Fallen Stars

This week we have had one of those occasions where the stories from the money sections reach the front pages.

In case you missed it, the story concerns the announcement that withdrawals from Neil Woodford’s flagship fund, the Woodford Equity Income Fund, are to be suspended.  Following a period of relatively poor performance, a key investor (Kent County Council) decided they wanted their money back and the fund just didn’t have the liquidity to meet the call.

To further compound Neil Woodford’s issues, St James Place who have been a key supporter, engaging him to manage £3.5bn of their funds, announced that they would be ending their relationship with the manager.

Woodford has long been celebrated as a star manager by private investors, the press and advisors who subscribe to the active investment philosophy.  As a result his funds at both Invesco (£25bn) and latterly under his own company (this fund alone was valued at £10.2bn in May 2017) grew to an enormous size and from them an incredible amount in fees have been collected from savings and retirement pots.  Woodford paid himself and his business partner £37m in 2017/2018.

Woodford will now have no option but to sell assets to create the liquidity required to meet the demand of investors who want their money back.  Hedge fund managers ahead of the curve stand to make fortunes short selling those assets they know Woodford will need to shift.

For us at bdb, this example encapsulates the problem with the active model in a very neat package.  Has Woodford become a bad money manager overnight following his excellent record at Invesco? I doubt it, the problem is that we cannot know why he was successful or even whether he was a ‘good’ manager in the first place.  If you rank the historical performance of managers in any sector over any arbitrary time period, someone has to come out on top after all. The problem is you need an investment period of many decades before you can know whether good performance can be ascribed to luck or ‘talent’ with any satisfactory degree of certainty.

Woodford’s specific issue here is related to liquidity.  His fund is too heavily weighted towards illiquid assets which has in turn compromised the liquidity of his fund.  Our investment committee has ruled out the investment into products which expose our clients to unrewarded liquidity risk such as this.  Chasing performance and star names is proven to be a fool’s errand which Kent County Council and St James Place investors are now learning to their cost.

Until the weight of evidence is turned 180 degrees we will never build portfolios, select managers or products based on past performance.  I’m not holding my breath on this happening any time soon. Peer reviewed paper after paper continue to disprove the success of this outdated and expensive approach to investment.  

As investors become more and more aware of the existence of a better way, we can only see a continued swing towards a low cost, scientific, evidence based approach similar to what we have here at bdb. 

This can only mean better outcomes for investors and happier, healthier and wealthier lives for everyone.