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Spotlight on Active Management: Finding Superior Active Managers
By Advisor Perspectives
Wealth Management, Asset Management
Superior managers do exist. We know how they behave and what they look like.
Research in behavioral finance over the last two decades suggests that superior managers do exist. We see how superior managers behave, we know what they look like, and we believe we know how to find them.
In 2002, University of Maryland professor Russ Wermers found that constraining managers to boxes defined by price/earnings ratio and market capitalization costs about 300 basis points a year in performance. In other words, a manager pursuing a rigid investment strategy should not refrain from purchasing his or her best ideas when those best ideas do not fit in one style box.1 Cremers & Petajisto reported that higher Active Share is associated with higher returns, with Active Share being the percent of the portfolio that is different from the portfolio’s benchmark index.2 Yakov Amihud and Ruslan Goyenko at NYU found the same results but came at it from a different direction by measuring a fund’s correlation with an index.3 Low correlation proved to be associated with superior performance. Finally, R.B. Cohen, at Harvard, reported that the typical fund manager had superior stock selection abilities and could even rank their best ideas, but held too many stocks. ‘Productive’ best ideas dropped off at about 40 stocks.4 Worded differently, Cohen’s findings suggest you don’t want a manager’s 65th or 75th “best” idea.
Read more at Advisor Perspectives.