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Security Selection

Yuri Khodjamirian, CFA
By Yuri Khodjamirian, CFA
December 1, 2023

When it comes to alpha generation, one thing matters most according to Institutional Investor1 – picking the right stocks.

This result is derived from an academic study of 750 portfolios with at least three years of performance data. The study showed that in these successful portfolios more than 100% of the alpha generated came from selection of securities.

To harness this source of alpha our portfolio managers engage in pure fundamental research to build bottom-up portfolios. This part of the process utilizes four key pillars in assessing each security we buy:Picture2

The first two pillars are objective criteria and involve assessing downside risk. We will not make any investments that do not meet these two criteria:
  1. Does the business have a strong operating base?  This is defined broadly to include anything from the business model, competitive position, management track record and incentives. In short, businesses must have solid operational foundations that can be identified and qualified. Though not an off-the-shelf investment concept readers can find it explained in more depth here along with examples.

  2. Does the business have a solid balance sheet and sustainable cash generation profile?  We place significant emphasis on this type of financial analysis, as problems in this area can lead to permanent impairment of equity capital. Balance sheet analysis includes everything from standard debt metrics to working capital, off-balance sheet arrangements, pensions, use of factoring, and much more. Cash flow generation is the life blood of a business, and we employ detailed analysis to understand, for example, the quality and quantity of cash conversion. For more details including examples from our investment record read here.

The second two pillars are focused on more subjective criteria and used to build upside potential of the investment.

  1. What is the valuation case for this stock?  Valuation is an open concept and a case can be built using a multitude of methods. For example, one approach is to assess the valuation today vs. the stock’s 10-year historic multiple. Here, we prefer investments that trade at or below 1 standard deviation vs. the 10-year average. Beyond this framework, fund managers can employ other valuation measures (for example valuation vs. fundamentals or peers). Valuation analysis is a critical step in the process before making any investment and you can read more about our approach here.

  2. What is our edge in this investment?  This is a delicate question that starts with acknowledging what the biggest unknowns are in any business. Edge can take the form of being informational, analytical or behavioral. In some cases, we also apply risk-reward analysis. Managers craft an upside case and downside case for a stock on a 3-5 year view. The ratio of these cases must at least be >2x to make an investment. This framework allows us to identify, quantify and build up investments with asymmetric risk-reward. For some examples read more about how we identify edge here.

If all four criteria are met, we will make an investment decision to buy the security.


At Tema we only invest in stocks that meet our four pillars – solid operating base, good balance sheet and cash flow profile, an attractive valuation case and having an edge.


1Institutional Investor, "In Active Management, Alpha Comes Down to One Thing", April 2022.

Working Capital: Funds for daily operations, calculated as current assets minus current liabilities.

Factoring: Financial transaction and a type of debtor finance in which a business sells its accounts receivable (i.e., invoices) to a third party (called a factor) at a discount.


Cash conversion: The cash conversion ratio (CCR) compares a company’s operating cash flows to its profitability and measures a company’s efficiency in turning its profits into cash.