Portfolio Manager’s Weekly Commentary

Daryl Cooper

September 16, 2016

If you are going to Invest – Invest Systematically
and Let the Blend be Your Friend
September 16, 2016

 “The danger of short term thinking with long term capital (one of the biggest mistakes investors make)”, was coined by Ben Carlson, Director of Institutional Asset Management, Ritholtz Wealth Management. What Ben is saying is that too many investors focus on what’s happened to their portfolio lately, as in the past 12 to 18 months, and run to last year’s winners if they aren’t satisfied. These types of investors seek greener grass and instant returns while paying little attention to investment process and longer term returns over the course of a full market cycle. Warren Asness of AQR (aqr.com) had this to say about Warren Buffett and his phenomenal success, “I used to think being great at investing long-term was about genius. Genius is still good, but more and more I think it’s about doing something reasonable, that makes sense, and then sticking to it with incredible fortitude through tough times.

Of course [AQR] found [Warren Buffett] was fantastic – but not quite as fantastic. His track record was phenomenal…but human. What was beyond human was him sticking with it for 35 years and rarely, if ever, really retreating from it. That was a nice little lesson that you have to be good, even very good, but sticking with it and not getting distracted is much more the job.”

This is exactly why DALBAR annually reports that the over 85% of investors underperform the market. They note many reasons but the main reason is investors believe there is always a better way. They aptly point out that most investors do not follow a systematic approach and while there is no Holy Grail investment style that will outperform in all market environments, sticking to a proven process – such as Warren Buffett’s Berkshire Hathaway model – will help substantially to outperform the index over a five year market cycle. Being systematic and disciplined in the use of active strategies versus passive buy and hold strategies is one of the best ways to outperform when outperforming is a difficult thing to do. Diversifying across all asset classes will align you very closely with what the index does, but if you have a process that picks up only the best securities in each asset class then this is a system that should outperform (over a five year market cycle). 2015 was a year that many investors would be happy to forget as the Canadian index dropped over 11% and the US stock market barely broke even. 2016 has been kind to those invested into commodities such as gold and energy but is still far from recovering losses in the year or more past. Warren Buffett lost more than 11% in 2015 but is up over 10% this year.

There are two observations here:
1. There is no Holy Grail when it comes to investing
2. Successful investing is one part intelligence and one part discipline

There are many styles of investing, but here are a few of the most popular:
1. Passive Buy and Hold
2. Growth
3. Value
4. Dividend
5. Momentum

Over short periods of time one will outperform the others, with leaders shifting places from time to time. I recently attended an ETF Conference sponsored by Morningstar in Chicago and research is showing that Rules Based Investing, such as algorithms and other quantitative models, have become the market leaders and favoured by retail and institutional investors alike.

One report showed that the best performing portfolios over the past 50 years would have been a blend of value and momentum securities. This model yielded the best results but when these blended mandates incorporated a Rules Based Process, the returns increased as a Risk Management component reduced drawdowns in bear markets of 20% or more.

Conclusions:
1. The benefits of professional active management are evident when investors stick to the process.
2. Blending two styles, value and momentum, and incorporating a Rules Based process yielded the most favourable results.
3. Avoiding major drawdowns like 2000 and 2008 dramatically increases returns.
4. Avoiding large losses such as 20% or more in money management is only achieved by having a system in place to control risk.
5. Avoiding short term thinking works while chasing last year’s shining star rarely does. It’s a marathon, not a sprint.

Daryl Cooper
Portfolio Manager
Director, Wealth Management

“The time of maximum pessimism is the best time to buy, and the time of maximum optimism is the best time to sell.”
– John Templeton, American Investor

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