INVESTOR’S NOTEBOOK STEPHEN CRANSTON
Everybody gets information from publicly traded companies at the same time
All credit to Armien Tyer at Absa for persuading the author Charles Ellis to come to his investment conference. Ellis is well known for his door-stoppers on the Capital Group and Goldman Sachs. But he also wrote the more manageable Winning the Loser’s Game about active investment management. Over time, however, he has become increasingly disillusioned about the ability of active managers to add value. He says that the top 1%-2% of active managers should carry on, but for the rest it is extremely tough: there are 320,000 Bloomberg terminals and even small shops have their own trading algorithms.
Everybody gets information from publicly traded companies at the same time. Ellis says it was much easier to beat the market in the 1930s, when more than 90% of trading was carried out by private clients, than it is today, when turnover is 98% accounted for by professional investors. In fact, over the past 20 years in the US, 80% of funds have underperformed their benchmark — with, as Ellis points out, the losers losing 150% more than the winners have gained.
Ellis says it is time the investment industry recognised the value of indexing as an implementation vehicle: the costs are lower and the risk of blunder significantly reduced.
It also allows fund managers to concentrate on the important issues which add far more value at less risk than stockpicking, such as developing a strategic asset allocation appropriate to each client and understanding the real goals and tolerance for risk.
Ellis says that client fees for mutual funds (unit trusts) are going down, but this is a function of the move towards cheaper index products; there is no evidence that traditional active funds are getting any cheaper. He raises the point that it is time to review the practice by unit trusts to charge based on percentage of assets instead of on some other methodology such as the amount of time involved.
I certainly believe it is time that intermediaries, at least, made that change. Ellis says that the best bit of marketing recently was the coining of the phrase “smart beta” for an investment approach that was previously known by the deathly dull name of “factor investing” — almost as seminal as the moment when someone renamed “death cover” as “life insurance”.
It seems to make sense that by overlaying factors such as value, momentum and liquidity on an index, managers can generate better returns. But Ellis says it is very hard to time exposure to these factors, so it is not as easy for smart beta to outperform as it is in theory.
One of the arguments used by active managers is that as more and more of the market goes passive, the opportunities for active managers to outperform will increase. Ellis says that of course he would like to be the last active manager standing, but the active industry will have a slow death, propped up by its army of marketers.
I have reservations about panel discussions at the best of times, but I think they hit new lows at the recent Absa investment conference. The chairman is supposed to play a neutral role, and stick to asking the questions. He is not supposed to reveal what he thinks.
Unfortunately the chairman of a session on regulation, Rob Rusconi, seemed to think he was the main speaker and the panel was just an echo chamber. Rusconi is dangerously hyperactive for an actuary. And Anne Cabot-Alletzhauser from Alexander Forbes, who chaired a session on active management, threatened (or perhaps promised) to spank all five panellists. Since when does the moderator of a panel discussion have judicial powers?