Picking great fund managers is not as easy as it looks. Producing a few years of outperformance is hard enough, but to do it repeatedly over long periods of time is a skill that relatively few possess. Clearly, many investors have given up on this task in recent years, as demonstrated by the rise of passive investing.

To better understand what makes a great fund manager, we asked three experts for their take on which attributes are generally underappreciated by investors. Responses come from Andrew McAuley, Chief Investment Officer of Credit Suisse Private Bank Australia; Tracey McNaughton, Head of Asset Allocation at Wilsons Advisory; and Anshula Venkataraman, Funds Specialist at Crestone Wealth Management.

Sticking to your philosophy

Andrew McAuley, Chief Investment Officer, Credit Suisse Private Bank Australia

The most underappreciated attribute in assessing the quality of a fund manager is staying true to their philosophy. At Credit Suisse we spend a lot of time getting to know a manager, using the 4 P’s, Philosophy, People, Process and Performance.

We include different managers for different reasons in our portfolios. If a manager strays from their stated philosophy, we will ask a lot of questions because it means they may not perform the way we expect them to. For example, if we chose a high conviction value equities manager who after a period of underperformance was buying high PE healthcare stocks, it may indicate a loss of confidence or structure. But the onus is just as much on us to understand under what conditions a manager will or won’t perform and take that into account when assessing a manager.

A good manager must articulate their process

Tracey McNaughton, Head of Asset Allocation, Wilson’s Advisory

Our process for assessing fund managers is comprehensive and looks at philosophy, process, people, performance and price. We want to make sure all these features are internally consistent with what the fund is designed to do. For example, a diversified credit fund should have a relatively large team, be heavily focused on downside risk management, have a large number of small positions and have a relatively low portfolio turnover.

What stands out to us as being an underappreciated attribute is how well a manager can articulate their process and product. A good manager should be able to explain what they do, how they do it, and why they do it without the need for a heavy presentation pack. This demonstrates confidence, conviction and a clear understanding from the manager in what they do. This, combined with consistency of performance and commitment to their strategy, gives confidence. We worry when a manager decides to branch out into other strategies or other markets that was not part of their original raison d'être.

Culture: What keeps the ecosystem together

Anshula Venkataraman, Funds Specialist, Crestone Wealth Management 

In our view, company culture tends to be underappreciated by the market when assessing a fund manager. Culture is a broad and somewhat intangible concept, but it is what keeps the ecosystem of a company together. It takes the form of a variety of variables that we pay close attention to, including the way senior management runs a company, alignment of incentives, employee motivation, and quality of talent retained. These, in turn, can affect more measurable attributes including pricing strategy, capacity management, liquidity management, product proliferation, and portfolio implementation and execution across the firm, which play a pivotal role in the investor experience over the long-term.

Weak alignment of incentives of an investment team, for example, can lead to performance chasing and deviation from a strategy’s investment process. Poor capacity management can put pressure on investment teams that may have to stray from their core investment process to populate the portfolio. Of course, we complement this analysis with more traditional assessments of managers, including the investment process, investment team, and performance.

In conclusion

Finding a manager that can consistency outperform can make a huge difference in the long run. For an investor with 30 years to invest, increasing your returns from 8% to 10% p.a. results in an 81% higher balance at the end of the period. If you focus on the aspects discussed here, you just might be able to give yourself an edge in picking a manager who can produce outsized returns:

  • A manager that sticks to their philosophy
  • One who can clearly articulate their process and philosophy, and
  • A manager with great culture.

And never forget those four P's - People, Philosophy, Process, and Performance.

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Jerome Lander

Patrick, there are very few asset class specific managers who can 'consistently outperform' over a long period of time. Often picking individual managers is about knowing how to weight them in a broader portfolio, knowing when to hire them, and knowing when to reduce their weighting. This is not something many industry participants or well known financial firms do. Instead they present a "blue chip" list of well known brands and strong past performances (many of which are due to luck and selection bias) to clients. It is easier to sell to clients that way! All great managers go through periods of stronger and weaker performance, often affected by underlying market conditions which one needs to understand in conjunction with a detailed manager assessment. Understanding manager specific factors as well as the environment and one's objectives when hiring an active manager is absolutely critical to success. It is also foolish to believe that most investors will ever pick great managers by themselves when (1) many industry insiders can't, and (2) they don't have the appropriate qualifications (such as CIMA certification) and significant expertise and experience in this area, and they don't have access to the detailed level of information required to make an informed manager assessment. Investors might be best served working with a firm who can demonstrate that they have significant personnel expertise in this area, who they trust (i.e. they're not just presenting them "blue chip" names and strong past performers, which won't repeat), and firms whose objectives are aligned with what the investor themselves is looking for e.g. absolute return orientated approaches, rather than the standard benchmark orientated approach. Benchmark orientated firms always talk about overweight and underweight, for example, whereas absolute return orientated firms talk about 'making money' in absolute terms through managing downside risks to capital. The latter dynamically combine and adjusting weightings to underlying assets and manager strategies and understand what role the underlying investments play in a broader portfolio.