The late nineties is burned into my memory as value investors with years of outperformance were either forced out of business or lost huge percentages of their assets under management as they refused to participate (intelligently refused) in the tech bubble. Julian Robertson and Jeremy Grantham being the most obvious examples of being forced to shut down a fund or losing a huge percentage of assets.
In Tilson’s August letters he has to explain a horrific month to investors. Also in that letter which can be found through GuruFocus:
Tilson discusses how unavoidable periods of underperformance are for any good manager and how he has structured T2 Partners in a manner that allows him to manage through periods of underperformance without facing significant redemptions.
The second part should be very useful for any aspiring fund manager:
Stocks are volatile and since we invest in a concentrated fashion, often in unpopular sectors, are willing to ―catch falling knives‖ if they’re cheap enough, and never engage in closet indexing, we’ve always known from the day we started this business nearly 13 years ago that our portfolio would occasionally suffer losses and/or trail the market, perhaps to a significant degree. In other words, we guarantee underperformance at times. This isn’t a topic often discussed publicly by money managers, but it’s extremely important for both investors (you) and investment managers (us) to understand that virtually all money managers will underperform at times, occasionally badly and for extended periods, yet the long-term results can still be excellent.
Indeed, the well-respected Davis Funds did a study (http://davisfunds.com/document/read/the_wisdom_of_great_investors#page_7) of the 192 large-cap funds with top-quartile performance during the decade ending 12/31/10 and found some stunning results:
· 93% of these top managers’ rankings fell to the bottom half of their peers for at least one three-year period
· A full 62% ranked among the bottom quartile of their peers for at least one three-year period, and
· 31% ranked in the bottom decile for at least one three-year period.
Davis Funds concluded:
When faced with short-term underperformance from an investment manager, investors may lose conviction and switch to another manager. Unfortunately, when evaluating managers, short-term performance is not a strong indicator of long-term success.
Though each of the managers in the study delivered excellent long-term returns, almost all suffered through a difficult period. Investors who recognize and prepare for the fact that short-term underperformance is inevitable—even from the best managers—may be less likely to make unnecessary and often destructive changes to their investment plans.
How We’ve Built Our Business
Armed with the knowledge that we are certain to underperform at times, we’ve built our business to withstand such periods. As Warren Buffett said at the 2009 Berkshire Hathaway annual meeting, ―You don’t want to be in a position where someone can pull the rug out from under you or, emotionally, where you pull it out from under yourself.‖ Here are the key ways in which we’ve done this:
1. We read constantly, with an emphasis on company and industry reports, market history, and lessons from the greatest value investors. We do everything we can to tune out the short-term noise so, for example, we almost never watch financial television.
2. We have never pursued hot money and, while that’s cost us in terms of assets under management, today we’re happy to say that we have no fund of funds or any institutional money whatsoever. All of our investors are investing their own money, with no intermediaries.
3. Our redemption terms – either full redemption once a year or ¼ redemptions quarterly, with 45 days notice – have also no doubt cost us substantial assets, but ensure that investors who choose to redeem, which tends to happen when our performance is worst, can’t pull the rug out from under us. We currently have virtually no redemption requests.
4. We’ve done everything we can think of to build a level of trust with our investors. We know of no other fund that communicates with as much openness, depth and frequency as we do. We want our investors to understand what we’re doing so that when tough times come, they stay (or even add to their investments).
Thanks to these steps – and thanks to you – we are not troubled by the recent market turmoil. As we’ve done in the past, we are playing a strong hand and are confident that we will all ultimately be rewarded.
- Jeremy Grantham Undervalued Stocks
- Jeremy Grantham Top Growth Companies
- Jeremy Grantham High Yield stocks, and
- Stocks that Jeremy Grantham keeps buying
- Julian Robertson Undervalued Stocks
- Julian Robertson Top Growth Companies
- Julian Robertson High Yield stocks, and
- Stocks that Julian Robertson keeps buying