Fund Selector: The art of talent spotting

An academic debate has been going on for some time on whether fund managers have persistent skill, or just randomly outperform by luck.

In our opinion, there are a number of fund managers with the talent and dedication to consistently outperform the market, and it is the job of a multi-manager to recognise these abilities.

However, unearthing the most talented managers and judging what combination of funds will produce the best returns in a given environment is no simple task.

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Maximising returns involves more than simply picking the best funds in the top-performing sectors. As selectors of active funds, there are a number of specific factors we look for when assessing the best the industry has to offer.

Like any good investor, we rigorously analyse fundamental factors. We study fund managers’ decision-making skills, whether they get more decisions right than wrong, whether they run their winners, cut their losses or add to positions.

The advantage multi-managers have over individual investors is that we get to meet the managers, allowing us to assess qualitative factors as well.

In particular, we look for common-sense skills and whether they have the humility to admit when they have got a decision wrong.

When meeting managers, we also look for strong communication skills –after all, they need to elicit information from people and to be persistent. A good manager will also be resilient, able to roll with the markets and keep going through a period of underperformance.

Good fund managers never fall in love with the stocks they own. It’s the easiest thing to carry on holding a stock that’s made money for you. You need a streak of ruthlessness.

One of the other most important factors is manager experience. Studies on investment styles and performance have become increasingly widespread. Evidence shows fund performance is closely linked to manager education and experience.

Having compiled years of our own research into this topic, we have also found that different fund managers perform well at different times, and that those with extensive experience and the best reputations rarely underperform for long.

When choosing individual funds, there is always the temptation to plump for the manager that has just outperformed the index in the best-performing asset class.

However, fund managers rarely produce the best figures for two years in a row. In five years, consistent outperformance is even more elusive. We found that during this period barely any managers were able to outperform their benchmark every year.

Perhaps more importantly, our research shows that good quality, experienced fund managers rarely underperform for two consecutive years.

For investors such as us, with a strong emphasis on maintaining capital, it is much more instructive to look at how managers perform in difficult conditions.

What our research told us was that different fund managers perform well at different times, and those with extensive experience and the best reputations rarely underperform for long. In short, experience counts.