Sunday, September 06, 2020

Why Waste Time On Fund Managers & Other Experts



   







“Economists, when faced with a conflict between theory and evidence, discard the theory. Stockbrokers discard the evidence.” 



Some people are obessed with "beating the market". I mean, it is just beating a mean average of a basket of stocks. It means in a normal class of smart ones, savants, the humdrum and idiots ... the very middle of the class. You'd think  being happy is being in 25th position out of a class of 50??? Hence, the index is not even a "very hard level", its the average of the mediocre. 

And yet ... the majority, ..no, no... the vast majority of professional fund managers and so called experts FAIL to beat the S&P500 year in year out. Still, textbooks and business schools prescribe fundamental valuations, various models to measure risk and performance, blah, blah ... just so we can probably underperform the index.

How hard is it. S&P500 is just 500 stocks. It is not studying for a 5 year medical degree. So why is the media, our parents, the biz journalists, the big corporates ... all still kowtowing to these professionals for opinions and soundbites. Just go and watch 10 minutes of Bloomberg TV or CNBC, and know full well that the majority of these people cannot even outperform the index. 

If Mercedes Benz produces cars that almost always barely make the mean average of car quality..., even with their marketing efforts, I am sure the car company would tank. Why is the public giving so much room for forgiveness to these business experts (and yes, you can put chartists in that group too).



This table above is even more damning. Its not that I just simply select a year to whack these funds. Go take any year, any kind of table summation - it is consistently the same result. Only, this one is more galling. You can spend USD100,000-150,000 a year for 2 or 3 years to learn about management, business strategies, valuations, to gain the latest advancements and theories on processes, marketing and companies ... so that you can underperform the index.

Look at these huge fund managers. These are the managers selected by the so called best business minds, I mean they are the gurus of business world. Its a bit like the USA presidency, you set up debates, other vetting obstacles and hurdles, primaries ... blah blah... and you still come up with a Trump.


https://www.barrons.com/articles/3-big-actively-managed-mutual-funds-that-are-beating-the-s-p-500-51573842353  Nearly all of the top 20 actively managed equity mutual funds in the U.S., as ranked by assets, are behind the S&P 500 index’s 23.2% return through October. All but three, that is. The market beaters— Fidelity Growth Company (ticker: FDGRX), Vanguard Dividend Growth (VDIGX), and T. Rowe Price Mid-Cap Growth (RPMGX)—are also topping the S&P 500 over the past one and five years. The Fidelity and T. Rowe Price funds are ahead for the past 10 years, as well, Morningstar data show. All three benefit from having long-tenured portfolio managers. Only one, Vanguard Dividend Growth, is open to new investors, however.



 “Why does indexing outmaneuver the best minds on Wall Street? Paradoxically, it is because the best and brightest in the financial community have made the stock market very efficient. When information arises about individual stocks or the market as a whole, it gets reflected in stock prices without delay, making one stock as reasonably priced as another. Active managers who frequently shift from security to security actually detract from performance (vs. an index fund) by incurring transaction costs.” ~Burton Malkiel, Professor, Princeton


FEES

This often cited excuse for under performance. The various fees in a trade kills the returns, they say. The more you trade, the worse it gets. Fair enough. Just how big are the fees, esp in USA where zero commissions is the norm.


TAXES

Taxes are another major barrier to beating the market. When you pay tax on your investment returns, you lose a significant percentage of your profit. The capital gains tax rate is 15% to 20%, unless your income is very low. And that's the tax on investments held for at least one year. Stocks held for a shorter-term are taxed as ordinary income.


THE MOST PLAUSIBLE REASON

To me, the most plausible reason for active fund managers underperforming the benchmark is investors' psychology. Market psychology is very difficult to predict properly. A super computer can predict and manage risk by rebalancing the portfolio almost automatically. But how to gauge and react to the "fear of missing out", the rush to thematic plays, the inability to stay true to the "buy low sell high" mantra owing to "market noise".


WHAT ABOUT ....

What about Peter Lynch, Warren Buffett, etc ... They may be unicorns. They may be the 2% who can beat the market. Or most likely, they have SUPERIOR INFORMATION FLOW. Yes, I am not trying to belittle their market savvy or brain power ... Initially they may do well when they are small in fund size, to continue to do well when they get much bigger (e.g. USD500m or more), you need access to superior information flow. Everyone in the industry knows that the market is never the same for ALL. Some people somewhere will always be slightly ahead of the curve.

Experts who can read and predict trends and turns are very few. I like Taleb (Black Swans) and El-Erian (Allianz/PIMCO). Many can regurgitate expert sounding terms and articulate safe statements. Some scream out their shock statements just to stand out but have no pull. The key is to present your thoughts clearly and the process of arriving to their conclusions must be persuasive. It has to be logically persuasive, you can feel it in your gut. It is the discipline to search for the most plausible reasoning process and eliminating the rest, and having that opinion or platform being challenged to more vigorous counter arguments.

The ultimate study... over a 15 year period, 92%-97% of all funds, big or small, did not manage to beat their respective benchmarks.


MY VIEW

In my opinion, it is clear that there are so many more super performers, just that they happen to be individuals. In a world where the normal index gains just 5%-15% a year, I am so certain there are plenty who got 50%-500% a year. They may be fundamentals worshippers, trend players, chartists, momentum driven traders, special events traders, etc... YOU CAN ONLY DO SUPERIOR OUTPERFORMANCE when you are SMALLISH IN SIZE OF FUNDS! Remember that. 

Being small allows you to take very few swings at the bat, thus easier to pick home runs. When you get big, a fund will find it very hard to outperform because you cannot just put 30% into one stock. You will not be able to access stocks that are too small in market capitalisation. You may find some companies cannot take your minimum liquidity sizing. 

Besides being small, it is very likely you can get superior returns by investing in smaller companies cause the bigger ones are crowded and filled with too many old crocs.

It is also the same when you are doing individual investing. Its easier to get supernormal returns when your portfolio size is 1 million or less. As you get to say 20 million or 50 million it gets a lot harder.

So, my advice to private investors. Invest on your own if you want superior returns but make sure you arm yourself with the necessary knowledge, weapons, sector knowledge and updated information flow. If you want to get big returns, do it yourself and usually never with big caps, stay with the medium or small caps.

If you can't get good results, maybe private investing is not for you. Pick an
index fund and go do other things.

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