In high-flying markets, the forgotten investors may be the wisest of all
I was reading the Chou Funds annual report this week. Francis Chou is someone I know and have followed for many years. He’s got a great long-term record, although it’s taken a hit recently. As a result, he’s not topping the charts right now and you don’t hear much about him.
I mention him because it shows a behavioural tendency we have — we like to follow people who are doing well. The quarterback who’s winning. The actress who is getting the nominations. And the analysts, portfolio managers and strategists who are seen to have been correct in recent years and/ or whose returns are first quartile.
But what about the previously brilliant? The people who were topping the charts a few years ago. Are they suddenly less intelligent because they’re going through a rough patch? Is their analysis any less thorough?
Well, maybe some have lost their mojo, but for the most part, the answer is no. There’s valuable information and insights to be found in the shadows of obscurity.
Before you accuse me of being a raging contrarian, may I remind you that the top money managers in the world underperform 3-5 out of every 10 years, including the best of them all, Warren Buffett. Their most compelling observations often come when they’re in the doghouse because they’re non-consensus. And their portfolios represent the best value when nobody is watching.
INPUT DIVERSIFICATION
In this world of customized news feeds and polarized media, it’s easy to read only things that support your view. But that makes no sense. You want to diversify your reading just like you diversify your portfolio. Not everyone you follow should be on a roll, just as not everything in your portfolio should be performing.
Keep in mind, you don’t have to agree with the conclusions. What you’re trying to do is mine their work for nuggets that will inform your own view.
CONDITIONAL LOVE
I’m not suggesting you blindly seek out everyone who is out of favour (although it may not be a bad strategy). I won’t stick with someone just because they were good once. My contrarianism has conditions.
The forgotten must be doing the same thing they were when they were successful. For example, I’m not interested in a rock star stock picker who is now a strategist. It’s important that they’re sticking to a tried and true philosophy, no capitulating and moving to the centre.
And importantly, I’m looking for people who are saying things I’m not hearing elsewhere.
SEARCHING FOR NON-CONSENSUS
I see a lot of managers over the course of a year and sometimes distinctive trends emerge. Last year, growth-oriented managers were riding high, which means they sounded smarter and their investment process oozed logic. Conversely, managers on the other end of the spectrum, often referred to as value managers, had a very different body language. They were on their heels. Their winners sounded less compelling and their losers, well, they looked like unforced errors.
I’m aware of this potential bias and am careful not to ascribe too much brilliance to the former category and too little to the latter. So in addition to following the managers who owned the high-flying technology and consumer brand companies, I kept in touch with what the value managers were doing, including Francis Chou, Seth Klarman (Baupost Group), Mason Hawkins and his team (Longleaf Funds), and Jeremy Grantham and James Montier at GMO.
Other fertile territory for nonconsensus views are the newsletters of outspoken fund managers. Bill Gross, the (former) king of bonds, and John Thiessen, who runs the Vertex Fund, never hold back, which makes for interesting reading and tense discussions with the marketing department. And of course, short sellers are the ones with the most radically different views. It’s no fun hearing them colourfully eviscerate one of our holdings, or question a theme we’re pursuing, but it’s a good gut check.
It’s important that you diversify your information sources. You’ll have to work harder at it and go where you don’t normally tread, but it’ll be worth it.