Our content this month are as follows:-

• A successful active fund manager - a cautionary tale
• In the News
• Books we have read
• Quotes of the month

Supporters of active fund management will occasionally point to a fund or individual who has done so well over such a long period that it must be as a result of skill, rather than luck. One such manager in the US is Bill Miller, who with his Legg Mason Value Trust, beat the S&P 500 each and every year between 1991 and 2005. On the basis that you must be on board with such a skilful manager fund assets grew from $900 million in 1993 to $8 billion in 1998. By the end of 2006 Mr Miller had amassed more than $20 billion within his fund.

Unfortunately for his investors unless you got into the fund in 1991 or 1992 (which very few people did) you simply did not get these returns. For the 10 years from 1998 his results lagged the S&P 500 by 4 percent per annum and if you were one of the “lucky” ones, who joined him at the start his results between 2006 and 2008 almost completely wiped out the previous 15 years outperformance. His investors have reacted as they often do, by deserting the fund in their droves, billions of dollars having left the fund over the past few years.

There are always managers or funds around who appear to be doing better than markets, but, like Bill Miller, are found out by the double whammy of their very high management charges (Legg Mason charge 1.75% per annum for the Value trust) and their increasing transaction costs as the fund gets bigger. You can read about star fund managers in the press from time to time but in the long run most of them turn out to be "one-hit wonders" who cannot sustain outperformance and quietly disappear from the papers.

We are indebted to our friends at Equius in San Francisco for research into the market premium and the premium you receive for investing in small and value companies. The table below is reproduced from their recent blog item and demonstrates that the long-term premium investors receive was virtually the same for the period 1991 to 2009 as it had been the period 1928 to 1990.

The More Things Change, The More They Stay the Same...

Index 1928-1990 1991-2009
One-Month Treasury Bills 3.7% 3.6%
Dimensional US Market Index 9.5% 9.4%
Market Risk Premium (Market-T-Bills) 5.8% 5.8%
Small Stock Risk Premium1 2.3% 2.5%
Value Stock Risk Premium2 4.4% 3.9%

1Fama/French US SmL Research Factor (returns of small stocks minus return of large stocks): 2Fama/French US HmL Research Factor (returns of value stocks minus return of growth stocks. Source: Dimensional Fund Advisors. Past performance is no guarantee of future returns.

As they point out, advocating the use of hedge funds, private equity, commodities and all the other fripperies that appeared in the late 90’s and earlier this century did investors no favours at all; sticking with the tried and tested principles of, markets outperform cash, small companies outperform large companies, value investment outperforms growth investment, exercise patience and be disciplined continues to be the way to invest. Until rigorous, peer-reviewed research indicates otherwise we will stick with this approach.

Interesting to see that an erstwhile fund manager, Alan Miller, lately of New Star, was the subject of a long article in the Mail on Sunday on the 14th of February. Having left New Star (which had to be rescued by Henderson last year), Mr Miller has now seen the light and condemned the high charges made by active fund managers, as well as their widespread underperformance. Having formed a new wealth management business, Mr Miller is putting together his portfolios using exchange traded funds (ETFs); coincidentally we have recently received from a firm headed by John Redwood, the ex-government minister a similar blandishment to use his firm’s portfolios of ETFs.

Their use of ETFs is interesting and is an area we keep under review; one of the problems we have is that it is difficult to get the kind of small/value tilt we require from ETFs, particularly on a global basis. We applaud them both, however, for their enlightened views and welcome them to the fold of those who, having examined all the available research, have concluded that active management does not have much to offer.

"How Many Friends Does One Person Need?" Is the latest offering from Robin Dunbar and is a fascinating collection of essays, previously published in New Scientist magazine and the Scotsman newspaper. Best described as an evolutionary psychologist, Professor Dunbar takes us on a journey that examines how language developed, why we laugh, what kind of thinking differentiates us from our closest ancestors (the great apes) and many aspects of "the dating game". On the way, he touches on gossip, why it might be good to be tall if you want to be US President and why human babies are born 12 months "premature".

The book also tells us the maximum number of friends and acquaintances we can deal with, known as "Dunbar's number"; you should really buy the book but the answer is 150.

Available from good bookshops and Amazon.co.uk but, if you have any trouble finding it, and please contact Vickie at vickie@indexwm.co.uk

“Isn’t it funny when you walk into an investment firm and you see all the financial advisers watching CNBC -- that gives me the same feeling of confidence I would have if I walked into the Mayo Clinic or Sloan-Kettering and all the medical doctors were watching General Hospital".

Anonymous senior manager at UBS.

“We are what we repeatedly do. Excellence then, is not an act, but a habit ".

Aristotle.