Hi Guys,
The excitement building for the upcoming MFO Fund Rating system is palpable. I too eagerly anticipate its complete publication. It will be a useful investment resource that is unique for MFO members. Good stuff.
The ubiquitous problem puzzling all mutual fund holders is the quagmire associated with finding a superior fund manager. In a sense, it is a task that is very similar to hiring any new employee.
Identifying superior management talent is an elusive chore. Given the poor past performance of active fund mangers, the odds are not tilted to favor the private investor.
The incoming MFO Fund Rating tables should make that arduous chore a lot easier.
The MFO team has done yeomen work in designing and assembling this magnificent resource. I really do like what I have seen. With the exception of a single column, it is data intensive. The one exception is “David’s Take”. Obviously, David’s Take is not data; it is a summary opinion.
I do not object to anyone expressing an investment opinion, especially our fair and well-informed website master. I will always value his opinion highly.
However, to establish a confidence in that judgment, I must know and understand precisely how that opinion was determined.
What factors differentiated the three definitive groupings: Positive, Mixed, Negative? Some investors will make choices based on the single entry. How does David arrive at this overarching fund judgment?
What specific criteria does he apply to each grouping? Are the criteria uniformly applied? Is it always dependent upon a face-to-face interview? If it is, a cautionary comment is warranted. Academic studies have concluded that interviews can distort and finally influence selection choices in a negative manner. Polished shoes and friendly manners do not necessarily map into exception stock selection talent.
I recognize that any “positive” assessment is no direct buy endorsement, but it can easily be interpreted as such by novice investors or infrequent visitors to the MFO website. There’s some danger if that column is not carefully defined and qualified. The over abundance of “positive” ratings could be troublesome.
Considering historical data sets, David Snowball’s optimistic “positive” rating assignments statistically conflicts with new fund survival rate data. David’s numbers are out of balance when compared to reality. Fund survival rate stats are available from many sources. Here is a Link to the 2012 S&P SPIVA report that includes a survivorship segment:
http://www.spindices.com/documents/spiva/spiva-us-year-end-2012.pdfFrom that report: “ The turmoil of the past five years saw nearly 27% of domestic equity funds, 23% of international equity funds and 18% of fixed income funds merge or liquidate.” That’s a worrisome statistic.
That finding, which is consistent over numerous timeframes, is dismal. It warns against projecting overly optimistic assessments of fund management. Active fund success is a rare quality. John Bogle and the Investment Company Institute have frequently emphasized this negative aspect to actively managed funds.
There is an overwhelmingly high percentage of “positive” ratings in the “David’s Take” column of the MFO summary tables ( see the August MFO Commentary contribution from Charles). It lists a total of 77 fund reviews. From that subset of mutual fund reviews David liked 62 funds (80.5 %), was neutral on 12 funds (15.6 %), and disliked 3 funds ( 3.9 %).
In the future, that will not be representative of all the rated fund’s combined long-term performance or resiliency. That generous generic assessment flies against the headwinds of historical results. Many of these funds will not survive a 5-year trial-by-fire exposure. The markets are brutal masters.
Projecting new mutual fund successes is in soothsayer territory. It is a chancy business, both for the soothsayer himself and for those acting on his forecasts. A more conservative approach would be to patiently await actual real world test data, collected over at least even a modest 3-year period, before judging any new manager.
Consequently, my current conclusion is that a major disconnect will develop between David’s overall “positive” assessments and historical fund performance/survival. A few will prove their mettle; many others will disappoint or perhaps disappear.
Only one-third of actively managed funds outperform passive Index benchmarks annually. Those who do rotate towards the mean without long-term persistency. The superior performers over a 5-year cycle drop to under 20 % of the active manager universe.
I really do respect Professor Snowball and his work ethic. When I say his work product is outstanding I’m defaulting to military terminology. It doesn’t get any better than an “outstanding” commendation. But projecting fund performance is hazardous duty, and most who do tackle a daunting task.
It is far less risky to buy a fund manger with an established track record than to commit your fortune or retirement to someone without a recognized record, but only a sweet-sounding story. Being early into the game is not necessary for true investors.
Experience matters most. Damon Runyon said it perfectly in his “Guys and Dolls” musical: “It may be that the race doesn’t always go to the swift, nor the battle to the strong, but that is the way to bet”. In this instance, the swift and the strong are past mutual fund winners.
Remain patient and discriminating guys.
Best Regards.
Comments
Note that "David's Take" will only be on the dashboard of the profiled funds. That column is not included in the ratings of all funds.
