Because of its nature – the pitcher and batter duel, baseball is well suited for quantitative analysis. Baseball fans love statistics because it’s easy to compile reliable datasets, evaluating talent, and chat about their favorite players.
Investing in mature and liquid capital markets is similar. Investors love statistics, there is vast database of historical price information for broad-market asset classes, and they can brag about their winners. If the performance of pitchers and batters can be simplified to the efficacy of bad pitches, so can the selection of asset managers.
How can you not be romantic about baseball? Billy Beane
For the same reason that most at-bats do not reach first base, most fund managers underperform their stated benchmark, particularly after fees. Not only do fund companies take unnecessary risk with their shareholder’s money, client advisors try to mitigate this fact with complex “diversification” plays.
The bad pitches for traditional firms and fund managers are economic forecasts, stock price targets, industry sector bets, interest rate forecasts, and Fed policy predictions. But the primary cause of unnecessary risk is the false premise that outperformance will help investors live the one life they have to the fullest.
We choose asset managers the way Billy Beane hires players – the lowest cost per win by avoiding unforced errors. Modern Portfolio Theory already includes three potential assumption errors – median return, standard deviation, and correlation. Compounding these is irrational.
Civilization is not something achieved against nature; it is rather the outcome of the working of the innate qualities of man. Ludwig von Mises
Economic and market analyst scouting reports add unnecessary risk. For us, it makes little sense to rely on technical analysis about inflation, currency, business, public policy, interest rate, and headline risks. They cannot be predicted and can only be controlled with efficient market risk management.
Conveniently for them, industry “best practices” ignore the three biggest risks we can anticipate and control – sequence of return, timing of cash flow, and underperformance risk. These are fundamental to Poetic Justice Capital Management because it’s our job to help give meaning to your client’s money and the capital markets.
Like Billy Beane and his owner, we are capitalists. We embrace risk and invest in great players who possess the attributes of success – the entrepreneurs running the businesses that each fund manager owns.