However, as the chief investment officer and chief executive respectively at quantitative money management firm O’Shaughnessy Asset Management, they have plenty to offer beyond their social media popularity.
Jim O’Shaughnessy, who started out in quantitative management back in 1987, when ‘quant investing’ was still an esoteric term, is also the author of four best-selling finance books: Invest Like the Best, What Works on Wall Street, How to Retire Rich and Predicting the Markets of Tomorrow.
Much like his writing, Jim’s 30-year career in investing has been driven by an endless curiosity. ‘We want to find as much empirical evidence that supports certain ways of selecting securities and – equally importantly – of ignoring securities that would fail under our screen. We want to do that in a dispassionate and unemotional way,’ he says.
‘My take on the same idea is that quantitative processes are an exercise in gathering as much interesting and unique data as we can on publicly traded companies over as long a period as we can,’ adds Patrick O’Shaughnessy, who became chief executive of the firm in January.
Like his father, Patrick has made a name for himself as a writer and as host of the popular podcast Invest Like The Best, which has been downloaded more than 5 million times.
As CEO, Patrick still sticks to the same investment philosophy that his father laid down, but he has also set the goal of improving the three core components of the firm’s process – data, technology and people – every single year.
‘Raw data is not all that helpful if you don't know how to analyze it and sift through it,’ he says. ‘And yes, it’s a quantitative process, but it’s people that build the models.’
The duo puts its models to work in a number of strategies, including the firm’s largest, which is available via SMAs and the $143.8 million O’Shaughnessy Market Leaders Value fund.
Launched in 2016, the fund is ranked 17th out of the 102 Multi-Cap Value funds tracked by Citywire for one-year total returns to the end of September 2018. Over that period, it has returned 13.8% versus the average fund in the category’s 9.5%.
The quant model implemented in the strategy can be broken down into four distinctive steps.
As with any strategy, the first step is establishing the investment universe, which in the case of the Market Leaders Value strategy is a list of US large-cap companies.
The investment team then prunes that list down by eliminating ‘bad companies’ using metrics such as valuation, price momentum, earnings growth, financial strength and earnings quality. That elimination process may seem fairly standard, but the firm leans more toward kicking out stocks that score poorly than favoring any particular criteria at this stage.
‘What we have found is that the predictive signals – value, quality and momentum – are actually most useful on the negative side of the ledger,’ Patrick says. ‘What that means is that if you can eliminate companies with really bad balance sheets or really poor quality businesses, or that are trading at crazy expensive multiples, then you can gain a lot versus the broad market as opposed to simply buying the absolute best balance sheets or the companies with the highest returns on capital.’
Following the elimination stage, the team narrows down the remaining stocks even further to identify the ones with the highest shareholder yield, which is a metric calculated as the sum of a company’s dividend yield (annual dividend) and its buyback yield (annual rate of stock buybacks).
Getting something back
The firm’s focus on shareholder yield stems from its belief in companies with the most appropriate and disciplined capital allocation strategies.
‘If you see a CEO on the cover of a magazine, it’s very often because of their operating success. You rarely read about a CEO who is just really good at taking the cash that the business has generated and reallocating it – whether that’s returning it to shareholders, making new investments or paying down debt,’ Patrick explains.
‘Capital allocation is less sexy but a very important part of the CEO and management team’s job. We like to follow those strategies very closely and focus on those companies that we feel are really disciplined about it,’ he adds. ‘The way that manifests itself is that we focus on companies with what we call a very high shareholder yield.’
Jim, who has written about the power of shareholder yield in his books, adds: ‘What we have found is that shareholder yield is really one of the best capital allocation choices that a cheap, well-run company can make.
‘That doesn’t mean we think companies shouldn’t spend on R&D, and it doesn’t mean we think they shouldn’t pay down debt,’ he says. ‘But it does mean, for the most part, that when you look at the numbers for empire-builders – people who go out and acquire companies – usually that’s more of an ego trip. Statistically speaking, it doesn’t tend to lead to good results.’
The final step in the O’Shaughnessy model involves the investment team selecting between 50 and 70 stocks with what they deem to be the best and most consistent factor profiles. While doing so, they endeavor to remain constantly mindful of sector and industry exposures – a source of risk that the team aims to reduce as much as possible.
Weighing it all up
The portfolio construction process does not end there. Next comes a formulaic weighting methodology, which allocates to stocks based on a ranking of their factor profiles.
‘If you look at the portfolio itself, you’ll see that the top 10 holdings will often have weights of 3.5% or 4%, which is a lot more than equal weight, and then the other side of the portfolio will be smaller,’ Patrick explains.
‘We’re going to own more of a stock if it’s more consistent in terms of meeting our criteria and if it’s qualifying for our criteria more recently, so time is an important function for us. What I know today is more valuable than what I knew six months ago,’ he says.
Despite overweighting stocks with more favorable profiles, both Jim and Patrick emphasize that the firm has never been seduced by a ‘sexy stock narrative.’
‘One of the strongest things in the human DNA is our love of a narrative. We love great stories and we get seduced by them,’ Jim explains. ‘We have safeguarded ourselves against that happening to us, which is an important but kind of invisible advantage.’
The veteran investor recalls a time shortly before the stock market crash of 1987 when he allowed his emotions to overwhelm his reason. It taught him a lesson that ultimately transformed him into a quant. ‘I had put together a very large put position, but I sold it literally the day before the crash. I did that for purely emotional reasons,’ Jim recalls. ‘In hindsight, it was probably the best thing that ever happened to me, because it showed me that even though I thought of myself as a very systematic person, your emotions can overwhelm you if you don’t have real discipline.’
It’s a lesson that Patrick seems to have taken to heart as well, and not just in investing. Whether interviewing professionals from all walks of life on his podcast or managing the company that he started at as an intern more than a decade ago, the younger O’Shaughnessy has learned to deal with everything rationally and methodically. The same applies when handling his critics, who have suggested that he had an unfair advantage in becoming the chief executive of his father’s company.
‘There’s really nothing to say. There’s really only an example to set. I would never want to stand on anything but what I’ve actually done,’ Patrick says. ‘And that’s how I think about it: I’ve had an unfair advantage to begin with, but I recognize that and I’ve done the most that I possibly can with that advantage.’
Head of investment research, Citywire
It’s clear that this strategy has delivered tremendous value – no pun intended – to those that have been in it since its launch as an SMA. It’s also clear that it has had a good start to life as a 40 Act fund, during a period when value strategies have generally struggled.
This and the O’Shaughnessy family’s notoriety has resulted in net inflows in all but one quarter since launch.
With investors increasingly worried about how straightforward index-following passive strategies will fare in a correction, a quantitative or smart beta strategy might look increasingly attractive.