Multi-manager  

Fund Selector: Quantitative or qualitative?

I was recently asked about the relative merits of quantitative and qualitative approaches when assessing a manager’s potential ability to deliver positive alpha, aka performance.

Some of my peers would seem to have found a way to assess managers using only their track records – humans can deceive you, numbers never lie.

Some are simply not interested in being shown any numbers and only use their judgement (after all, track records only show past performance, who cares?), but most use a combination of both.

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One of the reasons I usually give for not being a fan of a solely quantitative approach is that often simple performance numbers can conceal a great deal and thus cause those that look only at them to miss a lot.

Approaches that are quant-only based have difficulty incorporating into the decision-making process events such as fund manager changes. Some followers of these approaches have even denied it is relevant.

I once challenged a greatly respected, highly-educated fund selector on this issue.

The answer he gave me was that manager changes had no impact on past performance, and as he could prove to me in at least three different ways that past performance was extremely predictive of future returns, I should not worry about staff turnover.

To be fair, most quant-based approaches now screen out funds where the lead manager has gone. While this is an improvement, I still believe it is far from enough.

One thing that does not show in track records and quantitative assessments of managers (however thorough that analysis may be) is what drives the manager.

The factors that do so usually include a combination of ambition, ego, integrity, intellectual curiosity and, not too surprisingly, money.

It is not just crucial to understand the relative significance of all these factors when first meeting a manager. It is also necessary to keep track of changes in these factors and how they evolve as his/her career develops.

There has been a great deal of focus recently on the need for financial advisers to make sure that they understand their clients’ needs, aspirations and risk appetite.

It is a similar process when we try to get to know a manager. Learning how their compensation structure is set up, discovering how many dependants they have, finding out who they want to beat, even learning what football team they support – all these things and more are employed in making our decision as to whether we allocate money.

When seeking something – be it a fund, a house, a car, a partner – we look at potential matches through two filters: the first is a ‘qualifying’ screen, the second a ‘deciding’ screen.

I do agree that carefully considering a manager’s track record, his trading activity and his holdings history are also very important factors in assessing if a particular manager can qualify for inclusion.