At its core, investment theory and practice is about understanding the expected return on an asset and the risk/uncertainty associated with that expected return. Either implicitly or explicitly, every investment decision is based upon a forecast of expected return and the probability of achieving it. When the return is attractive but the risk of not achieving it is high, investment theory dictates that the price of the asset concerned adjusts to reflect that. As new information relating to the return becomes available, anything that either changes the expected return or the perceived risk to the achievement of that return has the potential to change the price.


INVESTMENT THEORY AND PRACTICE IS ABOUT UNDERSTANDING THE EXPECTED RETURN ON AN ASSET AND THE RISK/UNCERTAINTY ASSOCIATED WITH THAT EXPECTED RETURN.


In simple terms this is why share prices move. In an efficient market, prices will move on marginal (new) information related to the future cashflows of the asset concerned – the return on capital - and the rate that the market is “discounting” those cash flows at – the cost of capital.


For the investor looking to 2021 the question is, therefore, what are the prospects for these two elements of the price for the asset concerned and what are the risks to those prospects? For our investor currently concerned over near term events, there is no real attempt to view the longer-term outlook for either of these terms as variable. Instead, the focus is upon the risk that the current price is potentially too high with respect to future value or that events may have a greater impact on the viability or outlook for the medium- term prospects for those cashflows. Uncertainty looms large and paralysis resumes. However, a better place to start is not so much with what isn’t certain but to try and gauge what is. The first step is to generate a forecast of expected return and then attempt to quantify the risks to that return. In doing so, some form of pricing model is needed and Apollo – the stock level model we have developed – uses a classic present value approach to do so; calculating on a daily basis and in explicit terms, a forecast of implied future cash flows and the discount


7 | ADMISI - The Ghost In The Machine | Q4 Edition


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