The intention of "David's Take" was to summarize the take-away a reader would get from reading his in-depth profile...at time he wrote it. I think it is a good idea to reinforce your point about that any assessment is not a recommendation to buy or not, but in the eyes of the reviewer, to further consider....will make that very clear when we post the updated dashboard each month in future.
I thought about softening the terms, like using "promising" or "worth considering" - terms David uses often in the reviews, or "skeptical" instead of "negative," but decided to make it a bit more affirmative or not. We can certainly alter these terms as appropriate.
Let's do an "out-of-sample" test: What's your take-away on the new profiles David posted this month?
Grandeur Peak Global Reach (GPROX) - I'd say Positive.
Sextant Global High Income (SGHIX) - I'd say Mixed.
LS Opportunity Fund (LSOFX) - I'd say Positive.
Did David generally think the fund was worth considering? Or, did he say, better wait-and-see? Or, did he say, too confusing? Something along those lines. Which then translates to Positive, Mixed, or Negative in the dashboard. It's really that simple.
The return since inception, however, is just about the numbers, of course. And, again, readers can now scan the table to see how the funds have delivered in broad terms...have they returned more than cash? Have they beaten bonds? Or, have they delivered returns better than SP500? Broad terms. Ditto for risk rating...just about the numbers.
Hope that helps explain rationale. Nothing too sophisticated.
As always, will work to improve and refine going forward, based on your good feedback and others.
Thanks again MJG.
Hi Charles,
Thank you so much for your quick and expansive reply. It addressed and fully explained the many issues and decisions that confront the designers of the MFO fund rating guide. It is not an easy job nor is it without controversy. Hard choices must be made.
To summarize a nicely constructed mutual fund review in a single word is indeed a difficult choice. For example, should the singular entry be a numeric value consistent with the other data-intense columns or should it be a descriptive word? On another level, since the assessments are dealing with unknowns, how definitive should the column heading be?
Here are a few options I propose for your team considerations.
Since these reviews have a time stamp and are always extrapolating performance likelihoods, I suggest that the assessment column reflect the probabilistic nature of the projection. How does “David’s Odds” fit the purpose? It should be defined as the probability of success.
If a numeric value is preferred for the entries, I suggest it be done in increments of 10 because of the crude character of such evaluations. The range should be limited from 10 to 90 since certainty is impossible in the forecasting business.
If a word descriptor is preferred, I suggest it be limited to four groupings: Plus, Neutral, Minus, and None. The scoring should be an expected performance relative to a passive benchmark. They could be color coded for easy scanning. The None would refer to a review that did not generate any definitive feelings whatsoever.
All the scoring should be made recognizing the poor asymmetric record of active fund management. Many charts exist that show the skewed underperformance of these managers when plotted against a plus or minus horizontal axis relative to appropriate benchmarks.
Your documentation might include such a graph so that the Table users are made aware of how difficult the playing field is. Loosely speaking, on a longer term basis (like 3 to 5 years), 80 % of fund managers fall below their benchmarks; it is rare to identify funds that can be plotted above the 3 % annual plus marker.
My ratings would be much harsher than David’s generous assessments. During my engineering career I worked both sides of the contract proposal fence. In preparing proposals, it was always easier to promise than to execute. In evaluating proposals, I quickly learned that experience in a project meant a higher likelihood of success than a glossy, untested approach.
I hesitate to rate the funds you listed since I have not kept pace with current evolving fund concepts; I am pleased and comfortable with my portfolio which has not added a new member for perhaps 5 years. I have adjusted allocations however.
Since you asked, I did reread David’s reviews. As usual they were comprehensive and would be an excellent point of departure when collecting fund data. I harbor many negative biases against the types of funds under examination. Historically, long/short funds have a steep hill to climb having doubled its decision making requirements. Managers who were successful with one team and then elected to change teams often did not replicate their earlier success. All folks tend to be overconfident of their abilities and also tend to exaggerate their individual contributions to any success story.
As military generals know, all plans change once the first shot is fired. In its brief 2 year history the Sextent (SGHIX) fund has fallen short of its extravagant promise to produce excess returns in the plus 3 % range. They are already changing some of their tactics. New firms, with untested concepts, do this much more frequently than staid old warhorses do.
On the positive side, I do like it when funds have considerable skin in the game. It sharpens the focus and places the managers more on the customer side of the equation.
Given my propensity to favor experience and fully tested concepts, I would rate the three reviewed funds in a “minus” sense, especially so for SGHIX which is already scrambling to adjust its strategy. Given the historical record, I have an 80 % chance of calling it correctly.
