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Weekend reading: The agony of alpha

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What caught my eye this week.

I always stress to friends who know of my investing obsession that – from the position of pure cost-benefit analysis – my stockpicking has been an unproductive waste of time.

Me and The Accumulator thrashed this out in debate years ago. I invest actively for the fun and challenge, I said. He wasn’t convinced.

And it’s true, I probably wouldn’t do it if I didn’t – naughtily, preposterously – think I had a chance of beating the market.

Luckily, I have done, the way I measure it, over the medium to long-term. (Unitised and against a few 100% equity benchmarks, but I don’t adjust for risk, which could make things look better or worse, depending on the year).

2020 has been particularly ridiculous. Everything has worked! It usually doesn’t. Luck has loomed large, too. It doesn’t always, either! It went against me in late 2018 / early 2019, for example, and I spent the year trying to claw back and making things worse.

Swings and roundabouts.

The point is I always caution my friends it’s only in recent years (especially this year) that earning an extra 1%, 5% or for much of the time even 10% has compared at all favourably to trying to earn more money from a traditional route.

Focusing on a career and boosting my salary would have paid far better, if I was wired that way. (I’m not!)

I started with mid five-figures in savings less than two decades ago. I’ve never earned a lot, by the standards of my peers. Compound interest takes time. The metaphor is a slow rolling snowball for a reason.

Even putting more effort into monetizing that perennial underachiever, Monevator, might have been more profitable.

The irony of alpha

Nick Maggiulli did his usual brilliant job tackling all this in a post this week. Explaining why You Don’t Need Alpha, Nick writes:

How many people have earned alpha (net of fees) consistently for multiple decades?

Conservatively, I would say there have been a couple hundred throughout history.

Being one of those people (or trying to select them ahead of time) is near impossible.

More importantly, how much will that alpha change your financial life even if you do happen to acquire it?

For a little bit of annual alpha, the answer is very little.

For example, let’s assume that the market will return 4% a year (after-inflation) going forward and you can earn 1% above this (net of fees) over the next 10 years.  How much more money would you have 10 years from now?

About 10% more.


Obviously you can play with these figures. You can model higher (and even more unlikely) alpha.

More – cough – realistically you can run the experiment for 30 years. It does add up.

But then you spent 30 years trying to beat the market when you might have been doing something else instead.

Where’s my novel, eh? That’s what the teenage me would want to know.

The irrelevance of alpha

I should mention my friends have typically needed little persuasion that I’ve wasted my time obsessing over the stock market.

I was living like a graduate student well into my 40s. My friends didn’t see the sports cars they expected from an obsession with the stock market. (Because they didn’t understand that compounding your own modest wealth sensibly takes time. If you need a sports car in a hurry, get hold of other people’s money and take a cut…)

There was a particularly delusional air about proceedings as my last rental place was run down before I finally bought my flat.

“Where did it all go wrong?” they gently wondered.

The other reason they need little persuasion I’ve been a dud is I try to mostly talk about my mistakes and bad calls.

Superstitious! It’s grounding.

And… luck, luck, luck.

But despite all this I don’t feel I’ve wasted my time pursuing alpha. While I didn’t end up trying to launch/run a fund (another story) it’s led me in interesting directions, career-wise.

It also resulted in this blog, which judging by the generous feedback is my best contribution to the world so far.

Finally, shepherding my nest egg so closely has really made me care about my nest. I’ve added more eggs over time than perhaps I would have, too, and I’ve been careful – big picture – not to break them.

“It is the time you have wasted for your rose that makes your rose so important.”

The Little Prince

Have a great weekend.

