In These Turbulent Times, an Instinct for the Passive Side
I recently spent a morning with a group of investment managers debating the pros and cons of active and passive investing and indexation. Basically, active managers are the guys who charge you and me sizable fees to research and analyse stocks, pick the winners and make us all tons of cash from the stock by trying to beat the market - well, at least that's the promise. On the other hand, the index trackers typically focus on trying to match a specific index, such as the JSE's all share index, and hope to give you and I whatever the index delivers.
They don't sound very exciting. In fact, one of the investment managers on my panel suggested they shouldn't charge investors for their services because they don't really do anything.
Generally speaking, there are many more active managers than there are index trackers available to investors. Passive investing is relatively new, and many find it boring and unsophisticated, and more suited for retail investors, according to Gryphon Asset Management.
But if you take the 10-year history of the five largest equity funds in the Domestic General Equity sector, and overlay an index fund, it is the latter that delivered a better and more consistent performance than the active managers.
Add to that the inherent volatility that comes with active investing, and one has to start wondering if, at times, boring is good.
All this investment talk got me thinking about my own money and how I allocate it. If the fees charged by index funds are so much lower, their performances track the market and, over time, they are more consistent, why would I put my money anywhere else? I have a young family and tons of black tax issues to deal with, and perhaps I could use some "boring" consistency.
Specialist index tracker Gryphon Asset Management references a popular story that dates back to December 2007, when Warren Buffett took an intriguing bet with investment firm Protégé Partners. "[Buffett] selected the S&P 500 and Protégé Partners picked five 'fund-of-funds' that they expected to outperform the S&P 500. Protégé Partners is an advisory firm that knows its way around Wall Street and selected five investment experts who, in turn, employed several hundred other investment experts, each managing his or her own hedge fund." The bet was to last 10 years to allow adequate time to deal with any bumps along the way, and, of course, there were big ones in 2008 and 2009 for both sides.
Unsurprisingly, Buffett won the bet and made multiples of the returns achieved by Protégé. The investment managers made a point of reminding me that Buffett had placed a huge caveat on his statement. He made it clear that indexation or passive investing is more suited to someone who is not an expert in the workings of markets and has no proven ability or skill to be an active investor.
Notwithstanding this disclaimer, one of the world's most successful allocators of capital shared what is perhaps the most important take-out from his bet with Protégé in the Berkshire Hathaway annual report.
"The bet illuminated another important investment lesson: though markets are generally rational, they occasionally do crazy things. Seizing the opportunities then offered does not require great intelligence, a degree in economics or a familiarity with Wall Street jargon such as alpha and beta. What investors then need instead is an ability to both disregard mob fears or enthusiasms and to focus on a few simple fundamentals. A willingness to look unimaginative for a sustained period - or even to look foolish - is also essential."
I am keen to be "unimaginative for a sustained period - even to look foolish", especially in these turbulent times.
This article first appeared in the Business Times section of The Sunday Times on 7 April 2019