From Cat Rock Capital at Graham & Doddsville:
Panic, fear and market psychology all play an important role in driving stocks during periods like this one. Markets become less efficient because investors are not behaving like rational calculators of long-term intrinsic value. Managers panic and "de-gross" to avoid larger losses. They make assumptions about how other managers will react to the news and try to react more quickly. A large stock price decline itself can scare investors into exaggerating the severity of a company’s problems. We need to remain rational and intellectually honest to decide whether to buy, hold or sell after a stock price decline.
Our investment criteria are explicit: predictability, business, people and price. By applying these, we can quickly narrow the list of addressable opportunities to a manageable size.
Predictability means the earnings of the company do not depend significantly on factors we cannot predict, such as the state of the macroeconomy, interest rates, foreign exchange rates and most technology changes.
Business basically means we’re looking for good businesses, and good businesses have two criteria. Number one, they provide a good or service that is going to be needed for as far as the eye can see. And number two, they have some special advantage in providing that good or service.
Then we’re looking for good people. These are good operators, good capital allocators, and people of integrity.
Finally, we’re looking for a good price. We use a 10-year cash flow model to figure out whether a company’s price is attractive. We realise that predicting anything over 10 years is difficult, so we try to be conservative and focus on companies that meet our other three criteria – predictable, high-quality businesses run by good people.
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