The Investment Chupacabra

Marshall Rathmell |

In the mid-1990s, Norman Berk attended an investment lecture at an AICPA conference in which the concepts of modern portfolio theory and passive investing were explained. In a few words, passive investing means purchasing virtually all the companies comprising an asset class so that your portfolio encompasses the entire financial world. Utilizing precise mutual funds adhering to this standard - without predicting what to buy or sell or when only buying and selling to rebalance your portfolio to its original asset allocation, and not trying to "time the market" in an attempt to predict the future - takes full advantage of modern portfolio theory. These concepts resonated deeply with Norman, and he was driven to learn more about them. Eventually, these concepts became the basic underpinnings of BCR's approach to investing. And, don't let the use of the word "passive" fool you; we believe passive investing is a good thing and we actively pursue it.

However, it seems clear that the world chases the "investment chupacabra". The "investment chupacabra" is my term for a fund manager or stock broker who could consistently beat the market well beyond the fees they demand. The world searches for such a mythical creature because its want to believe that through education, knowledge, and hard work, someone could give us more wealth than the general market provides. Academic researchers have shown that people trying to outperform markets are subject to the statistical odds that may make someone appear to outperform over a significant time period, even though they are just lucky. This research result drives our firm to focus on making sure our clients (and us too) are earning what the market is providing, on a risk-adjusted basis, instead of simply chasing the latest trendy investment.

I am always surprised when I see educated, savvy investors fall prey to the lure of active management (i.e., jumping in and out of investments in hopes of "beating" the market).

Even boards of large pension plans can be swayed to switch back and forth between active managers because they don't want to be seen as merely accepting a so-called average return.

One group that has held actively managed funds in its supplemental-income plans is the California Public Employees' Retirement System (CalPERS). The CalPERS investment committee, which is responsible for its $1.64 billion defined-contribution plans, including a $1.1 billion 457 plan, has voted to replace these actively-managed funds with passive choices. They will also be switching the plan's custom target date funds to passive management. By my calculation, the costs of the actively-managed funds they offered were 766% larger than the passive management plan they are implementing.

At times, I wonder how it will affect the world as more and more people come to understand the value of passive investing, modern portfolio theory, and fee-only investment advisors.   Earlier tonight, I had a phone call from a client who called simply to thank me for what we are doing for him and his family. Calls like this and news like the vote at CalPERS reinvigorate my pride in our firm and what we do on a daily basis. From the bottom of my heart, I want to thank each of our clients for trusting us and allowing us to do what we do.

- Marshall Rathmell-