From Monevator

Freetrade: How to build your portfolio – Monevator

From the archive-ator: Six reasons small cap shares can supercharge your returns – Monevator


Note: Some links are Google search results – in PC/desktop view you can click to read the piece without being a paid subscriber. Try privacy/incognito mode to avoid cookies. Consider subscribing if you read them a lot!1

Inheritance tax receipts fall for first time in a decade due to £1m own home limit – ThisIsMoney

House prices bounced back in July but beware a ‘false dawn’, says Nationwide – BBC

Cut in stamp duty has only really benefited London, says Zoopla – Guardian

US economy plunges at a titanic 32.9% annualized rate in second-quarter – Market Watch

Universal Credit requires £8bn overhaul, says cross-party report – Guardian

The role of gold; a less than perfect inflation hedge – Advisor Perspectives

More on gold: Sad Old Man Rocks making new high – The Reformed Broker

Products and services

Will superfunds come to the rescue of UK pensions? [Search result]FT

Savers warned not to be fooled by very short-term teaser rates of 1.45% – ThisIsMoney

Car finance commission to be banned. How much will you save? – Which

Sign-up to Freetrade via my link and we can both get a free share worth between £3 and £200 – Freetrade

Argos to stop printing catalogue after almost 50 years – Guardian

F&C flags 50th year of rising dividends after flat but furious first-half – CityWire

Active Non-Transparent ETFs: What are they good for? [US but relevant]Morningstar

Homes with curve appeal [Gallery]Guardian

Comment and opinion

Avoiding the ugly scramble – Morgan Housel

How to sell a house – Finumus

Be aware the ‘I love me’ affect – Klement on Investing

The permanent portfolio is on a roll – The Irrelevant Investor

The 4% budget: Spending flexibility is more important than withdrawal rate – Vanguard blog

How much should you spend on an engagement ring? – A Wealth of Common Sense

Isaac Newton and the perils of the financial South Sea – Physics Today

A billionaire created a perfect experiment by erasing $34m in student debt – Bloomberg

Is ESG2 a return factor [Nerdy, research]Research Affiliates

Holidays in the sun are not a human right, people – Simple Living in Somerset

Naughty corner: Active antics

Stranger things: Evaluating the value/growth divergence – Verdad

Smithson IT closes in on £2bn: A deep dive – IT Investor

Why famed Wall Street veteran Paul Tudor Jones got into Bitcoin – Institutional Investor

A deep dive into the seasonality factor – Dual Momentum

Cullen Roche interviewed by The Investor’s Podcast [Podcast]Pragmatic Capitalism

Coronavirus corner

Half a year of wall-to-wall media coverage and people still wildly misunderstand the Covid-19 statistics – in particular the (tiny) risk of dying young – Advisor Perspectives

R rate may be > 1 in England; possible exponential spread for first time since May – Guardian

Visiting people at home banned in parts of Northern England – BBC

Boris Johnson postpones wider easing of lockdown measures in England – CNBC

The global struggle to produce enough disinfectant wipes to meet demand – Slate

Kindle book bargains

Influence by Robert B. Cialdini – £0.99 on Kindle

How to Own the World: A Plain English Guide to Thinking Globally and Investing Wisely by Andrew Craig – £0.99 on Kindle

I Will Teach You To Be Rich by Ramit Sethi – £0.99 on Kindle

Super Thinking by Gabriel Weinberg and Lauren McCann – £0.99 on Kindle

Off our beat

Regulating technology [Deep dive]Benedict Evans

How digital adverts subsidize the worst of the Web – Wired

What changes [financially and otherwise] in the first year of marriage – New York Times

Thinking for oneself – Farnham Street

And finally…

“The absolute fundamental skill that underpins your success is your ability to spend less than you earn. This is surprisingly difficult for a great many people, but without this you’ve got literally nothing.”
– Pete Matthew, The Meaningful Money Handbook

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  1. Note some articles can only be accessed through the search results if you’re using PC/desktop view (from mobile/tablet view they bring up the firewall/subscription page). To circumvent, switch your mobile browser to use the desktop view. On Chrome for Android: press the menu button followed by “Request Desktop Site”. []
  2. Environmental, Social, and Governance. []
{ 55 comments… add one }
  • 1 Matthew August 1, 2020, 7:01 am

    @ti – are you saying your advantage has been in not charging yourself management fees? When you did succeed -why- did you succeed? You said before that your motivation to be active is in part feeling like you were different (i suspect that may be a common feeling) but how does that actually translate into the choices you make stockpicking or timing? Do you feel you have a tactical advantage or a strategic advantage?

