The investing world has been abuzz recently about the market’s sudden volatility. The madness has jolted many out of their complacent reverie - now, investors are wondering, is this a natural, healthy correction, or something more sinister? Are we headed for a recession? What does it all mean? Understandably, those who went through the disastrous financial crisis back in 2008-2009 are particularly skittish. At the time of writing (Monday afternoon, February 12 at around 3 pm Eastern time), the markets are in the green, with the Dow, S&P 500 and Nasdaq all up over 1% on the day. Nonetheless, we’re all sort of waiting with bated breath to see what happens next.

Except Andres Cardenal, CFA. As a quantitative investor, he doesn’t let his emotions get the best of him, even when the markets are being quirky. He follows a systematic, data-driven approach that’s actually the foundation of his Marketplace service, The Data Driven Investor, that keeps him on an even keel and prevents him from making, in his words “stupid decisions.” With an approach like that, there’s no need to hold one’s breath in fear.

Andres joined us on the Marketplace Roundtable to share his quantitative view of the world and explain how it can help investors protect their portfolios regardless of what the markets are doing. He also discussed how his data-driven strategies differ from a more traditional fundamentals-oriented approach, and shared his excitement about the tech sector and the powerful FAANG stocks, among others.

SA: It’s no secret, the markets are on a bit of a roller coaster ride these days. How does a systematic, quantitative, and data-driven approach investor like you stay the course despite the, for lack of a better word, insanity?

Andres Cardenal, CFA: In these kinds of market environments emotions can be your worst enemy, since fear and greed can lead you to making stupid decisions. In the words of Ben Graham: “The investor's chief problem, and even his worst enemy, is likely to be himself.”

A systematic approach to investing allows you to make buy and sell decisions based on cold-hard data and relying on systems with a proven ability to protect your capital through the ups and downs in the market.

No quantitative system is perfect or infallible, but the evidence shows that these systems can be remarkably effective at protecting your portfolio from big drawdowns.

This makes it much easier to sleep well at night knowing that you have well-designed plan of action for all kinds of environments.

SA: Putting on your economist’s hat for a moment, do you think this is the long-awaited market correction - or the end of the bull run - investors have been holding their breath for, or are there other factors at work here?

AC: I think the most likely scenario is that we are in a market correction, but the long-term bull market remains in place. Earnings season has been one of the strongest ones in history when it comes to the reported earnings data and forward-looking guidance from companies. Besides, economic data across the world is quite strong, with different regions and countries showing coordinated growth for the first time since 2007. The fundamentals remain healthy, but market sentiment got ahead of those fundamentals in recent months. Once market sentiment and prices are reset to more reasonable levels, I don't see why the long-term bull market should change its course.

SA: Has the recent volatility caused you to consider changes to your investing approach or the systems you use?

AC: Not at all. In fact, the best thing about a systematic approach to investing is that you know what to do in different market conditions. You just make a plan for different market environments and then you trade according to the plan.

SA: Let’s delve a bit deeper into the mechanics of your quantitative systems. How does your approach differ from that of say, more fundamentally-oriented investors?

AC: The main difference is probably that I start by measuring the data and what works in the market, only then I look for explanations. I first measure the what, and then I try to find out the why.

For example, companies with superior profitability levels tend to deliver above-average returns for investors. When I find a company with superior profitability I try to understand the main drivers behind that profitability in order to find out if it's sustainable or not. Maybe it's a differentiated brand, a superior business model, or scale advantages, among other possibilities.

My reasoning would be: "This company makes massive amounts of money, is it because of brand power?" A more traditional fundamental approach would be like saying, "This company has a great brand, it will make a lot of money in the future." But many times those assumptions turn out to be wrong, and the company can't really generate above-average profitability in a sustainable way.

SA: What criteria do you use to evaluate your ideas, and how do these help you find and vet specific opportunities?

AC: I start by focusing on the numbers across three key dimensions, financial quality, valuation, and fundamental momentum. These three factors need to be considered in conjunction, because they are interrelated. A company with superior quality obviously merits an above-average valuation, for example.

The numbers alone are not enough, you need to understand the main drivers behind those numbers in order to build a solid investment thesis. However, the numbers are absolutely necessary. I won't touch a stock based solely on assumptions about future performance. If the numbers are not there, I'm not interested in buying.

