How To Write a Winning Investment Thesis
How To Write a Winning Investment Thesis
Step-by-Step Guide Using Snowflake as an Example
What is an investment thesis and why do you need one?
An investment thesis is a written analysis describing why an investment should generate a compelling return. Professional investors, VC firms, and analysts regularly create research-backed investment theses to introduce investment ideas.
“Know what you own, and know why you own it.”
― Peter Lynch
Here’s how an investment thesis helps you as an individual investor:
Properly understand the company
Feel confident amidst market swings and volatility
Distinguish noise from impactful catalysts and developments
Check company performance against the thesis to see if it remains intact
Define your investing goal & time horizon
Before we can move on to writing an investment thesis, we need to determine the goal. Do you want to beat the index? Which one?
Is the goal to hold a business for 10+ years and compound it? Or are you short-term focused?
Example 1: If you want to hold on to a business for 10+ years and don’t touch your portfolio unless necessary, it makes sense to research the stock thoroughly, think about long-term developments, industry, and overall trends and tailwinds, and learn about management and culture.
Example 2: If you want to max out short-term appreciation of a stock; valuation, and near-term events might be more impactful to your thesis and you’ll likely invest in a different set of companies compared to example 1.
When you know what you want to achieve, you can find the right investments to get you there.
How to write an investment thesis
Initially, it is helpful to write a brief summary explaining what the company does.
💡 Sanity check: If you can simplify and explain what the business does and how that creates value, you likely know it well yourself.
Example: Snowflake helps businesses extract the value of their data by providing the infrastructure (Data Cloud) to store, use, analyze, govern, and share the data while ensuring high data quality.
1. Define the underlying catalyst
Write out the primary reason you believe this investment has attractive upside potential beyond its own execution. This can include anything from favorable industry dynamics and tailwinds to disruptive potential and the opportunity for market outperformance.
Example: I want to participate in Cloud Transformation (and AI), and invest in a well-positioned business in the Cloud Computing Market which is expected to grow by a 20% CAGR from 2023 - 2030. (Source: Fortune Business Insight)
2. Evaluate the positioning of the company
In the next step, think about how well this particular company or investment is positioned to benefit from the catalyst.
To help you answer this question, you can find an overview of aspects I like to use when evaluating an investment:
Fundamentals
Durable revenue growth
Profitability
Margins
Debt
Competitive positioning
Is the company outperforming its peers or the overall market?
Is it positioned as a premium or pricing leader?
Valuation
Compared to peers
Compared to its historical valuation
In the context of its future performance
Management
Is management credible, competent, and applies the right values to the business?
How is management incentivized and what is the degree of insider ownership?
Capital allocation
How well is the business allocating its available capital towards future growth and to increase shareholder value?
3. Identify risks and impactful events
Every investment comes with risks, as well as important events or developments investors should keep track of.
Risks can come from competitive pressure, politics or regulation, supply-chain shortages, disruption, and other areas. Ultimately, it’s the individual risk/reward evaluation and appetite that decides whether something is a good investment for you or not.
Which events or developments do you think will impact this business and how? This could include the launch of a new flagship product, a change in legislation or industry regulation, or management presenting its capital allocation plan for the mid-term.
Write these significant developments down so you can refer back to your notes when they are coming up.
Example: Snowflake SNOW 0.00%↑ Investment Thesis
Book recommendation: If you’re interested in high-performance and growth culture in Tech, I recommend Frank Slootmans’ book “Amp it up!”*.
4. Define your investment criteria
Aggregating your thoughts from the previous steps, you can distill the must-haves for your investment thesis to remain intact.
For instance, you can think about which outcomes you expect from the important events and developments (see step 3), as well as what expect the company to deliver in terms of its fundamentals (e.g. a maximum level of debt, dilution, etc.).
Compare quarterly results and important events or developments against your investment criteria to check, if your investment thesis remains intact. This helps you make objective decisions and have a framework to rely on when deciding whether or not your investment thesis is broken or remains intact.
💡 Important: Your investment thesis and criteria should serve you as a framework for decision-making. Nonetheless, it's crucial not to be overly rigid. Unexpected events, such as the Covid crash or other external factors, can cause investments to fall short of expectations despite the investment thesis remaining intact.
5. Define your conviction level
Lastly, think about how confident you are in this company’s ability to help you achieve your investment goals (=conviction). This will help you make informed investing decisions, e.g. how much capital to allocate to this stock, when to sell, etc.
Book recommendation: I highly recommend Why Stocks Go Up and Down* if you’re introigued by the ins and outs of fundamentals and what dictates stock prices, including a deep case study on how to create an investment thesis.
TL;DR
An investment thesis is an important framework to think about your investments and make informed investment decisions backed by your own due diligence.
Here’s how to write your own investment thesis:
Define your investment goal and your investing time horizon
Define the underlying catalyst you want to benefit from
Evaluate the positioning of the company
Identify risks and impactful events
Define your investment criteria
Define your conviction level
Use your thesis to regularly evaluate your investments
Cheers & Happy Investing!
Disclaimer: This text is for entertainment purposes only and does not represent any investment advice, stock buying or selling recommendation, or any other financial advice. So please always do your own due diligence and make your own decisions. See our disclaimer for more details.
**For the sake of readability, I keep this example brief. You can read more about Snowflake in our other articles, for ex. Snowflake Q1 2023 earnings recap. Disc: As of writing this, I own Snowflake shares.
*This post may contain affiliate links that at no additional cost to you, I may earn a small commission.