Evaluating the performance of a money manager is challenging, and often where investors and advisors make a potentially damaging mistake. Just because one did well yesterday does not mean they will do well tomorrow. Many managers we research who did well protecting assets in declining markets have shown poor past performance in rising markets. Finding a manager you can trust and feel comfortable with is extremely important, but you may also want to look for one who has historically performed well during the market environment expected for the future.
Hot or Not?
We here at WrapManager enjoy watching the names change on our published Monthly Top Ten Most Researched Money Managers. There are a few reasons why managers end up on the list, but most of the time it’s due to recent outperformance or underperformance. Many investors and advisors then either move money to or from these managers. Brandes Investment Partners recently released a research report titled “The Dangers of Hiring and Firing Decisions” which illustrates these actions. This report highlighted that “Many ‘long-term’ investors allow short-term performance to sway their decisions on when to hire and fire investment managers. An academic study analyzed 660 decisions made by institutional plan sponsors and showed evidence of ‘return chasing behavior.’”
Chasing the ‘Hot’ Managers
Investors are used to reading the disclaimers at the bottom of investment brochures that warn “past performance is not indicative of future returns.” We naturally want to be with a manager who recently did well and hope they will continue to do well. Wayne Gretzky once famously said “I skate to where the puck is going to be, not where it has been.” This very important concept is often hard to follow with action. It seems like there is less risk involved when we make investment choices based on what happened in the past and we feel better about our decision. Many investors and advisors chase recent past performance. I believe that if we were to show a group of investors only managers that did well in 2008, many would agree to make a change. If we show the same investors only managers that we believe in but had poor 2008 performance, more convincing would be needed to agree to change.
To understand the full picture, it is important to compare performance numbers to market environments during specific time frames. If you think the economy is contracting and the market is going to go down, would you want to be with a manager who has historically underperformed in these environments? Probably not. You would want to be with someone who has shown a track record of protecting investments, beating the benchmark, and who knows how to navigate that type of environment. Did the manager do well and beat its benchmark when the economy was growing? How did they do when the economy was contracting, or even flat? What about a manager that does well in rising earnings-per-share or expansionary environments?
Example of Chasing Performance
To illustrate, let’s take a look at two managers with different strategies and see how they performed: Churchill Management Group and Janus Capital Management. Please remember that both these managers have impressive long-term track records and were chosen only to illustrate our point.
Churchill Management Group’s Premier Wealth strategy aims to preserve capital during times of high risk. Janus’ Alpha Opportunistic is a contrarian strategy that uses a bottom-up research approach with the hope for excess upside performance. In 2008 when the market declined, Churchill’s Premier Wealth only lost a few percentage points and substantially outperformed their Russell 3000 benchmark, which declined just over 37%. But what we also found was that during the last expansionary period (January 2003-December 2007), a $1,000 investment started on January 1, 2003 with Churchill’s Premier Wealth would have grown to approximately $1,350 net of fees* on December 31, 2007, compared with the growth of the benchmark (Russell 3000), which would have been $1,900! This is simply for comparison purposes as you cannot invest directly in a benchmark and thus there are also no fees deducted. Now compare those results to Janus Alpha Opportunistic for the same 2003-2007 period. A $1,000 investment would have grown to approximately $2,600 net of fees.* But during the 2008 decline, Janus’ Alpha Opportunistic would have turned $1,000 into approximately $575 net of fees* if invested on January 1 and held through December 31st.
The chart above shows the excess performance versus the benchmark (Russell 3000) from Q2 2000 through Q4 2009, the longest common timeframe of both managers. The highlighted portion is 2003-2007 period. Remember, this was an expansionary period. Each column represents an individual quarter and the associated excess performance. As you can see, Churchill’s Premier Wealth underperformed the benchmark in 15 of 20 quarters, while Janus’ Alpha Opportunistic beat the benchmark in 15 of 20 quarters during this period.
We found that over the past nine years, Churchill’s Premier Wealth has typically outperformed the benchmark in down markets while underperforming in rising, expanding markets. Janus' Alpha Opportunistic has typically underperformed in down markets in comparison to the benchmark while outperforming in rising markets. So who would you want to be with if you expect the market to go up? Ask that same question if the market were to go down.
