Top-Down Investing

Top-down investing is an investment analysis approach that involves looking first at the macro picture of the economy, and then looking at the smaller factors in finer detail. After looking at the big-picture conditions around the world, analysts next examine the general market conditions followed by particular industrial sectors to select those that are forecast to outperform the market. From this point, they further analyze the stocks of specific companies to choose potentially successful ones as investments by looking last at a particular company's fundamentals. Top-down approaches prioritize macroeconomic or market-level factors most.

Top-down investing can be contrasted with the bottom-up approach, which starts first with a company's fundamentals, where most of the emphasis is put, and then works its way up through the structural hierarchy, looking at macro-global economic factors last.

When looking at the bigger picture, investors use macroeconomic variables, such as GDP, trade balances, currency movements, inflation, interest rates and other aspects of the economy. Then it works down a level to identify high-performing sectors, industries, or regions within the macroeconomy. Based on these factors, top-down investors allocate investments from efficient diversified asset allocations, rather than by analyzing and betting on specific companies. For example, if economic growth in Asia is better than the domestic growth in the United States, an investor might shift his assets internationally by purchasing exchange-traded funds (ETFs) that track specific Asian countries.

Bottom-up investing is an opposite strategy to top-down. Practitioners of the bottom-up approach ignore macroeconomic factors and instead look at individual microeconomic factors that affect specific companies they're watching. For example, a bottom-up investor chooses a company and then looks at its financial health, supply, demand and other factors over a specified time period. Although there is some debate as to whether the top-down approach is better than the bottom-up strategy, many investors have found top-down useful in determining the most promising sectors in a given market.

Top-down investing may produce a more long-term or strategic portfolio, including more passive indexed strategies, while a bottom-up approach may lead to more tactical, actively managed strategies.

For example, UBS hosted the 2016 UBS CIO Global Forum in Beverly Hills, Calif., to help investors navigate the current economic environment. The forum addressed macroeconomic factors that affect markets, including international government policy, central bank policy, international market performance and the effects of the Brexit vote on the global economy. The way in which UBS addressed these economic factors supports a top-down investment strategy.

Jeremy Zirin, a wealth manager who is part of UBS Wealth Management Americas, reflected on the benefits of top-down investing on June 28, 2016. Consumer discretionary stocks looked attractive to Zirin and his team, who implemented a top-down approach to identify strong consumer discretionary investments. His team took into account the above macroeconomic factors and saw that consumer discretionary was insulated from international risks and was bolstered by American consumers' spending power. Identifying this sector allowed him and his team ultimately to identify Home Depot as a good investment.