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What is the most overrated quality in a fund manager?

Being able to stand back and let any market madness pass you by is simple, though not necessarily easy. Image: Shutterstock

Many asset managers want you to believe that they are uniquely smart – that investing is such a difficult thing to get right that it should be left to only the brightest among us. In reality, however, successful investing is really quite simple.

“Intelligence is probably the most overrated quality required to be a fund manager,” says Kevin Murphy, co-head of the global value team at Schroders.

“Napoleon had a good definition of what a military genius is: someone who can do the average thing when everybody else is losing their minds and doing some really stupid things,” he adds. “And to be a fund manager, that’s all you need. You don’t need to be super-intelligent and able to do really clever derivative things, or be a super-duper quant-type mathematical genius. You just need to be able to do the average thing when everyone else is losing their minds.”

Read: Do you believe in gravity?

The most important thing

A good example of this, Murphy points out, is what happened during the tech bubble in the late 1990s.

“Everyone got carried away with technology stocks and were happy to buy them at any price because the future was guaranteed,” he says. “That didn’t work out too well.”

From its peak of 5 048.62 in March 2000, the Nasdaq Index fell over 76% to bottom at 1 139.90 in October 2002. A number of companies that had listed during the internet boom went out of business. Most famously, shut down in November 2000, just nine months after its initial public offering (IPO).

“The stock market does this occasionally,” says Murphy. “It did it in 2007 with highly indebted companies, in 2010 with Bric [Brazil, Russia, India and China] companies, and it may or may not be doing it now. Every now and again the market does something stupid and all you have to do is be able to stand back and let it pass you by, and just do the average thing. That over time will build into a much better track record than trying to be super-clever.”

What is behind this essentially simple philosophy is the central tenet of value investing – that the biggest determinant of the future return from a share is the price that you pay for it.

“Most fund managers talk about the quality businesses they invest in, the great management that they have, the wonderful barriers to entry and so on,” says Murphy. “But the problem with those kinds of businesses is that there are only a few of them in the world, and everyone is looking for them. That drives the prices of those businesses up to very high levels, and there’s a lot of research that shows that if you buy expensive companies you get very bad outcomes.”

Starting valuation matters

The chart below from the Schroders value team illustrates this using 150 years of market data. It shows the average 10-year return from US stocks based on their starting cyclically adjusted price-to-earnings (Cape) ratio.

Source: Schroders

What this shows is that the more expensive stocks are at any point, the lower their future return is likely to be. Diane Strandberg, director of international equity at Dodge & Cox, believes that understanding this is one of the three pillars of value investing.

“Valuation starting point matters,” Strandberg told the recent Morningstar Investment Conference in Cape Town. “It is the most powerful determinant of long term return – more powerful than GDP growth, earnings growth or other measures that we might look at.”

The good news for investors, she points out, is that this starting valuation is easily observable. This is why investing based primarily on starting valuations is essentially simple.

It is not, however, easy. That is because it often requires investing in parts of the market that others find unappealing, and staying away from those parts of the market where sentiment is most positive.

This can be deeply uncomfortable. However, Strandberg says that is why it is important to remember the second pillar of value investing:

“There is a vast difference between a good company and a good investment,” Strandberg says. “We all too often hear people say that we only invest in good businesses and it seems comforting. It shouldn’t be.”

Seeing out the discomfort

That is because, as Murphy points out, those companies that everybody already knows are good businesses are not going to be offering attractive valuations.

“We look in totally the opposite direction,” Murphy says. “We look for companies that are going through tough times; companies that have some challenge in their marketplaces; companies where the stock market may think that the management is just bad. We look at that and try to understand all of the risks facing that company; we try to make sure that they are priced in; that we understand them; and, most importantly, that we are compensated for those risks.”

Essentially, this means buying companies for less than they are worth. As long as analysis shows that there is little further downside risk, this is the most proven way to make money in the stock market.

It doesn’t, however, necessarily happen without going through long periods of discomfort. It may take a long time before the market prices these businesses at what they are worth.

“Those are the hard things – trying to do something different to everybody else, and then waiting,” says Murphy. “Those are the two challenges of being a value investor.”

Investors who are able to show this patience, however, will see the benefits.

“When the going gets tough – as it has in value this past decade – it is tempting to give up, but don’t,” says Strandberg. “The rewards are worth it.”

Patrick Cairns attended the Schroders International Media Conference in London as a guest of Schroders. His travel and accommodation were covered by the host company.

Please consider contributing as little as R20 in appreciation of our quality independent financial journalism.



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Other “qualities” should be over confidence, ageism, eloquence. As they say – “if u cant dazzle them with brilliance, baffle them with bull…t “.
Many south african fund managers believe they have found the elixir to investing..more like snakeoil.

