Vanguard multi-asset chief explains process he thinks yields best returns
Talent, cost and patience are the keys to successful active management, according to a multi-asset expert.
Daniel Wallick, head of multi-asset portfolios, Vanguard Investment Strategy Group, said that on average active managers will not beat the market, highlighting the zero-sum game.
He said the manager has to have the talent to perform above average in order to outperform, adding: “If we don’t think we can identify that, then we’re probably better off doing something else.”
It is vital to acquire that talent at a reasonable cost and then, completing his trifecta, display the necessary patience for the strategy to bear fruit. He said at some points an active manager is going to vary from the underlying benchmark they are targeting, stressing that the inability to accept that over the long term will result in failure.
Wallick explained how Vanguard’s philosophy on identifying talent is exhaustive but ultimately comes down to human qualities including: shared and enduring philosophies, proven expertise and a stable repeatable process.
Prospective managers must also have a long-term history of competitive results versus benchmarks and peers. Speaking at the 2018 Vanguard Investment Symposium in Toronto yesterday, Wallick said: “The key point is it’s not a quantitative process, it’s not a mathematical formula that I can give you that’s going to predict the next manager. It’s more of a human qualitative assessment.”
When it comes to active management, Wallick said this is the one predictor – although not a guarantee - of improving the odds of success. He added that whether it was expense ratio or turnover, the lower cost you were the higher the probability you’d outperform.
He referred to the effect of compound investing and how this is also true of cost. “At Vanguard we’ve done a poor job of talking about it. In most of the conversations we use an example of 50 basis points versus the 100 – that’s a good thing.
“Well, that savings is true only in year one. It doesn’t talk about the compound effect of that, by saving more money and growing. So if you have the discipline to keep your client in low-cost investments, think of the compound effect of that cost.”
Playing the long game is crucial because even the best funds have inconsistent years. Wallick pointed to Morningstar research that showed 98% of all successful funds underperformed in at least four years and 28% of these top funds failed for seven years.
“If what we’re saying here is we’re all going to invest in active managers who are outperforming all the time, we would never capture the benefits, because we would have left [the fund].”
The view – often at institutional level - that three years of successive underperforming means they have a fiduciary responsibility to leave is flawed, he added.
“We ran the same analysis of three years of successive loss and 67% of the winners over the long run had at least three years of failing. This is why we say patience is a really, really important element.”