Found and Lost: A Different Order of Magnitude for a Money Manager


What Conor Sen said in his article today had me sitting on the steps, thinking; will we have a shortage of great money managers?

10 years from now the Buffetts and Grosses and Icahns of the world will be gone, and who will take their place? Right now, nobody’s being groomed and there’s no established training grounds for aspiring managers in their 20s and 30s. Many of the best and brightest have gone to work in tech or other industries. When the old guard retires there’s going to be a dire shortage of managers.

My first reaction was, it is hard to believe that Buffett et al have not trained anyone to follow in their footsteps. Another thought was, maybe they are unknown now, but does it mean they don’t exist? Plus, where is the research and data of this phenomenon?

Then again, perhaps Conor Sen is correct about the dearth because the skill-sets required for an investment manager have changed so much these days that the majority of funds demand their managers to be extremely numerate, building complex spreadsheets and even expressing investment ideas in code. And perhaps throw in a little bit of macroeconomics and microfoundation as bonus.

Of course, we are still debating if great managers are even needed, if indeed, passive trumps active management. Active management does have a function in the society, as Tom Stevenson pointed out in his article today,

Whatever view you take of the respective investment merits of active and passive funds, it is hard to argue against their broader social and economic function. Active managers sit between companies and end investors, seeking a sensible risk-adjusted return and so ensuring that capital is allocated to the market’s best companies and away from its worst.

A world where there was only passive investment would be a world of inefficient businesses that were never held to account. That would be a poor outcome for everyone, not just investors.

(I have had a brief ponder on efficient capital allocation in my last blog post, here).

Perhaps we have come to the conclusion that it is too difficult to differentiate between great, good and average managers because we have been using the wrong measure, this is from the paper “Time-Varying Fund Manager Skill” (The Journal of Finance, July 2014):

We propose a new definition of skill as general cognitive ability to pick stocks or time the market. We find evidence for stock picking in booms and market timing in recessions. Moreover, the same fund managers that pick stocks well in expansions also time the market well in recessions. These fund managers significantly outperform other funds and passive benchmarks. Our results suggest a new measure of managerial ability that weighs a fund’s market timing more in recessions and stock picking more in booms. The measure displays more persistence than either market timing or stock picking alone and predicts fund performance.

So could it be that the debate between passive and active management isn’t over yet?

My view here, is that no doubt we will save costs if en masse we invest all our money in passive funds. However, if in the future, we have too few active managers in the game, we would all have to endure the consequences of inefficient businesses being granted capital and hence, we can only look forward to lower average returns. So this avenue also comes at a cost in the long run, a potentially much higher cost.

As important as it is to debate between the management costs of passive versus active, perhaps more focus should be on the bigger issue: how do we allocate capital efficiently to achieve long term quality returns on our investments for the benefit of all?



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