  • 2 Gentleman's Family Finances August 1, 2020, 8:47 am

    I think that there’s always going to be an attraction to taking a punt on particular shares or sectors or funds. I naively put money into Woodford back in the day thinking that he was a sage – even though I was fully signed up to the passive/tracker/etf philosophy (thanks in part to monevator).
    The massive surge in some share prices (notably Tesla) is down to in part (imo) personal investors putting covid cash into the stock market and bumping up prices.
    More fool me for not jumping on the bandwagon but if you are a serious investor who tries to work out the true value of companies and buy/sell/long/short as a result then fine – but your performance will maybe be as good as a tracker on average (ignoring the opportunity cost of your time)
    For shares like Tesla – fair value is $250 / $2500 per share? I don’t know and most private investors don’t care. They are buying on brand awareness and distorting the market – either you jump on the band wagon or let it leave without you (I’ve chosen the later and are poorer as a result).

  • 3 The Investor August 1, 2020, 8:47 am

    @Matthew — Well I think I’m saying that unless you have a trust fund and start with seven figures, even if you can achieve alpha it’s probably not worth it versus making money elsewhere and investing passively. It’s only in the last 2-3 years that the snowball is big enough to make percentages of extra return truly compare favourably with working harder/smarter.

    But re: me, I do masses of stuff and I’m sceptical of easy codification / rules these days. (One of several reasons I didn’t go down the fund route — they very reasonably want you to tell them how you will invest and then want you to do it always.)

  • 4 Matthew August 1, 2020, 9:57 am

    @ti – although I think an edge must be defineable to exist I do think its plausable that different trading strategies work better in different economic weather, and this you might switch strategy but ultimately that would boil doen to a set of rules at least
    I can imagine with big funds a big drawback is having to make a winning strategy/tactic known to get custom

    I believe a true strategic edge would be being able to have high risk tolerence/ flexibility in drawdown or a tax advantage. If you have high risk tolerance and dont need to rebalance to make things look tolerable on the road to it

    I havent even tried timing or stockpicking but I know from what Ive seen I’d have absolutely no tactical edge. Might have strategic edge with risk tolerance & flexibility

    And the markets are not perfectly priced for everybodys tax situation / fscs protection situation

  • 5 Richard August 1, 2020, 10:03 am

    There is also the status of working harder / smarter. When everyone you know on linkedin is CEO of this or chief whatever officer of that you start to feel a bit in adequate, even if you could ‘retire’ / step back and they couldn’t.

    Then there is your legacy to think about. Again, working harder / smarter means a greater chance of a legacy. But unless you are prime minister or something similar it probably helps to rememeber you will likely be forgotten 6 months after leaving your job and whatever you created will likely be gone and forgotten in 5-10 years after you stop working on it. Or maybe that doesn’t help…

  • 6 Al Cam August 1, 2020, 10:22 am

    Have you read Mike Rawson’s post on his 36 year snowball that he posted earlier this year, see: https://the7circles.uk/the-36-year-snowball/
    As Mike R concludes: “The message is that portfolio growth will sneak up on you if you let it. And when your portfolio has more impact than the day job, it could be time to reprioritise.”

  • 7 Matthew August 1, 2020, 10:52 am

    @richard – if they have the intention of bragging, even subtly, they must value your opinion if they want to impress you, ego begets insecurity, maybe makes careers too (not that thatd be in clients interest).

    As you say ceo/managers are ten a penny, none of them memerable or significant beyond frienship value. Even kings, primeministers and chancellors get forgotten quite quickly. When you walk through a cemetary it mostly doesnt matter who when or how. I don’t even meet the upper management where I work so I don’t care who they are as long as nothing changes.
    (Even the concept of voting in a primeminister seems abstract if not for what they would do)

    Planet earth itself is fairly insignificant when you think about how many planets, stars, or even galaxies there are, embrace the freedom from needing to prove anything or be anything, enjoy the now.