I hope this is more helpful than destructive. Once again, thanks Charles.
Best Wishes.
I think David's profiles reflect his views on whether a fund's strategy is intriguing, whether the strategy is applied consistently, manager's experience and track-record, manager's financial stake in fund, integrity of fund house, etc. Then, in his eyes, whether it's worthy of our consideration or not. I could be wrong, but suspect he's not calculating, explicitly anyway, probability of outcome.
I suppose we could add an "MJG's Take" column, or a kind of "2nd Opinion" column, but then I think that's what the board is for...and, I find few are bashful about expressing their opinions on the board, fortunately.
Absolutely, your comments and shared experiences on fund performance and selection are always helpful and often profound. Like many of us have noted, your posts are good enough for WSJ.
Take care, Charles
1. Funds that give me a sinking feeling. Ones where you look at think, "dear God, what are they up to?" There are a lot of those. The geography of the fund universe is such that, unless it's being launched by a top ten firm, bad ideas will impoverish very few people. In general, I cover bad ideas only if the first word of the fund's name is Fidelity or Price or ... You've coded those as negative and they're pretty rare because I don't see much gain in wasting electrons on dozens of obscure, expensive, poorly-conceived products.
2. Funds that intrigued me, until I learned more and began developing a sinking feeling. These are often funds with an intriguing premise, niche or twist but that strike me, not as doomed, but certainly as weighted-down by odd personnel choices or half-hearted strategies. I'm reluctant to pronounce a harshly negative judgment since I might well be wrong and survival is so danged iffy even for really good offerings. So, I try to point in the direction of important concerns and hope folks will take my advice to watch and learn more. You've caught a lot of those as "mixed." There might be a couple others in that camp, but it's a close call.
3. Funds that intrigued, excited, satisfied or delighted me. Really good managers doing the right thing for the right reasons in a shareholder-sensitive way. Those don't have to be flashy (I flat-out loved the AARP family of funds - five funds based on a mix of four indexes, $25 minimum, 0.5% e.r. - all ended up five star and then all closed for lack of investor interest, the fools) but they do have to be intellectually satisfying. That is, they have managers who teach me things when I talk with them, who are themselves interested in learning, and who have solid ideas. I'm hopeful that more of them thrive than fail, though I know it's tough. Do I try to highlight factors - clear risk management, clear controls over behavioral biases, focus, low expenses, high inside ownership, articulated cap limits - that tilt the odds in a fund's favor and I do rather prefer to write about folks with a French-Fama tilt, but I've never pretended to have the magic formula. Mostly, I want folks to spend their own time and energy are the subset of funds that seem to have real substance, with the hope that some investors will find sufficient merit in some of them to warrant inclusion in their portfolios. Which would, indeed, be positive.
For what it's worth,
David
Fund Alarm, which I read largely for entertainment and a few useful warnings, has morphed into an "interesting new fund" site, and seems to be evolving into a useful site for evaluating new or small funds before they regress to the mean (not that all of them will, but I suspect they have a relatively short investment lifespan before one should move to the next small and agile opportunity).
How much do you want for free? I hope you're buying heavily on Amazon to support this site.
stb65
Thank you for your informative responses, your tolerance, and your patience. Your carefully crafted replies clarified the issues and made the exchange worthwhile, at least for me and likely for many other MFO members.
As you clearly identified in this exchange, the “David’s Take” column in the fund rating tables is NOT a buy/sell or direct comparison of expectations relative to a benchmark assessment. I had presumed it was; I was wrong.
David’s focused reply removed my cloudy interpretation. I drew three significant takeaways from his succinct posting: he does a pre-screening, his main criterion is concept attractiveness, and other criteria are conservative in mostly adopting the findings of academic research.
The pre-screening eliminates bad concepts immediately according to David’s judgment and never make the listing. Hence the statistics are truncated and don’t represent the entire new fund universe.
In no way does the assessment attempt to measure a fund’s odds of success. It reflects novel or intriguing concepts that have some chance of success, especially when bolstered by grounded, experienced management and an efficient backroom. He is not predicting success, just the chance for it. It is not a buy recommendation, just a heads-up that the fund warrants further consideration.
Academic research findings are a large part of David’s evaluations. Costs matter, experience matters, Fama-French matters. In many ways, David is echoing John Bogle. I take no exception to these criteria.
There are very few absolutes in the financial wars. Controversy and divergent opinions make the marketplace, and enhance the value and attractiveness of this fine website. I know you expect this, maybe even want it.
On a personal level, thanks for your kindness to me.
My Very Best Wishes.