Ep. 13 – 21 Questions (Series) – 12. What is your investment philosophy?

Welcome to the Real Retirement Financial Planning Podcast. This series covers the 21 Questions to Ask Your Financial Advisor. The list of questions was inspired by Jason Zweig of the Wall Street Journal, and his blog post: The 19 Questions to Ask Your Financial Adviser. Responses to Jason’s questions I read from other advisor websites lacked depth. “Yes,” or “no,” sometimes needs more context and a greater explanation into the whys. The goal of this series is to target the essence of what I think Jason is trying to protect you from, and help you make a better educated decision.


21 Questions to Ask Your Financial Advisor

12. What is your investment philosophy?

This is the only question Jason doesn’t specifically answer. 
At MARGIN we believe in low-cost, tax-efficient, diversified investing. We craft and follow a personalized investment policy statement that meets your goals. Our investment strategies are founded based on practitioner and academic research. We believe in passive management, but that anomalies persist over the long-term. These sources of return can be captured in a cost-effective manner known as “factor” investing. 

What we don’t do 

There are some firms that tout the benefits of buying and selling active managers, and investing in separately managed accounts to the tune of a 1%+ asset management fee. Their “screens,” “due-diligence process,” and “experts” will surely find the best of the best, right? An elaborate team of CFAs, and PhDs (if you’re lucky) usually don’t find managers with performance glory that will persist even over a three-year period. This (magical) 3-year number is usually professed as: “just give us a shot for the performance to go full-cycle.” But. Surely somebody can do it!?

Been there; sold that

I’ve worked as an analyst on a private banking team, and as a product analyst trying to help get funds approved on major platforms (i.e., UBS, Wells Fargo, Merrill Lynch, etc.). Selling the due diligence From firsthand experience, it’s very difficult to identify managers that will persist over the long-term. (Usually persistence is found in underperformance, not out performance). It’s also very costly from a tax perspective. Selling the active management story When I worked as a product analyst, I’d slice and dice the analysis just right in the hope of getting our mutual funds sold, or placed on a platform:
  • Change the timeframe;
  • Drop an unfavorable statistic;
  • Add a competitor that was inferior in some way into the comparison;
  • Tweak the benchmarks we’d compare the funds against, and
  • Craft a narrative to “explain” away a negative period, and boast how over the “long-term” the manager would prevail to outperform.
I know what you’re thinking…but… That’s the game. I was doing the job I was hired to do. But “Active” keeps you safer in a downturn, right? Many advisors commonly misbelieve, and even institutional investors tell themselves active mutual fund managers will protect them in a downturn. There’s even investment statistics like downside capture ratios, and maximum drawdown to compare how well each manager did in a down turn. Remember, managers all are legally bound to follow a prospectus that (usually) maps out a asset allocation, strategy, and benchmark they follow. They don’t want to jeopardize and lose huge salaries going off the prospectus script. So… Most strategies can’t sell you out to cash even if they’d like too. The ones that do (usually) don’t deliver, and sometimes they cook the performance books. Picking stocks is a tricky business There’s over 11,000 Registered Investment Advisory firms. Some say the have the magic answer: “you just buy low and sell high.” Oh brother… It’s hard to pick all the winners after fees… Just like the professionals in the NYC can’t do it on a consistent basis with machine learning, artificial intelligence, and every illuminating investment data point on a 8 screen Bloomberg set-up, your local financial “guy” with all the “secrets” probably can’t too. Hindsight bias kicks in though: “If only I invested into…” They get you all hot and bothered by showing you what would of happened if you had only owned the portfolio, security, or sector, “x” months, quarters, or years ago….Like they did… Don’t forget you could have also invested into Pet.com, or an Apple supplier that went bankrupt. Oh, you only buy the “untouchables;” The great companies. The one’s that will exist forever as a solid “blue chip”… A winner’s curse shows-up: once these “top dog” companies become too powerful and big they start underperforming. You probably buy things with a great “track record.” Right? Performance chasing is also another big reason for underperformance. Don’t worry, institutional investors do it too.

How we evolved as a profession, and ETFs came into the scene

Profession: from slingers to advice First we were “stockbrokers,” then “boiler rooms” hit the headlines. Finally! Financial planning came around… Products: from mutual funds to ETFs Then ETFs hit the scene in the early ’90s. From the initial laughed at product, to $3.46 trillion in assets, ETFs have come a long way. (I believe) the theme of ETFs over mutual funds is not going away… ETF’s are still more tax-efficient as a product structure than mutual funds.

Alright already….What do we do

We are boring It’s not factor investing versus passive investing. We do both.
  • Passive investing is growing rapidly
    • The problem with passive is that everybody knows when these strategies trade, how they trade, and what they trade…
    • But, even with all the transparency, passive is still (currently) hard to beat
  • Factor investing has it’s issues too, but there’s also decades of research on the merits of finding types of companies and sorting them for certain “factors” that have historically led to outperformance versus picking individual stocks.
Does your firm have an investment philosophy, and is it backed by academic and practitioner research? Does your firm pitch the we find the best managers tale, and charge you 1% with a investment team? Do you gamble or invest? Do you still have a huge regret you didn’t invest into the latest cocktail party talk holding?