Given increased volatility and a potential downturn, it seems we might soon see a shift away from passive funds. Does this mean equity research, particularly at an active manager, will be a good gig? Or is the overall downward trend of ER stronger?
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Considering active had an abysmal year of performance with
Active should outperform during volatile times since it differentiates good managers from bad. Take away what you will from that.
Well given that this is about the 100th time this has been asked since the start of 2017, if you're a contrarian, sentiment on active management seems to be quite poor...which would signal a good entry point.
Look, active management is somewhat of a 0 sum game, there's someone on the other side of every one of your trades....if you are right, they are wrong and vise versa...so it is simply not possible for every active manager to beat the market when they themselves are collectively the market (in addition to other players like retail investors and increasingly passive funds). Since I've been in the game for a few years now, I've talked to a lot of different guys, sell side, buy side, funds of all different sizes and strategies. I've come to the realization that despite the marketing pitches, the impressive backgrounds (top MBA, CFA, top undergrad), and whatever other accolades these guys push to gather assets, very few have a disciplined or differentiated strategy. You'd be shocked at how little diligence or rational basis is behind a lot of positioning out there, and I'm talking about guys that run a lot of money. If anything, it has reinforced my belief that good active managers can outperform at the expense of a lot of these clowns.
I'll add that it seems like a lot of managers got to where they are through one big bet or some kind of permanent view that has carried their performance...while the vast majority of their trades and ideas are garbage. I'll give you one specific example: I know a guy who's annualized return has beat the market since inception, which is around 1989 or so. How has he done it? He's permanently bullish on oil and permanently bearish on tech. That's it, that's the only reason he's outperformed. Massive outperformance when the tech bubble popped has continued to cushion his annualized return through to today, but he's outperformed like 3 years out of the last 15 since then. This is one example but there's numerous others with similar stories, think about how a fund would have done since the bottom of the tech bubble with a big bet on amazon that they never touched after that? None of that shit is repeatable, but it also doesn't show up in returns. You know what will always work? Buying good businesses at fair prices, and not getting sucked into investing fads or bubbles.
Guys that can adapt while staying true to the core of what investing really is, buying businesses that will increase in value, will always have a chance to outperform. Knowing what I know and having seen what I've seen out there, I sleep fine at night.
An optimistic response is always good to hear occasionally, so thanks for that.
With that said, how many of the changes that have occurred in this industry are cyclical and how many do you think are structural? You sound optimistic so I'm wondering what makes you feel that way. Genuinely curious.
Change can either create a threat or an opportunity, it depends on how you react to it. Think about the passive investment movement:
Is it a structural change that there is more passive money flowing into funds than ever before? Yes. Does indiscriminate buying by passive funds create price inefficiency? Yes. Do you need price inefficiency to generate alpha? Yes.
Also, if you reread my post, my optimism is more based upon the fact that I have come to realize that there is a lot of dumb money out there masquerading as smart money. A good, disciplined investor should be able to outperform at the expense of that dumb money. The media will highlight certain funds and then say active management is broken, but did those funds get notoriety in the first place because they made boring compounded returns or because they got one big call right and had some blowout year? You want to work for the fund that you've never read about in the WSJ that beats its index by 25-100 bps year after year and compounds that outperformance long-term into a solid track record.
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