  • 8 jim August 1, 2020, 11:19 am

    Good links this week. Have delved a bit into the Finumus blog seems good

  • 9 Simon T August 1, 2020, 12:03 pm

    I never thought of leaving a work legacy, blimey that sounds weird
    Although my linkedin is shockingly understated compared to my peers, ie it’s the truth

  • 10 Matthew August 1, 2020, 1:17 pm

    Re: finmus’s article on selling a house I would also say that if you’re in a chain try to use the same estate agent as what you’re buying so they have a greater vested interest in making the chain work – for me I had my buyers making queries that my conveyancer & freeholder weren’t answering/ the messages werent getting back somehow, it all went right up to the wire until one estate agent suddenly started to do a lot of phoning around as they had 2 commissions in the chain

  • 11 jim August 1, 2020, 1:25 pm

    Also last time I sold a house I specified buyers must use same conveyancing company. That can pay dividends as it streamlined everything. Obviously the buyers could object to this condition but it’s not often they pay the asking price so quite easy to make a condition of their offer.
    Nothing worse than two solicitors/conveyancers not communicating well and making life difficult for both parties

  • 12 Factor August 1, 2020, 1:36 pm

    @TI “Swings and roundabouts.”

    Monnevatorites might like to read the wisdom in the rather touching poem from which this expression originates – https://allpoetry.com/Roundabouts-and-Swings

  • 13 ZXSpectrum48k August 1, 2020, 2:08 pm

    I relate to the idea that initially you are best off trying to maximize your earnings. Worrying about “alpha” is clearly unnecessary but in fact worrying about “beta” can also be rather pointless. Starting my first year of work in 98 with zero, in my first decade or so of work, my annual savings were often 40%+ of my net worth starting that year, sometimes over 100%. Worrying about whether my portfolio made 5% or 10% was really a rounding error.

    That does change though. It took 9 years for my net worth to hit seven figures. Savings were almost 85% of that. It took me another 12 years to hit eight figures but at this point, savings have contributed less than 40%. Going forward, in a normal year, my savings would be <5% of my net worth. Portfolio volatility could swamp earnings volatility. Functionally, I'm in the same place as someone whose retired.

    I'm not sure I agree that alpha is irrelevant. If I'd been passive in the last twenty years, operating a conventional portfolio of equities and bonds, my portfolio's performance would have been inferior. The S&P and Nasdaq have only returned just over 6% in USD since the start of 2000 (the start date for my portfolio tracking); the FTSE ASX less than 4% in GBP. Yes, long-duration Gilts or EM bonds have delivered 9% and, to be fair, they did form a core part of my portfolio. Nonetheless, I don't see how I could have generated the 12% return of my portfolio without active allocation/trading. Reduce the return to say 7-8% using a 50:50 passive equity/bond portfolio over the same years and I'm looking at my net wealth being over 30-40% smaller.

    Moreover, my portfolio volatility is less than 6%. Running a passive portfolio, I lose access to those derivatives and options which allow me to control my risk. I can't buy probability distributions I need and sell those I don't. I can't leverage my upside and constrain my downside. A passive portfolio is great for ease of use but it's just such a blunt tool.

  • 14 Vanguardfan August 1, 2020, 2:15 pm

    @simon t, to me it’s strange not to think of your work legacy. If your work is worth spending so much of your life energy on, surely it should be something that leaves a mark on the world? A teacher or mentor leaves a legacy in those they have helped develop, a researcher hopes to contribute to advancing knowledge in their field (these are both roles I’ve had in my work, amongst others). Whilst most people don’t change the world, they certainly make a difference to the people they come into contact with, at work as well as in their personal lives. They may also leave actual creations – writing, music, art, inventions, new ways of doing things, businesses, etc. All legacies fade with time, but work is an important part of how you make a small ripple in the world.

  • 15 Vanguardfan August 1, 2020, 2:16 pm

    Oh, I forgot to add in my legacies – blogs that change people’s personal financial journey! (I guess that comes under teaching)

  • 16 Simon T August 1, 2020, 2:26 pm

    @vanguard fan
    Re legacy
    As I am now 70 days from retirement I actually read your reply
    To me, I enjoyed my career, but it really was a means to an end
    I stumbled into a high paying career (For where I live), £140k and have been around that since 1997
    I hope my juniors enjoyed the training and help along the way
    But, did I enjoy work, being away from home for 37 years..
    Well it allowed me to retire early

  • 17 Simon T August 1, 2020, 2:27 pm

    Edit.. 27 years away not 37 years

  • 18 Vanguardfan August 1, 2020, 2:56 pm

    Well Simon, all I can say is, I do hope you enjoy your retirement…

    I didn’t enjoy my job all the time, but it’s a lot easier to tolerate if you feel that it’s basically a worthwhile endeavour.

