A reader asked the following question about advisers using actively managed mutual funds;
(could you) discuss a little about Planners using funds that are actively managed, but really only out perform 3% or so as opposed to "real" investors that go off script. I have viewed this as a business risk v. doing what you should for your clients.
I'm not entirely sure what is being asked so I'll just wing it. Broad based, actively managed funds are very problematic. There are of course the statistics about actively managed funds lagging the market. That seems like the sort of thing that while probably true there might be more to the story like risk adjusted returns and maybe even data mining.
From my point of view the problems arise in constructing the portfolio. If you own a bunch different funds you may still have all sorts of overlap. Many fund companies honing in on the same areas and then those being the wrong areas to favor is far from an outlying event. Additionally if you own several funds from the same fund company the chances of the same names showing up (it's the same research department after all) in funds with seemingly different objectives is also far from an outlying event.
Another issue is never knowing what you own. Most funds disclose holdings two or four times a year. You're always several months behind knowing what is in your funds. Also there is no way to do any forward looking analysis with an actively managed fund. How many times have you heard someone from Morningstar say something along the lines of "well the fund had a bad year but we think the manager will turns things around so we like the fund." That could turn out to be true of course but it is a guess. There is no way to do forward looking analysis on a fund, no way to know what a manager will do six months from now.
This is not to say that active fund managers are bad or whatever, some are obviously better than good, some are mediocre and some are lousy. The issues above regarding holdings and overlap apply to whatever mutual fund you think is the best one. It may not be a problem very often but it is always an issue.
This is not, in my opinion, necessarily the same type of obstacle for narrower funds. A domestic financial sector fund is always going to own domestic financial stocks--maybe the right stocks or maybe not but it will always be a narrow proxy for, in this case, domestic financials.
10 comments:
Roger- the following is an excerpt from Tom Drake's blog today. Tom may not have the blog reputation of a Mish, Ritholtz, etc... however his insight is excellent.
http://twocents.blogs.com/
"The stimulus, or "porkulus", program is a very generous, un-focused, political jesture to prove to history that "we did something". It consists of throwing good money after bad, as the saying goes. I repeat: how can pouring more debt onto a problem caused by too much debt help things? It can't, as any weekend economist can readily understand. It can only add to the evidence of the national decline. Once that is clear, investment reality shifts gears into survival mode. I don't want to go into that here full tilt at this time. First of all I am not a financial advisor. I'm a private investor/citizen thinking for myself and my family. Secondly, it has not sunk in yet for most people what is going to play out, so we still have some time to think hard and plan.
For now I'm still in very short term (approximately one year) Federal and municipal notes with much higher than TBill rates. But I am long gold and royalty stocks in metals and energy. I have small "black swan" positions in non-US and non-Euro currencies. I am nervous and thinking constantly,awaiting the next non-surprise. The stimulus passage today,the short term tidal cycle,and seasonal considerations could lift stock markets out of this gloom for a while. Whether one trades it or not is a personal matter, but if it happens it's an opportunity to reallocate."
"Recently, I read some history books about major crises in European history since the Great Renaissance and also the then-British colonies in North America. In any century since the Great Renaissance there was at least one major deflationary depression encompassing all of the continent. It often lead to a change in the dominance of power (which country would be the leading one). The crises always lasted for years and erased the price gains of predesessing inflations completely (if the currency/government survived at all). It also almost all the time lead to persecutions of the Jews, which served as easy scapegoats and some Jews were in creditor positions. That was a lethal combination.
We're in for a lot more pain for more than 2 more years at least. It is everybody's guess how many governments and/or currencies will survive this."
Great chart today at the big picture...
http://www.ritholtz.com/blog/2009/02/sp500-q4-earnings-collapse/
anon 820 - I also saw something over at Marketwatch that this will be the first negative earnings quarter ever for the S&P 500. To date, the quarterly loss is about $10 / share. Even excluding financials the loss is $2 / share. Remarkable times...
When past performance is the primary method of discerning manager quality there is always going to be a problem with estimating randomness and survivor bias. The former is always a possibility even for DYI'ers -- it is just as possible to toss heads ten times in a row with a fair coin as any other specific combination of heads/tails so the very next call could go against you -- and the only way to counteract the latter is to pay close attention to the manager's investing style and make a judgement call as to whether it is appropriate -- meaning it has some reasonable chance of success -- in the current investing climate (note, survivor bias is the reason negative earnings quarters are 'unusual' for the S&P).