To be fair, Churchill has made our Monthly Top Ten Most Researched Money Managers list several times and for good reason. I think Churchill deserves a round of applause due to their impressive track record. I also believe David Decker, manager of Janus' Alpha Opportunistic, is a very good money manager and also deserves a round of applause, but for different reasons. I think that both of these managers have done well for their clients since inception and deserve our respect. Remember that these two managers were used to illustrate a point, and not a recommendation to you.
I believe we are in a new expansionary period and expect it to continue. It is important to look beyond the face value of performance numbers and understand the type of market environment where a manager typically excels. Doing so will help narrow your list of potential managers and generate additional confidence in the manager you choose. Remember Wayne Gretzky and “skate to where the puck is going to be, not to where it has been.”
Be sure to give one of our Wealth Advocates a call at (800) 541-7774 to discuss your financial situation and any money managers that you would like to learn more about.
*Net of fees performance data for both Janus and Churchill were calculated using a 1.5% annual fee deducted quarterly (.375%) in advance. Fees charged may vary depending on advisor, money manager and style. WrapManager and money manger fees are described in Part II of their respective Form ADV documents which are available upon request.
For more detailed information on either strategy, please contact WrapManager. The Russell 3000 index measures the performance of largest 3000 U.S. companies representing approximately 98% of the investable U.S. equity market. The Russell 3000 is unmanaged and does not take into account any fees or expenses of investing in the individual securities tracked. Individuals cannot invest directly in an index. Historical performance of the Russell 3000 is provided exclusively for comparative purposes only, so as to provide relevant information to assist an individual client or prospective client considering strategies recommended by WrapManager. It should not be assumed that manager strategies and/or individual client account holdings will correspond directly to the Russell 3000.
Statistical data and gross performance numbers are provided by the individual money managers and then prepared by Informa Investment Solutions, Inc. Growth of a dollar figures and net of fee performance data is then calculated based on this information. WrapManager does not assume any liability for erroneous information provided by an individual money manager and/or Informa Investment Solutions, Inc. This documentation is being sent for informational purposes and is not to be construed as an offer to sell or the solicitation of an offer to buy any security in any states where such an offer or solicitation would be prohibited by regulations. Accordingly, no client or prospective client should assume portfolios presented (or any component thereof) serve as the receipt of, or a substitute for, personalized advice from WrapManager, Inc. or from any other investment professional. Past performance may not be indicative of future results. Therefore, you should not assume that future performance of any specific investment or investment strategy made reference to directly or indirectly by WrapManager in its literature or otherwise will be profitable or equal the corresponding indicated performance level(s). Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be suitable for your investment portfolio. WrapManager, Inc. is an investment advisor registered with the SEC. The associated persons of WrapManager, Inc. may also be securities agents with Prospera Financial Services, Inc., a registered broker/dealer, member FINRA/SIPC. Opinions expressed are those of WrapManager, Inc. and are subject to change without notice and are not necessarily those of Prospera Financial Services, Inc., its directors, parent company or its affiliates. Securities offered through Prospera Financial Services and cleared through First Clearing, LLC which is an affiliate of Wells Fargo. Wells Fargo and WrapManager, Inc. are not related entities. Individual money managers presented in this report and WrapManager, Inc. are not related entities. However, WrapManager does recommend the use of the money managers presented to clients and shares client fees. The level of due diligence performed varies by money manager and product.
The attached report and information have been prepared or produced by WrapManager, Inc. from sources and data believed to be reliable. Information provided in this report is for educational and illustrative purposes only and should not be construed as individualized investment advice, as an offer to sell, or the solicitation of an offer to buy any security in any states where such an offer or solicitation would be prohibited by regulations. WrapManager, Inc. is not a tax advisory firm. We recommend you contact your tax attorney or CPA prior to utilizing any of the tax-related strategies mentioned or discussed. Returns and experiences will vary for each client. Each client's risk tolerance and investment objectives are unique to them. Past performance may not be indicative of future results. No assumption that future performance of any specific investment or product made reference to directly by WrapManager, Inc., on its Web site and in marketing materials, will be profitable or equal the corresponding indicated performance level(s). If performance numbers are generated gross of fees, a client's return will be reduced by investment advisory fees and any other expenses. Opinions expressed are those of WrapManager, Inc. and are subject to change without notice and are not necessarily those of Prospera Financial Services, Inc., its directors, parent company or its affiliates. Securities offered through Prospera Financial Services and cleared through First Clearing, LLC. Prospera Financial Services - Member FINRA/SIPC.