Top-Down Investing

What is 'Top-Down Investing'

Top-down investing is an investment approach that involves looking at the overall picture of the economy and then breaking down the various components into finer details. After looking at the big-picture conditions around the world, analysts examine different industrial sectors to select those that are forecast to outperform the market. From this point, they further analyze stocks of specific companies to choose potentially successful ones as investments.

BREAKING DOWN 'Top-Down Investing'

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, to identify high-performing sectors, industries or countries. Based on these variables, top-down investors reallocate monetary assets to earn capital gains from efficient asset allocation, 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 a top-down approach. 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 approach, many investors have found the top-down approach useful in determining the most promising sectors in a given market.

An Example of Top-Down Investing

For example, UBS hosted the 2016 UBS CIO Global Forum in Beverly Hills, California, to help investors navigate the current economic environment. The forum addressed macroeconomic factors that affect investors, including international governments, central banks, international companies, various monetary policies and the effects of the Brexit vote on the markets. 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, ruminated on the benefits of top-down investing on June 28, 2016.

Consumer discretionary stocks look 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 to see Home Depot as a good investment.