunities in this space.

Clapham discusses a myriad of other techniques he uses to identify opportunities including thematic ideas such as how a new US president may influence defence spending or infrastructure (indeed he uses an Irish example in this case), how labour laws or shortages might affect a restaurant stock.

However the idea can be half the battle, thereafter you begin to test the hypothesis and it's here where Stephen explains some of the key analysis he does in even the first hour, how he puts the idea into context and he talks about his industry checklists he uses.

The British treasury secretary, a city grandee, a country club and 3 Ireland.

The book is full of engaging anecdotes and tidbits which make it much easier to get through and absorb than some of the more dry investing books out there.

I won't spoil it but these include everything from a tip from Rishi Sunak (pre joining the Treasury) involving a US rail company and a country club, how meeting a certain city grandee put him off investing in any of the three companies which he was chairman of and why he advised against investing in the owner of 3 in Ireland.

Recently a large hedge got in touch to commission him for research into a prospective target they were looking to buy, which transpired to be CK Hutchinson (owner of 3 in Ireland amongst a large portfolio of global assets). The stock looked very appetising with some blue chip assets from ports to telcos but he ultimately in a very short period advised not to buy. Read in the book here why and how he came to this decision so quickly.

I have just highlighted some of the initial ideas he looks at to generate stock ideas but I'd recommend buying the book to understand how Clapham then analyses and deciphers whether to invest in a firm after the initial identification.

As a former partner of a multi billion dollar hedge fund he's more qualified than most to advise on this topic.

Stephen Claphams firm Behind the Balance sheet also run courses for analysts and amateur investors, and you can avail of a 20% discount with the code smart-money here.

As always the above content should not be regarded as advice and please do your own independent research before making any investment decisions.

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