The Secret Chief Executive Officer (CEO) is an occasional column which recounts the personal experiences of a former CEO of asset management groups. These are their subjective views based on decades of experience. While the managers they mention are more familiar to UK investors, their lessons are universal.
In two excellent recent articles, our Secret CIO offers the insights of a seasoned investment professional into what makes a good, bad or ugly portfolio manager.
Understanding how to identify this rare breed of good managers is certainly a challenge for CIOs and CEOs but also for fund selectors. Insiders like the Secret CIO are equipped through direct experience to face this challenge. But for the outsider looking in, it is undoubtedly more difficult. I would therefore like to add some of my own perspectives as an insider, with my fund selector hat on.
Many of the Secret CIO’s insights resonate strongly with me. I will add a few of my own aphorisms to the discussion complemented by some real life anecdotes which best capture my experiences.
It’s not the view, it’s how you manage the position
I strongly believe that having the ‘right’ view is only a part of investment success – far more important is what you do with the investment position you have taken.
I demonstrated this to a particularly loudmouthed young dealer on our FX desk who pontificated his (borrowed) market views with the arrogance that often comes with someone who has never actually taken risk. I told him his views didn’t matter – to demonstrate this I said I would buy and sell at the same time sterling against the dollar and make money on both. Sceptically, he gave me a market quote and I dealt. As soon as one side ticked onside I closed it and sat and waited for the other side to come into profit – I would have been extremely unlucky if I had picked an all-time market top or bottom for this stunt.
Of course this was not a viable investment process – but it made the point. Bad ideas are an occupational hazard, but I have seen many smart and fundamentally sound views turned into losses by poor position management in the face of market volatility.
High quality research and taking risk are not the same
There is so much more to successful money management than being a (very) clever analyst. Some years ago I built up a large and pretty smart equity research team to support our portfolio managers, hiring mainly from the investment bankers.
They were doing a good job and soon they were demanding their own fund to reflect their views – why should the portfolio managers have all the fun and credit! I insisted they trade a dummy portfolio first.
After three months of good performance they applied pressure for real money - I told them it wasn’t long enough. After six months the pressure grew, but I said they would have to wait. After nine months of good performance the pressure became almost unbearable - I told them they needed to complete a year.
Then came the crash of 2008. They panicked out of their positions at the worst time and never recovered. Shell-shocked, the team withdrew to their day jobs and never spoke of real money again.
There is not one way of successfully managing money, there is only your way
Do not go looking for the Holy Grail, the single truth to outperforming. I have observed a variety of successful ways, from highly structured team processes to algorithmic/quantitative trading; from rule based factor filtering to star man qualitative individual judgement.
They all have the capacity to succeed (and to fail). Find your way, your belief in how to extract value from investing and express it consistently in your portfolio management (the Good).
I recall letting a young equity manager go even though his fund was outperforming its benchmark. Listening to his explanation for his portfolio activity, I could not discern a core belief – there was a different story all the time, often about the same position (the Bad). In my experience, it would only be a matter of time before the portfolio suffered.
Stick to what you know and do best
Adding alpha consistently and over the long term is hard, very hard. Those that can do it have found their way and they stick to it – it might be a specific market or sector, style or process. For this reason, as a fund selector I am very sensitive to any evidence of style drift or claims of skill transferability.
As soon as Anthony Bolton announced he would no longer manage the Fidelity Special Situations fund - probably the most successful manager of any fund in the UK over the past 30 years – I sold every unit I owned for every portfolio for which I was responsible, even though at the time it was my single largest holding.
I did not wait to see whether the new manager represented a ‘smooth transition’, and nor did I follow Bolton into his China Special Situations trust – my rudimentary geography told me that China was some way away from where Anthony had applied his successful career for so long.
When Neil Woodford left Invesco Perpetual, I immediately sold all my units in his Income funds. In this case I did follow Neil into his new Woodford Equity Income fund, as this was his home territory, but I did not buy into his Patient Capital investment trust as to me this represented a new strategy in which Woodford would have to prove his capability before I committed money. Arrogance and modesty can live together – good managers know and respect their limitations.
Fund selection is not always in the CVs or the numbers, although the numbers are important. I will not consider a fund or product unless I see good long-term, consistent performance from the same manager or team. But these should only be used to filter managers and to validate your judgement of the process and people.
It’s about understanding the core belief in the process, seeing it implemented with discipline while avoiding the temptation to drift. Understand position and risk management – ask why stocks are bought, why and when they are sold and see if that is what you observe in the portfolio. And above all, as a fund selector, whatever standards you demand from fund managers, apply them also to your selection process.