There are a great many ways to succeed in investing , some involve doing very little (eg owning a passive index) others involve a lot more.
I reckon you have at least 4 broad categories:
1. Seeing what others don’t (eg Growth investing: buying Amazon or Apple )
2. Finding what others can’t (eg private markets investing)
3. Doing what others can’t (eg long / short , leverage )
4. Knowing what others don’t (any form of superior analysis )
Famous investors have made good returns in each of these areas – sometimes in more than one. Warren Buffet for example probably has had elements of most of these at different times, and more of (3) than his folkesy wisdom lets on (eg access to leverage). Ray Dalio has a lot of (3), Jim Simons probably a lot of (4), Howard Marks (2). Cathie Wood or Baillie Gifford (1). David Swensen started a movement based on (2) and (3) – and benefited from something of a first-mover advantage in these areas as John Authers brilliantly summarises here.
Come to think of it this framework could easily apply to life in general – although it definitely strays into the fortune cookie type wisdom that often isn’t that useful.
In theory any of these could be a source of “edge” in investing, but they are far, far from a sure thing. Even with one or more of these the odds have been against you in the last decade. Only 1 in 4 active funds beat their benchmark over 10 years according to Morningstar. Most US endowments with their sophisticated private markets and alternatives allocations underperformed a tracker fund.
But here’s the issue – there’s a powerful behavioural trait to want to believe that one has better knowledge, analysis , insight or exclusivity than others , or at least access to it indirectly. Goodness knows a good part of the asset management industry has been built on selling the perception of access to these things. But in today’s world do you really? There’s evidence that very, very few who claim to really do.
The funny – and counterintuitive – thing in investing is it turns out that you actually don’t need to have access to any of these. You can get fantastic results in a diversified global passive fund.
How do these edges really stack up today though? What’s the weakest of these edges ? Has there been a change through time ? I think there has.
It’s no secret at this point that over the last decade the most successful of these has probably been the “see what others can’t “ approach in mega-cap growth investing. Plenty of brain cells have been burned up on analysis and hunting down unknown investments without much outperformance to show for it. But does it tell us what works in the future? It might.
One thing I think is often under appreciated is just how much capital is chasing everything now. Everybody knows the basics of DCF, PE ratios, quality, value, and momentum investing , has access to data and research in a way that just didn’t happen even 20 or 30 years ago and is hunting in the private markets. People can short , leverage is cheap. Huge sovereign wealth funds dominate capital markets. The first mover advantages that many of the great investors of recent decades had (but probably don’t talk about as much as they should) are by and large, gone.
There are 10x as many new CFA charter holders every year now, compared with the 1990’s, fully half of all CFA charter holders qualified in the last decade. Numbers get crunched and re-crunched, and crunched again. Everyone knows more than they used to, and thanks to the explosion of the investment industry far more investors have access to areas that held exclusivity in the past. The lure of illiquidity and “private” markets is strong, but most of these deals are heavily picked over and competed over today. Perhaps just as much as in public markets .
It could be that seeing what others can’t is really the most sustainable edge? But it’s also true that seeing things others can’t is a trait shared by genius’ and madmen, and you probably only know in hindsight.
The burden of proof of possessing , or having access to , any of these sources of “edge” is much, much higher than most investors think. But unfortunately our psychology lowers this bar because we want to believe.
I got to thinking about this while listening to Shane Parrish’s excellent recent episode with Joel Greenblatt which is well worth an hour of your time.
If you liked this you might also like oops they did it again or why we need a new paradigm for emerging markets.