SA: You cover many of the big tech stocks - Apple (AAPL), Facebook (FB), Alphabet (GOOG) (GOOGL) and Alibaba (BABA), to name a few. Other authors have written that tech is an area to focus on in the coming year. What do you like about tech, and beyond the big names, do you see any other opportunities emerging in this sector that investors should pay attention to?

AC: Companies like Apple (AAPL), Alphabet (GOOG) (GOOGL), Alibaba (BABA), and Facebook (FB) are tremendously powerful, both in terms of financial resources and strategic positioning. They have access to massive amounts of data about their users behavior, and they operate in industries in which size and market leadership are key sources of competitive strength. The leading players tend to become strategically stronger over time, that's why these companies are producing tremendous revenue growth and stratospheric profitability. In addition, they have almost unlimited financial resources to invest in all kinds of growth projects and purchase both potential competitors and smaller companies with complementary technologies.

Beyond the big names, I think PayPal (PYPL) is an interesting candidate to consider, since the company is delivering accelerating growth and it has a lot of room for expansion over the long term.

Also, companies in cyclical niches such as Micron Technology (MU) and Lam Research (LRCX) are trading at aggressively low valuations while also reporting outstanding financial performance. It looks like the market is being too pessimistic about these companies and their potential over the middle term, and this could be creating a buying opportunity for investors with a high tolerance for short-term volatility.

SA: You wrote about market timing based on earnings in this article. If you ask most “conventional” or “conservative” investors, the idea of market timing tends to turn their stomachs, or at least make them really nervous. Would you call yourself a “market timer,” and if so, how do you make that approach work for you and your members?

AC: I'm not really a market timer in the traditional sense, since I never make any forecasts or speculation whatsoever about what the market will do in the future.

My quantitative systems are focused on evaluating market conditions and reacting accordingly, no crystal ball involved in the process.

The statistical data shows that market behavior changes depending on variables such earnings trends, and you can improve the risk and return equation in your portfolio by adjusting your exposure according to those earnings trends. Those are measurable facts based on statistical data. Past performance is no guarantee of future returns, but a system based on historical evidence is sounder than one based on speculation and market forecasts.

SA: What’s one current investment idea you’re excited about, and what’s the story?

AC: Everybody is talking about Artificial Intelligence (AI), but I don't think most people really understand the true magnitude of the AI revolution.

The technology is reaching a stage in which AI goes far beyond what human intelligence can not only do, but even comprehend. This is creating all kinds of opportunities and challenges that we probably can't even imagine nowadays. AI will have massive implications, not only for all kinds of businesses, but also in key areas such as health and geopolitics, among others.

Companies like Alphabet, Amazon (AMZN), Apple, and Facebook have access to the data, the technology, the human talent and the money to benefit from Artificial Intelligence in a big way over the years and decades ahead.

SA: Bonus question: I have to ask about the statement “naturally flavored” in your profile. What does that mean?

AC: It means that I believe in being honest to myself and to others as opposed to building a "personal brand" or something similar.

If you want to provide value in financial research you need to commit to saying what you really think in simple and straightforward terms as opposed to sounding like the smartest and most sophisticated guy in the world. This is even more important when making investing decisions. We are all making buy and sell decisions in a messy environment. You never buy at the exact bottom or sell at the exact top. If you make consistently smart decisions based on solid evidence you will generate a strong performance over the long term, but the markets can be quite challenging on a daily basis, especially in times of rising volatility. The main success driver is having enough conviction to stay on the right course through good and bad environments.

That's why members in The Data Driven Investor know in real time about any stock or ETF that I buy or sell for my personal portfolio. I think members deserve to know what I do with my own money.

Not because members should follow my decisions, everyone needs to invest according to her own strategy and risk tolerance. However, I believe in full transparency and having skin in the game, so I disclose my personal trades in real time.

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Thanks to Andres for hanging out with us on the Roundtable. If you want to read more of his work, you can check it out here. You can learn more about the exclusive content and ideas that he shares with subscribers to The Data Driven Investor by clicking here.

Disclosure: Andres Cardenal, CFA owns shares in Apple (AAPL), Alphabet (GOOG) (GOOGL), Alibaba (BABA), Amazon (AMZN), Facebook (FB), PayPal (PYPL), MIcron Technology (MU), and Lam Research (LRCX).