  • 19 Factor August 1, 2020, 3:04 pm

    I ultimately had four separate, degree level, professional qualifications, and always put in the hard miles, but work was always just something that I did between weekends albeit I used it to progressively get me and mine to the part of the country that I wanted to live in. My life legacy will be my two sons and two daughters.

  • 20 ermine August 1, 2020, 3:15 pm

    > Also last time I sold a house I specified buyers must use same conveyancing company.

    Blimey, I didn’t think that was allowed (for the solicitor to represent both parties) due to conflict of interest rules.

  • 21 Fatbritabroad August 1, 2020, 3:46 pm

    “a billionaire created a perfect experiment by erasing $34bn in student debt”.

    Think according to the story itself it’s $34m.

  • 22 Vanguardfan_II August 1, 2020, 3:56 pm

    I’ve had the cure for the futile chase for Alpha through reading Investors Chronicle economist Chris Dillow every Friday.

  • 23 Matt August 1, 2020, 6:02 pm

    It’s not, at least in England! I’ve heard horror stories from other jurisdictions like Spain where property purchases have suffered because both parties have used the same solicitor, who have favoured one side.

  • 24 Boltt August 1, 2020, 6:04 pm


    Thanks for sharing specific numbers and timeframes – it’s always interesting to read/hear other people stories.

    @ factor – four is some going. In once read about the Actuary, Accountant, Barrister – I think he settled on Law. Can you share your 4?

    I occasionally toy with the idea on doing the IFA exams or a Graduate degree (Behavioural economics sounds fun) – time seems to valuable so spend on something I’m unlikely to use professionally.


  • 25 Factor August 1, 2020, 8:28 pm

    @ Boltt #24

    Financial accountant, management accountant, company secretary, linguist.

  • 26 Lockwood August 2, 2020, 11:51 am


    As you muse on the comparative value of the things that you’ve done and not done, I wanted to say a big thank you for all the knowledge and experience that you’ve shared through Monevator. I’ve been diligently reading the blog for the last six years, and it has been a great help to me in understanding many things financial. You’ve helped me grasp what I need to do in terms of long-term planning, and I’m sure that this is of my great benefit to my little family (wife and son). Thank you once again for all of your efforts, and I hope you keep up the good work, it truly is a blessing to those of us who are simply trying to get a handle on all these matters!

  • 27 jim August 2, 2020, 12:19 pm

    @matt and @ermie
    I didn’t say the same solicitor I said the same conveyancing company. They obviously each have to look after their clients interest but by the same token they aren’t looking to chuck a spanner in the works.
    The fact they work in the same office makes communications much more efficient. Plus you don’t have to deal with any solicitor vs conveyancer prejudice that sometimes crops up. Or firms who you get the sense don’t get on so communications become protracted.

  • 28 P Everton August 2, 2020, 12:19 pm

    Factor, what are your degree level company secretary and linguist qualifications?

  • 29 B0b August 2, 2020, 4:34 pm

    As I read a blog, or indeed any article, I have a voice in my head and a picture of the author and their environment.

    This week I had a recurring image of the impoverished yogi in a cave, on a mountain top. TI has sacrificed worldly concerns to impart hard won enlightenment to us pilgrims. For that I thank you.


  • 30 PC August 2, 2020, 6:09 pm

    Thanks for the 4% Vanguard link – that’s always been what I’ve had in mind, varying the withdrawal depending on how things turn out. Yes, it does depend on being fortunate to have more than enough to cover fixed living expenses.

