Finding Successful Active Managers

I was a firm believer in indexing for the first 25 years of my academic and investment career based on the evidence that was available at the time. But my research over the last five years and the growing literature regarding the existence of manager skill and persistence has convinced me that indexing is now a second best alternative. It was only after the research began portraying a changing picture that Craig Callahan and I formed our company AthenaInvest in 2005. I am sure that Loeper feels just as strongly about the research underlying his firm.

One of the defenses put up by the new Ptolemains when evidence of manager skill pops up is to create additional subsets on which to build portfolio characteristic performance benchmarks. I have already described the problems with the best known of these benchmarks, those based on market cap and PE. So it makes you wonder if these subsets are introduced as way to counter the manager skill evidence rather than as a way to better understand the investment process. It is possible to introduce enough subsets to wipe out evidence of manager skill even as little is added to our understanding of how to pick managers. Is this what Loeper has done?

So how do you find successful active managers? We believe that the starting point is first to identify the strategy being pursued by the fund. Then within that strategy peer group, identify the successful active managers using objective measures. Our resulting carefully researched, patent pending system is called Strategy Based Investing. Based on our research and the research of others, we believe that it is possible to build better performing portfolios of successful active managers who are pursuing successful strategies.

Finally, past returns are a noisy signal for identifying skilled managers. A manager who has produced good returns could just be lucky rather than skillful. That is why it is important to consider aspects other than long term performance when building a portfolio of active managers. Those who bring other aspects beyond returns into the equation, such as Surz and Loeper, are moving in the right direction. We also go beyond returns when identifying successful active managers.

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