Uncovering the layers of noise that mask manager skill
I REMEMBER ONCE ‒ 15 years ago ‒ being asked by a financial journalist whether the investment industry couldn’t just come up with a nice simple measure to assess manager skill. Two things are remarkable about that request. First, to give the journalist some credit, was the fact he recognised that simply looking at a manager’s performance relative to a benchmark or even his peer group provided little insight ‒ even if we could dig up a long enough track record to ensure some statistical significance. The second is that the request was made 15 years ago and we still, as an industry, haven’t made much progress in delivering on that request.
That said, at a recent global round table for the CFA Institute (the worldwide body that oversees asset management qualifications and training) much was made of the fact that, while simple measures of skill still elude us, we now understand more than ever about what drives performance and how much “noise” exists in performance numbers. Ironically, the more we understand or “peel back” the more apparent it becomes as to how little information there is in performance numbers as a proxy for manager skill. Note that I haven’t said managers aren’t skilful ‒ it’s just that performance numbers do little to reveal its existence.
Now pause for just a second and consider how much value has been destroyed globally by investors chopping and changing managers because they didn’t understand that critical fact. Trustees, investment committees and investors owe it to themselves to get a better handle on the facts. What follows is a compendium of fresh insights about performance that have emerged over the past few years. Most benchmarks in SA or market-cap weighted benchmarks provide poor yardsticks against which to manage the skill There are two dynamics at work