How patient should we retail investors be with the long-depressed returns of some investing gurus?
One essential ingredient in the value investing pie is patience, that we should buy when prices are low and then hold until the intrinsic value of a stock is realized. And, what is full intrinsic value? Every day the market weighs in with multiple opinions – in fact every single transaction suggests a seller feels the price of XYZ is high enough while each buyer obviously feels there’s still room to grow. That is true of legendary gurus as well as the dullest of retail investors.
What are my opportunity costs if I am patient and wait for that intrinsic value to be reached? More specifically, how long should I hold a losing mutual fund?
That issue arises when considering the performance of John Hussman (Trades, Portfolio), Ph.D., and his Hussman mutual funds; in particular his flagship fund, the Hussman Strategic Growth Fund (HSGFX).
He’s well positioned for the next big market collapse but has also been prepared for one since 2009. As a result, he has badly trailed the Standard & Poor's 500 index for years,Â but an unhedged, virtual version of the fund has performed brilliantly!
Who is Hussman?
Hussman, born in 1962, received a Ph.D. in economics in 1996 and became a professor of economics and international finance at the University of Michigan.
Seeking Alpha reports he worked as an options mathematician for Peters & Company at the Chicago Board of Trade in the mid-1980s. He rounded out the decade by launching the Hussman Econometrics newsletter in 1988.
Hussman started Hussman Strategic Advisors in 1999, and in the following three years earned guru status by strongly outperforming the S&P 500. He generated double-digit positive returns while the S&P 500 experienced large negative returns. Since 2004, though, he has struggled to deliver positive returns, let alone stay within sight of the S&P 500 index.
In his Weekly Market Comment of Nov. 19, 2007, Hussman warned of an impending collapse. His warning was prescient as the market went tumbling down in September 2008. Not that Hussman's Strategic Growth Fund survived wholly intact: His fund lost 9% (compared to an S&P 500 loss of 37%) despite being heavily hedged.
In addition, Hussman is a prolific and knowledgeable writer; he pens a column called “Weekly Market Comment.”
On paper, there are few investors who bring more knowledge to their investment management; and no doubt that helps account for his early awareness that the housing bubble was about to burst. Yet, his performance track record since 2004 would be the despair of anyone or any organization that invested in his Strategic Growth Fund.
What is Huffman Strategic Advisors?
This privately held firm, of which Hussman is the president, manages four mutual funds plus private accounts. The mutual funds are (with current valuations from Yahoo! Finance):
- Hussman Strategic Growth Fund (HSGFX): $351.44 million.
- Hussman Strategic Total Return Fund (HSTRX): $363.52 million.
- Hussman Strategic International Fund (HSIEX): $30.25 million.
- Hussman Strategic Value Fund (HSVLX): $6.51 million.
In its Form ADV, the firm reports it has $894,349,724 of assets under management; $751,720,000 of that is accounted for by the four funds.
In its Prospectus for the Hussman Strategic Growth Fund (the flagship fund), the firm says its objective is long-term capital appreciation, but tempers that by noting it also emphasizes protection of capital when market conditions are threatening. For appreciation, it depends primarily on common stocks while using options and futures contracts when in hedging mode.
The Strategic Growth Fund has a remarkable profile: $377 million worth of stocks and a total hedge of $370 million. That means the fund’s short positions represented 98.00% of the fund’s long investment positions. For the fiscal year ending June 30, the fund lost 15.53%.
Hedging can be a good thing, but too much might not be such a good thing. Owning a strong short position when the market is rising is a formula for bad news. And Hussman has produced a lot of that over the past decade.
Performance problems, hedging version
As noted above, Hussman had some glory years, and he even predicted the financial collapse of 2008. This is what the Strategic Growth Fund record has looked like since 2006, in a GuruFocus table:
Note that Hussman had negative returns for each of the latest five years. Indeed, over the past 10 years he registered just two years with positive returns, and each amounted to less than 5%. Not surprisingly, those returns had an effect on his assets under management, as shown in this GuruFocus table:
And yet, after all that, Hussman might have been a stock-picking guru. This surprising chart, from the Strategic Growth Fund’s prospectus, shows three very different results. Note the color legend at the bottom of the chart and then look to the top right corner, which shows what the fund would have delivered had it not been hedged:
As the chart shows, the unhedged version of the fund crossed above the hedged (and real) version in calendar 2010 and has climbed rapidly since then. Which, of course, makes us ask why didn't he lighten the hedging in the year or two that followed? Has he been expecting a serious bear market since 2010?
In his Letter to Shareholders, in the 2017 Annual Report, Hussman makes the point that the bull market that has been around since 2009 is just a half cycle, and he’s investing for the full cycle: “The Hussman Funds continue to adhere to a historically informed, value-conscious investment discipline focused on the complete market cycle.”
If the market takes a tumble, and a big tumble, as Hussman predicts, then his strategy could pay off in positive multiples of his current losses. The hedging that now is an albatross should get him safely through until the next bull market begins.
With current questions about Congress being able to pass tax reform legislation, this is a good time for strong hedging; this bull run has been a long one, there are arguments that valuations are too optimistic, and any one of a series of political events could trigger a market collapse.
But what about the opportunity cost of doing this poorly for this long? The 10-year cumulative result in the GuruFocus table above shows him 137% behind the S&P 500, and GuruFocus calculates that as an average annual underperformance of 12.1%.
Every dollar that sits in the fund waiting for a market collapse, recovery and subsequent growth has diminished significantly. It may not be technically correct to call it negative compounding, but it certainly feels like it.
In academic terms, this seems an interesting real-life experiment, but for real unitholders it has been a blow to their capital. A dollar invested at anytime in the past dozen years now has only a fraction of its original value. In fact, it seems just the reverse of a cigar-butt investment.
There’s no doubt HussmanÂ possesses a brilliant mind. Personally, I have found value in options trading but never felt I had a firm grasp on how it all worked on a higher, more abstract level (which affected my action at the execution level). Hussman, on the other hand, is not just an options practitioner, but an options mathematician.
But I can say my returns have outpaced his over the past decade, and there are probably few GuruFocus readers who haven’t beaten him as well. Somewhere there’s a missed connection, it seems.
As someone who’s almost as concerned about risk management as picking the right stock, the Hussman story is a challenge. How can I avoid managing risk to the point that it becomes self-defeating?
To some extent, the Hussman story resembles that of Prem Watsa (Trades, Portfolio)/Fairfax Financial Holdings (FFH, Financial), but Watsa had only two losing years in the last 10; just after Donald Trump won the presidency, Watsa trimmed back his hedging, expecting a market boost from tax reform and fewer regulations. Has he returned to hedging, now that the Trump agenda can’t seem to get itself onto the legislative rails?
The most important consideration, though, is for investors who bought into the fund expecting to beat the benchmark. For those still left, it must be tough to check their results. They are, as the saying almost goes, selling dollar bills for 40 cents.
Disclosure: I do not, and have not, owned any units of Hussman mutual funds or the company named in this article.