Active managers are on a winning streak. It won’t last.
Even so, this year’s results are not entirely surprising. Most stock pickers invest in a wide range of the market, from fast-growing tech companies to boring banks and manufacturers. Until recently, tech stocks were the best performers for many years, which inflated their market value relative to other stocks and gave them an ever-larger slice of indices like the S&P 500 that weight stocks by cut. While the technology was in vogue, it was impossible for a broadly diversified portfolio to keep up. Today, it’s quite the opposite – with tech stocks leading the declines, well-balanced portfolios have the edge.
However, it is a mistake to assume that the recent success of active managers will persist. The evidence is overwhelming that the longer they play the game, the more likely they are to lose. The latest SPIVA report is typical: only 17% of US large-cap stock pickers beat the S&P 500 in the past 10 years to 2021, and that number drops to 6% over 20 years.
Time makes fun of most stock pickers. Institutional investors once called hedge fund manager Gabe Plotkin a “wunderkind” after racking up gains of 30% a year for half a decade. Billionaire Ken Griffin, who backed Plotkin’s fund, called him “an iconic investor” who “has done an incredible job for his investors” in a recent interview with Bloomberg Intelligence.
Now Plotkin is closing its fund after declines of 39% last year and 23% this year through April. Griffin’s reaction: “The average hedge fund lasts about three years. So several hundred closures per year and the world goes on. So much for the know-how.
Even more revered is Chase Coleman, founder of hedge fund Tiger Global Management. His two-decade-old fund is said to have generated returns of more than 20% per year through 2020, helped by big bets on technology. Now those bets are going downhill. After a year of decline in 2021, Coleman’s leading hedge fund is down 44% this year through April, and its long-only fund is down 52%. What happened? “Markets have not been cooperative,” Tiger Global wrote to investors. They are rarely stock pickers.
Even the most admired charts are not necessarily a demonstration of skill. Perhaps the most revered belongs to Peter Lynch, who racked up a return of 29% a year as head of Fidelity’s Magellan Fund from 1977 to 1990, including dividends. It outperformed the S&P 500, the fund’s benchmark, by more than 13% annually during this period.
It may seem like a mastery of stock picking, but not so fast. On the one hand, Lynch did not invest in the S&P 500. He bought high-quality companies that were trading at a reasonable price, a mix of two strategies – quality and value – which are well known to have exceeded the market historically.
And as it happens, the combination of the two strategies beat the market by a huge margin as Lynch led Magellan. A mix of the top 20% and cheapest US stocks, weighted equally, returned 28% a year during this period, according to figures compiled by Dartmouth professor Ken French, nearly matching Lynch’s performance. Magellan and the profitability/value mix are also relatively volatile and about a third more volatile than the S&P 500, another indication that the profitability/value mix more closely captures Lynch’s investment style than the S&P 500.
So there doesn’t seem to be any magic in Lynch’s stock selection. He was simply lucky that his investment style was in favor during his 13 years at Magellan. It’s not always the case. If he had exercised his style over the previous 13 years, he probably would have generated a return closer to 6% per year, or 1 percentage point better than the S&P 500. In fact, since 1963, there is no other period outside of the late 1970s and 1980s in which Lynch would have done nearly as well. And if his record fades under scrutiny, imagine how lackluster other managers look.
Keep all of this in mind when you hear about stock pickers beating the market this year. There may be a handful of them with long track records of success that cannot be fully explained by their investment style. Warren Buffett, David Tepper and Chris Hohn come to mind. But these are vast exceptions. Everyone else was probably lucky.
This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.
Nir Kaissar is a Bloomberg Opinion columnist covering the markets. He is the founder of Unison Advisors, an asset management company.
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