The Case for our Investment Philosophy

While reviewing a prospective client's current portfolio, which we consider like a medical "second opinion," we again found real world evidence of the strength of our investment philosophy. (Note that we do not currently manage this part of the portfolio and this is only an example, but one that we have seen time and again).

The person's broker subdivided the account to be managed into three asset categories (large value, large growth and small growth). Beyond the fact that there are many other asset classes that should have been included, the portfolio commentary for 2008 provides very interesting reading. The broker hired or allocated the money into 3 separate funds. Each of the funds then hired 2 or 3 sub-advisors, to actually do the investing.

So this broker of a major brokerage firm, utilizing their vast resources, selected 3 managers. The 3 managers, again assuming used intensive research, each selected multiple sub-advisors. With all this research and diligence, all 3 funds failed to outperform their respective benchmark.

Over a longer time period, the results for this portfolio was no better, as the person's portfolio failed to beat the broker's benchmarks over the past one year, 3 years, 5 years or since inception in the 1990s, failing to beat their benchmark by 3-5% each year (as annualized).

While this is only one limited example, it provides further real-world evidence which academic research continues to show: that it is very difficult for active managers to beat their respective benchmarks, particularly over long periods of time.

Thus, by designing a portfolio with the objective of obtaining benchmark returns with far less in fees, investors have a greater likelihood to outperform active managers, over time. For more information on how we design such a portfolio, or to have us perform a "second opinion" on your portfolio, please contact us.

The detailed commentary:

For the large value asset class, the firm wrote: "The Fund outperformed its benchmark, the Russell 1000 Value Index, in the fourth quarter, but underperformed it for the full year." In mid-December, the Fund replaced one of the 3 sub-advisors that it had hired to manage the fund. (See more about this in my post dated January 28, 2009).

For the large growth asset class, "compared to the Fund's benchmark,...the Fund underperformed during the quarter, as well as for the full calendar year...The portfolio continues to be subadvised by three active managers...The three sub-advisors ended the year underperforming the benchmark."

For the small growth asset class, "the Fund's negative return was accompanied by relative underperformance versus the Fund's benchmark...for both the quarter and the year overall. The Fund is sub-advised by two active managers..." The active fund sub-advisors decided to overweight the portfolio in 3 sectors. "However, the stocks in which the sub-advisors invested underperformed stocks in the sector as a whole. Energy stocks within the small cap growth universe declined by nearly 50% during the quarter. The Fund's holdings in this sector underperformed the benchmark's sector return." This means the Fund's energy sector picks did even worse than the benchmark's 50% loss.