As to the stimulus debate, watching the Republicans rediscover the virtue of fiscal discipline after decades of gross dereliction and sin has been even more amusing than watching their rebirth as 'obstructionists' now that they are out of power but no one should be distracted by talking points regarding the bill just passed: At barely 2% of GDP it would only make up, at most, one fourth of the capacity shortfall over the next two years even if all of it were dedicated to productive spending so whether you regard it as ham or mana from heaven expect a modest impact at most and possibly a somewhat slower growth in unemployment, that will be about it IMO.
I certainly see no reason to adjust my strategic portfolio in consequence (it's similar to Drake's in several respects) but that has been the case ever since it became clear the 2003 bull was cyclical and we remained in a (then) decade-long secular bear (now 12-year, I tend to count from 1998 when everything but the mega-caps and tech hotties started rolling over). If monetary and fiscal policy had been rational, or at least willing to accept some pain, in 2001 then my allocations would be different and Dubya might have left his predecessor a growing economy instead of one that still feels like it is teetering on the brink of disaster but since all we got were more tax cuts and more wars it was just bugger all.
Given lemon capitalism you squeeze what juice you can and hope you can find enough sugar to keep it from tearing your lips off; that's the way it is.
And my mother-in-law fell at the home this morning, requiring stitches, and my wife is deeply upset (thank god I remembered to order flowers yesterday).
Happy Valentines Day (if I weren't still making money I'd be worried and pissed off instead of merely bah humbug but beg forgiveness anyway).
I meant "successor" rather than "predecessor" in the above but perhaps it's like Lost and I'm actually in a different time now ...who knows, things do indeed feel rather unusual these days.
Well I'll be darned. We actually found someone who thinks economic stimulus isn't needed - Twocents blog guy. Well, I guess someone has to choose the contrarian position.
Roger,
Since my company follows this closely I thought I would pass along the Association of Equipment Distributors (AED) comments on the stimulus package and their feedback on the "protectionism" verbiage.
Rob from WI
AED report:
"Stimulus bill contains $80 billion-plus for infrastructure.
On the construction and infrastructure side, the stimulus conference report includes:
$27.5 billion for highways and bridges (half of which has to be obligated within 120 days)
$8.4 billion for transit
$4 billion for sewer construction
$2 billion for drinking water construction
$7.2 billion to put new broadband infrastructure in place, particularly in rural areas
$11 billion to upgrade and modernize the nation's electricity grid
$1.5 for competitive grants for transportation improvements of regional or national significance (which can be used for highways, airports, etc.)
$4.6 billion for Army Corps of Engineers projects
$1.3 billion for airport construction
$3.1 billion for infrastructure improvements on public and tribal lands
$2.33 billion for "quality of life" construction projects on military bases
$1 billion for the Bureau of Reclamation drinking water projects in the western United States
$9.3 billion for rail projects and Amtrak
Economic studies conducted by AED over the past year have determined that 12 percent of the average underground water utility bid is attributable to equipment costs and that roughly 6.4 cents of each dollar spent on highways is spent on equipment and related services. Thus, the highway, sewer, and drinking water spending in the bill will alone create an estimated $2.5 billion in new market opportunity for equipment distributors. When the other infrastructure spending detailed above is factored in, the market impact of the stimulus bill on the equipment industry could be $5 billion or more.
Conference report retains Senate's "Buy American" language. One negative aspect of the bill relates to its "Buy American" requirements. Conferees elected to keep the provision passed by the Senate, which requires that "all of the iron, steel, and manufactured goods used in" projects funded by the stimulus bill must be "produced in the United States."
During the stimulus debate, AED lobbied zealously against the Senate language. In addition to concerns about retaliation against U.S. industry by foreign governments, AED told lawmakers it could be misread to prevent the use of foreign-manufactured construction equipment on stimulus jobsites.
Read literally, however, the provision in the final bill only prevents foreign manufactured goods from being used "in" projects. In other words, strictly speaking, the provision applies only to building materials incorporated into the projects, not to equipment and tools used on projects that are not permanently affixed and which the state will not own when the project is complete.
As federal, state, and local entities implement the stimulus bill, AED will monitor their activities to ensure that they don't stray from this strict interpretation of the Buy American provision. If states and localities appear to be interpreting the law too broadly, we will seek clarification from the Department of Transportation or take the issue to the courts."
Dang RW! You really should start your own blog. You make more sense than anyone who posts here. (Except Roger of course!)
I'm being sincere too.
Thanks for the complement Anon 1:54 but I'm better at counter-punching and could never think of enough original ideas to keep a blog running IAC (not that that's necessarily a criterion for blogging but I suspect it is a criterion for maintaining an audience).
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