Active Management Required

FT-active-managerWe have all heard the arguments about the flaws of active management and we all should have looked closely at the underlying data. Over any random 12-month period, about 60 percent of mutual fund managers underperform. Lengthen the time period examined to 10 years and the proportion of managers who underperform rises to about 70 percent. Even worse, equity managers who underperform do so by roughly twice as much as the outperforming funds beat their chosen benchmarks and the success of the outperformers doesn’t tend to persist. The SPIVA Scorecard from S&P demonstrates this phenomenon regularly and routinely.

Institutional investors fare no better. On a risk-adjusted basis, 24 percent of funds fall significantly short of their chosen market benchmarks and have negative alpha, 75 percent of funds roughly match the market and have zero alpha, and well under 1 percent achieve superior results after costs—a number not significantly different from zero in a statistical sense. Pension fundshedge funds, endowments and private equity funds all provide similar outcomes in slightly different settings.

Meanwhile, and not surprisingly, assets are following performance. Just a decade or so ago, passive investing was a relatively small slice of the investment universe. On November 1, 2003, just 12 percent of all U.S. open-end mutual fund and ETF assets (not including fund-of-fund or money-market assets) were invested in passively managed products, according to Morningstar. Today that percentage stands at 27 percent and is growing fast. In the equity markets, fully 35 percent of all investments are now held in passive vehicles.

The obvious conclusion from all this data is that active management has lost. Sure, most money is still placed with active managers (at least for now), the story goes, but active management is like Nazi Germany after D-Day. The war wasn’t won (yet) and a lot of work remained to be done, but the outcome was inevitable. That narrative is prevalent throughout the investment world.

However, and to the contrary, I think active management is an absolute necessity. Continue reading

A Short Introduction to Investing (in 400 words)

  1. introduction“Investing successfully is really hard.” (Tadas Viskanta).
  2. “October: This is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August and February.” (Mark Twain).
  3. Manage risk first.
  4. In the shorter-term, markets are voting machines; in the longer-term, they are weighing machines.
  5. “Markets can remain irrational longer than you can remain solvent.” (John Maynard Keynes).
  6. We like to think we see things as they really are, but we actually see things as we really are.
  7. Information is cheap; meaning is expensive.
  8. There is always someone on the other side of a trade and that someone is often smarter and more well-informed than you are.
  9. Investing is both probabilistic and mean-reverting.
  10. Cut your losses; let your winners run.
  11. “Investment success accrues not so much to the brilliant as to the disciplined.” (William J. Bernstein).
  12. When you’ve won, stop playing.
  13. Diversification is the only free lunch in the markets.
  14. Data is more reliable than your gut.
  15. “The big money is not in the buying or the selling, but in the sitting.” (Jesse Livermore).
  16. Various market approaches work…until they don’t.
  17. Value process over outcome.
  18. “We must base our asset allocation not on the probabilities of choosing the right allocation but on the consequences of choosing the wrong allocation.” (Jack Bogle).
  19. It probably isn’t different this time.
  20. Fight the current war, not the last one.
  21. Make sure your facts are right and your data is good.
  22. “The time of maximum pessimism is the best time to buy, and the time of maximum optimism is the best time to sell.” (Franklin Templeton).
  23. Being exceptional requires doing things differently.
  24. You can be and often are wrong.
  25. Plan (and have contingency plans).
  26. “For the simplicity on this side of complexity, I wouldn’t give you a fig. But for simplicity on the other side of complexity, for that I would give you anything I have.” (Oliver Wendell Holmes, Sr.).
  27. Correlation is not causation; consensus is not truth; and what is conventional is rarely wisdom.
  28. We always know less than we think.
  29. “Never confuse genius with a bull market.” (Humphrey B. Neill).
  30. History doesn’t repeat, but it often rhymes.

The Financial Advice the Next Generation Needs

WilliamMy newest grandson (pictured left) was born on January 5, 2014. My latest Research magazine column, available here, is written for him and his generation.

“Our target clients aren’t under 30. That’s not where the money is. But ignoring them and their situations is shortsighted in the extreme. We should want them to become good clients, and the sooner the better.

“The best investment management, the best investment products and the best investment advice won’t mean much to and for those who don’t save and invest a lot and early, and who don’t stay out of debt. If we want to improve the prospects for our profession today and going forward, we need to get this message out. If we want to provide real and tangible benefits for society as a whole now and into the future, we need to get this message out. If we simply want to do the right thing, we need to get this message out.”

We need to get this message out.

The Financial Advice the Next Generation Needs

Paradigm Shifting

I grew up in the investment business in the early 1990s on the ginormous fixed income trading floor at the then Merrill Lynch in the World Financial Center in New York City.  It was a culture of trading and instant gratification. “What have you done for me lately?” covered no more than that day, often less. I frequently argued that we should consider the interests of our customers – among of the biggest investment managers, pension funds and insurance companies in the world – in our dealings so as to build long-term relationships and enhance longer-term profitability even if it meant making a little less in the near-term.

I got nowhere.

Liar's PokerWe called our accounts “clients” to their faces, and I thought of them that way, but they were customers at best and marks at worst to virtually everyone on the floor, and especially to our managers.  We didn’t call them “muppets” like the guys (and it was almost all guys then) came to at Goldman Sachs, but we may as well have. Our mission was clear.  We were to make as much money for the firm as we could as quickly as we could. Lunch was a long-range plan.  In his first and funniest book, Liar’s Poker, about our counterparts at Salomon Brothers, Michael Lewis got the tone, the approach and the atmosphere precisely right. Continue reading

Top Ten Benefits Of Financial Advisors, Besides Investment Returns

Thank YouAs I have noted here many times, I am a big fan of Michael Kitces and his blog, Nerd’s Eye View.  If you aren’t a regular reader of it, you should be.  Michael is my “go to” guy for financial planning issues and concerns.  He is as talented and knowledgeable as they come.  That’s why I was so pleased that he asked me (unlike yesterday) to allow him to use my Financial Advice: A Top Ten List as a guest blog post.  I was honored and (of course) agreed.  The link is below.  Thank you Michael.

Top Ten Benefits Of Financial Advisors, Besides Investment Returns

Unintended Consequence

Unintended ConsequenceLIMRA recently surveyed 2,000 Americans to gauge their knowledge of basic financial and retirement topics.  Not surprisingly, the respondents didn’t do very well.

However, the study did disclose that those who work with a financial professional were more likely to have a higher level of financial literacy. More specifically, consumers who use advisors are more likely to save for retirement (78 percent versus 43 percent), are likely to save at a higher rate (61 percent versus 38 percent) and feel more confident that their savings will last throughout their retirement years (71 percent versus 43 percent).  Even so, 8 out of 10 respondents say they only would pay $100 or less for financial advice. Continue reading