The most overrated quality of a fund manager is availability for marketing presentations.

Benjamin Graham is the father of value investing. He published “Security Analysis” in 1934 and “The Intelligent Investor” in 1949. The USA was on the gold standard back then. The unit of account, the measuring-tool, the yardstick, the dollar, was tied to a scarce yellow metal. Gold per se was backed by the value of a human life, because miners had to risk their lives to produce gold. Money had value, and this yardstick could then be used to measure, and compare the value of other stuff over longer periods of time.

With the “Nixon Shock” of 1971, the USA unilaterally ended the convertibility of the dollar into gold, thereby defaulting on their international debt. The unit of account has lost 90% of its measuring capability since. Yet we still pretend that the Nixon Shock did not happen and that the unit of account gives us the correct readings. We pretend that a book about the determining of value, that was written before 1971, is still valid and relevant for the fiat currency regime of today.

The point is – everything is cheap, everything has value in terms of a currency that is constantly being devalued. Value is a relative concept. When the price of a commodity or share crashes at a slower rate than the purchasing power of the currency, the value actually increases in terms of that currency.

This is why investors don’t bother reading Benjamin Graham any more, they simply read the statements from Reserve Banks now. Value is determined by the Governor of the Reserve Bank. They call this “forward guidance”.

Oh please. Gold’s industrial value is far lower than its investment value. Iron also has industrial value yet no one is dumb enough to get all mental about it. Gold’s price is based on sentiment like anything else. Was it suddenly less useful than yesterday? Did fewer gold miners risk their lives to make the same bar from the 80s as they did yesterday? Grow up. It was a thinly disguised method for gold rich countries to cash in. You aren’t one of those anymore. Time to build a proper economy and trade. Collecting jewellery is so 1600s.

We all congratulate you on your first attempt to contribute something meaningful. Practice makes perfect, and it is clear that you need lots of practice.
If your statement is anywhere close to the truth, how do you justify the difference between the price of gold at $47 358 per kg and the price of steel at $0.40 per kg? When you formulate your response please keep in mind that the Reserve Banks of Russia, China, Germany, India and England are buying as much gold as they can lay their hands on, but they are not buying any iron. It is clear that you know something they don’t.

Sentiment justifies it all. It is also more rare. But there are many things more rare and useful than gold.

Sentiment picked it. Sentiment rejected it.

Wow, so you evidence of gold not being a sentiment buy is banks deciding to buy it. Because their sentiment says it will rise. You aren’t a thinking man are you?

Shame, you are so out of your depth when not operating in an echo chamber.

Throwing darts at the dartboard are is the most overrated quality.

It’s all that’s required to do the job.

Random luck is what allows them to hover above or below the market benchmark/index.

But boy oh boy do they get big egos – extended by the cars that they buy with their clients’ money.

Okay, that last sentence reveals everything. Shame. Envy.

Since launching, the Schroder Global Recovery Fund has grown by 35% substantially under-performing its MSCI benchmark that has grown by 61%. In any other profession this person would not be asked for their “expert” opinion. Stories about how to beat the market may be interesting but so are stories about how to beat the casino. Neither should be taken as sound investment advice.

You definitely get my vote today.

Losing millions of your clients’ funds and tell them with a smile on your dial that they are lucky you managed to save them from losing even more….True Story

@Myricals, oh yes, and of course by losing less they can still get their performance fee!

Being a young over ”educated idiot” with no experience!

Yes. Malcolm Muggeridge coined a great one liner. “We have now educated ourselves into imbecility”. Never a truer word. Attending the annual wrap-ups of some of the glorious asset managers is an exercise in futility; they tell us that the stock market cycles of the past are still going to be repeated in the next year or two… I am still waiting for that year or two 3 years later. And oh those magnificent buildings; temples to the Mammon of Babylon. Check the car park.
My wife’s investment (via an expert FAIS chappy) is now worth R90k less than when it was invested 20 months ago. Guess who’s going to ignore their expert advice and DIY?

Better an educated fool than a uneducated old person hiding behind ‘experience’.

Just more ink been spilt trying to justify the extreme under performance of value investing. And all Schroders can do is regurgitate volumes of other people’s research. Nothing original and no insights here. It’s time to move on from this archaic notion that value and growth investing are different. The price you pay is just one of the many important ingredients of a successful investment, but it’s not any more important than the others – such as the return the investment will likely generate on its capital base or the quality of the management that will be allocating capital on behalf of shareholders. This is why active managers have such a poor reputation – they all say to succeed you need to be contrarian, yet they all continue to say and do the same things as their peers.

End of comments.





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