Quantitative and Qualitative Analysis

Quantitative and Qualitative Analysis


Quantitative and Qualitative Analysis are both very important.

Absolute quantitative analysts look only at numbers with almost no consideration for the underlying business.

Although even fundamental analysis requires some numerical data. But the primary concern is always the underlying business, focusing on management’s expertise, the competitive environment, the market potential for new products. Quantitative analysts view these things as subjective judgments and instead focus on the undeniable physical data that can be analyzed.

But numbers can lie. 

If a backtest is not constructed carefully, or if too few years of data are used, backtest results will be unreliable.

Statistical bias can cause the results to be flawed. According to some research of The American Association of Individual Investors, there are two most common are look-ahead bias and survivorship bias. Look-ahead bias is when information that would not have been known or available during the period is analyzed.

For example, published fourth-quarter earnings are not available for most companies as of December 31 of any given calendar year. Because powerful companies perform to survive and small companies are usually obtained at a discount, a database, that includes only the survivors, will produce much stronger results for a backtest than if “non-survivors” were included.

Quantitative and Qualitative Analysis


Let’s see the differences between Quantitative and Qualitative Analysis.

Quantitative analysis involves looking at the hard numbers: anything from comp sheets and financial ratio analysis to complex discounted cash flow models and more. You’re looking at profits, margins, sales trends, present, and future values and such to gain insight into the meat and potatoes of the company’s business operations.

Qualitative analysis, on the other hand, requires understanding under the hard numbers to discover the qualities of the business. Because the qualities are finally what produce the quantitative results.

Qualitative analysis involves asking yourself questions like: “Do I understand the business?” “Does management have a lot of integrity and knowledge?” “Are management’s interests similar to my own?” “Am I under the influence of any psychological biases?” “Why are these numbers the way they are?”

Most investors rely essentially on quantitative analysis. Indeed, a whole new kind of stock market guru has made Wall Street who takes quantitative analysis to an entirely new level. 

They’re called quants.

The quants mix high finance with high-level mathematics and computer programming to profit off of short-term price fluctuations in the stock market.

The problem with strictly relying on quantitative data to invest is that data points are not illustrative of true understanding. A complete understanding of how a business works require a keen perception of the complexities of the company that cause those data to be the way they are. Qualitative analysis can help an investor figure out which data details they should focus on specific companies and industries. Also, can help generate good investing opportunities when a good company is temporarily clouded by poor financial ratios and performance.

It’s not enough to know that a company has returned 20% on equity compounded over the last 7 years. An investor must figure out exactly what elements caused those returns and how likely it is that they can be sustained.

But there are a large number of investors who look to the crossing between qualitative and quantitative analysis. They want to find the true story of what is going on with the business.

Let’s examine an investment which was large. For example Berkshire Hathaway’s investment in Coca Cola (KO) back in the late 1980s.

Coca Cola checked off all the quantitative boxes such as stable sales growth, low debt, and consistent and above average returns on invested capital.

Warren Buffett recognized that technology was changing at a permanent rate. But he also realized that the business of selling favorite ‘sugar water’ wasn’t going to be radically changed by developing technologies soon. 

As Buffett later said about the chewing gum business “the internet isn’t going to change the way we chew gum.”

Buffett used his typical greed when others were afraid to buy Coca Cola shares. At that time the company was undergoing some problems. A crowd opinion had formed against the stock. That led to a big reduced share price as a result.

Quantitative and Qualitative Analysis

Buffett saw great quantitative data, but many companies owned similarly great numbers. The key is that through qualitative analysis, Buffett was able to determine that Coca Cola’s attractive quantitative numbers, unlike those of numerous other businesses, were highly likely to be sustained for an extended period of time. And that is what made all the difference.

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