Over the long term, the goal of any investor is to invest in good companies while avoiding the bad and the ugly ones. Sadly, as investors in Volkswagen will tell you that is not always as easy as it sounds.
That, of course, begs the question what makes a good, a bad and an ugly stock in the quantitative easing-fueled Wild West these days?
The Ugly
Wednesday’s revelation that around 1.2m Volkswagen vehicles in the UK are affected by the software the firm used to cheat emissions tests is just the latest in a scandal that has seen its shares lose about 40% of their value and is a good place to start answering that question.
It is further evidence that investors are right to be wary of what some are referring to as ‘the next BP’. Like the Deepwater Horizon oil spill over which BP presided in 2010, investors currently find it impossible to know exactly how big the scandal or the repercussions are likely to be.
Such uncertainty is particularly damning at the moment as so much else in the world is on shaky ground that there are few investors that are looking to add to the unknowns pile within their portfolios. But, perhaps more important is the possible impact to Volkswagen’s sales in a world where multiples have risen rapidly, yet one in which the earnings haven’t always followed. This is especially concerning in a world where growth remains lackluster.
The Bad
More concerning than a lack of earnings at present, however, is a balance sheet groaning with debt – like the one under which Glencore’s share price currently sits.
As discussed earlier this week, analysts are concerned that should commodities fail to recover, Glencore’s debt pile could wipe out its earnings, concerns that have seen its share price decimated.
At a broader level, debt is a concern for investors because, with rates at zero in the developed world, the long term direction of rates has to be upwards. Granted, rates could remain very low for a long time, but, as Hermes’ head of equities points out, if your denominator is small, small changes can make an outsize difference.
