It is now nearly 15 years since Warren Buffett offered me his opinion that fund management as a business is "75 per cent marketing and 25 per cent performance" and a business that in aggregate adds "absolutely zero" value. Nothing that I have learned since has disabused me of the truth of this idea; and Buffett's own opinions on this score have hardened as well.
At his annual meeting this year, his colleague Charlie Munger described the fact that so many young people are now pouring into investment management (principally hedge funds) as a "national scandal".
The point is that outperforming the market, as has been noted here many times, is not even a zero sum game, but a negative sum game, in which the industry as a whole must underperform the average market performance by the extent of its aggregate costs.
While individual funds can beat the averages over time, the starting odds are against finding one that does. It requires hard work and good judgement consistently to find in advance the minority that will do so.
This is not the impression that you will gain from reading the marketing literature. Needs must when the devil drives, and the industry pours millions of pounds and man-hours each year into promoting and shifting its products.
Funds, it is said, are sold, not bought. The funds most investors buy each year are the ones that the industry most actively promotes, not the ones that investors (and their advisers) choose for themselves.
Just look at the split-capital investment trust debacle or the vogue for structured products (clever constructions that no ordinary investor should want to own) to see the force of that observation.
But capitalism is capitalism and one has to give credit where credit is due. Sometimes out of the relentless churning of product comes an innovative idea that makes marketing sense and has the makings of something that might work out for investors, too. Such an idea might be the Global Best Ideas Fund that Skandia's multi-manager team announced this week.
Skandia is a Swedish life insurance company that has been in the multi-manager business for years. It has a reputation for creating "own-label" versions of some of the best-known funds. Multi-manager funds have become a growth area in the fund business in the past few years.
What is clever and different about Skandia's new fund is that, rather than asking fund managers from other firms to manage all or part of an overall fund mandate, it is asking each of the 10 fund managers it has chosen to nominate their best 10 stock ideas. These 10 ideas will then be combined with the best 10 ideas from nine other fund managers to create a 100-stock portfolio.
There is nothing novel about the concept of a best ideas fund. Many fund management companies already offer so-called "focus funds", which typically consist of as few as 40 to 50 stocks. These are meant to represent the best ideas that the portfolio manager has, while maintaining the principle of diversification that lies at the heart of the managed fund concept. (Authorised unit trusts and Oeics have to hold a minimum number of securities as a measure of investor protection.)
But there is a fatal flaw in the focus fund idea: no fund managerhas 40 to 50 brilliant ideas a year. In most mainstream equity funds, everyone is working over the same limited number of stocks - for UK funds, the 700 or so shares in the FTSE All-Share index, and, in Europe, maybe 2,000 qualifying companies. One fund manager can't consistently out-think hundreds of competitors in such a limited universe.
By asking for only 10 ideas each, however, Skandia has found a more realistic approach. The fund managers also seem to like the idea, judging by the way that they have been competing to be on the list of 10 pioneers of the new fund. It will be a global fund, with about half its overall assets in the UK and half in five other regions (the US, Europe, Japan, Asia and emerging markets).
The roster of fund managers Skandia has chosen looks strong, including such well-known names as Stephen Whittaker at New Star, Mark Tyndall at Artemis, Richard Plackett at Merrill Lynch, Crispin Odey and Angus Tulloch.
I shall be watching how this fund performs with interest. It is something close to a racing certainty that advisers and other intermediaries will love the idea and have no trouble taking their normal commissions to sell it on to their clients.
John Duffield, who founded both Jupiter and New Star, and knows a good product when he sees one, says he intends to back the fund with several millions of his own money. That tells me that the fund will sell, and that the Skandia fund will in due course be followed by clones from many other fund management groups.
But will this new approach succeed in delivering outperformance? That is a more difficult question to answer. It will be interesting to see how the 10 fund managers in question approach their task: will they opt for high-risk bets that potentially make their 10 per cent of the fund look brilliant, or go for some safer choices that are more likely to keep them on the roster for longer? There will be all sorts of interesting sub-plots to this story.
The most important point, however, is that the fund will offer a good test of the notion that smart fund managers can consistently add value by individual stock selection. The marketing budgets of the fund industry are all built around this premise. But is it true?
The Skandia fund provides a controlled experiment to test the idea. Buffett, of course, says that he has only had 20 good ideas in his career - the difference in his case being that his way of investing has turned those 20 ideas into 75 per cent of his $40bn (£21bn) net worth.Reuse content