It seems reasonable for those paying fees to professional investment managers that their portfolios perform better than the unmanaged averages. Of course, doing better means making greater gains in up markets, and losing less in down markets, which is dependent upon the period of performance measurement and related to the age-related risk appetite of the investor owning the money being managed.

Losing less, especially for those having fewer years of life left to recover from losses, typically means investing in stocks with lower price/earnings ratios and higher dividend yields than the market average being used as a measure. The problem with such a strategy is that in bull markets the lower p/e and higher dividend yielding stocks will probably not perform as well the stocks valued more enthusiastically by investors who are willing to look further into the future for significant EPS and dividend growth.

Most investment managers, especially those managing larger amounts of client money, do not find it economical to buy or sell puts and call options to hedge client accounts.

Therefore, it seems reasonable to me that clients should advise managers of their investment objectives. If risk minimization is important to them, then they should be willing to accept a reduced benefit of superior-to-market performance in up markets.

It also seems reasonable to me that investment management fees could be keyed to losing less for clients in bear markets and making more for clients in bull markets. Of course, there should be a fee sufficient to cover the manager’s incremental expenses in handling the account, but the profitability of the account should relate to achieving the investor’s objectives. I am not suggesting that investors become predictors of market orientation, just that they let the driver know “how fast they want to be driven”.

It would also be useful if exchanges, or service firms providing last sale and other quotation data, noted the last 12-month or other period, relative performance of the stock, to that market’s index or average.

The above addresses a problem for both investors and investment managers. Managers could simply run funds with two different objectives, one intended to do better in bear markets and the other in bull markets.

 

Arthur Lipper, Chairman                 arthurlipper@gmail.com
British Far East Holdings Ltd