  • 31 Matthew August 2, 2020, 10:31 pm

    Re: legacy I think many of us have an impact on those we work with but it only really matters on a microscopic scale – ie to a handful of people who won’t live forever, and the way in which you help people might be indirect or intangible (people might not even know or appreciate how you’ve helped them) – nevertheless there is no requirement to change the world or even contribute to it, but the dent in the world we do make is the most one mere mortal can hope for – and the good that you do / enjoyment you cobtribute (or recieve)/ problems you solve are worthwhile – for what else would you do with the time?

  • 32 The Investor August 3, 2020, 9:25 am

    Thanks for all the comments everyone, and of course the generous words about our efforts with Monevator!

    I’m also somewhat skeptical of legacy as a goal. Unless you set up the company or similar, I think it’s pretty fleeting. It’s always interesting how quickly apparently indispensable members of a team are papered over after leaving a business and life goes on. Of course counterfactuals are not available, and as “It’s a Wonderful Life” illustrates so cheesily well, we all make an impact one way or another, in myriad unseen ways. But I suppose that would be true if someone was doing something else outside of work instead. (Even sitting alone at home playing video games in today’s online multiplayer game-verse).

    I checked the Freetrade sign-up and it seems to be working as best I can tell.

    Cheers for the typo catch!

  • 33 The Investor August 3, 2020, 9:25 am

    @Simon T — Congratulations on your imminent retirement. Come back and tell us how it goes for you. 🙂

  • 34 Factor August 3, 2020, 9:29 am

    @ P Everton #28

    The Institute of Chartered Secretaries and Administrators (now renamed the Chartered Governance Institute) and The Chartered Institute of Linguists.

  • 35 Neverland August 3, 2020, 9:56 am


    ‘I’m not sure I agree that alpha is irrelevant.’

    What you describe doesn’t look like alpha to me.

    It looks like luck.

    You happened to start a job in the fixed income market when bond yields went from 8% to nil and when the hedge fund industry still paid 2 and 20.

    People get lucky and then they back rationalise their luck as some great ‘insight’ or business genius, particularly if they have something to sell.

    Same as someone who bought a house in London in the 90s just because they needed someone stable to live now fancies themselves as a canny property expert doling out advice on the ‘market’.

    I’m not sure much touted ‘alpha’ even exists on a sustainable basis you can access.

  • 36 Seeking Fire August 3, 2020, 11:07 am

    Hi Neverland. On your point re Alpha or Luck – Alpha is the excess return due to active investment relative to the market. So what ZX is describing can be Alpha. The reason for achieving the Alpha is then I think your point – is it skill or luck or a bit of both perhaps in being at the right place at the right time and having the fortitude to take advantage of such a situation. I know that I’m no Alpha generator that’s for sure.

    More generally, I really liked the article on gold thanks. I hold a years living expenses in physical gold coins as a incomplete hedge against a set of events that I hope don’t come to pass. I would like it to be more then one year albeit I recognise that it’s volatility and poor long term returns mean it should not be a significant part of your net worth – it’s about 2% for me. But it does help you sleep a little better in ‘tail’ type events – March 2020 and 2008 for one.

    The suppression of volatility is storing up possible problems in the future.

  • 37 Duncurin August 3, 2020, 12:22 pm

    My favourite ‘legacy’ story comes from Marcel Pagnol’s autobiographical “La gloire de mon père”. Pagnol’s father was a schoolteacher at the turn of the twentieth century. He had an old friend who had made a brilliant start in his career, but never moved on from his first post in a socially deprived suburb of Marseilles.

    “So you never had any ambition?” asked his father one day.
    “Oh but I did” replied his friend, “and I think I succeeded! Consider that in twenty years my predecessor saw six of his pupils guillotined. Whereas in forty years I had only two, plus one pardon. It was worthwhile staying there.”

  • 38 ZXSpectrum48k August 3, 2020, 4:06 pm

    @SeekingFire. It could be luck. Take a large enough sample of people, give them all a bucket of dice, and some sod will throw all sixes. I know, I’m the nerd who used to play Warhammer Fantasy Battle. It always happened during a risky flanking manoeuvre.

    I’ve participated in the latter half of a 40 year bull run for most asset classes. So it’s likely that some of the 12% is “beta” or “luck” if you prefer. In a worse environment, I probably wouldn’t have made 12%, but, realistically, the S&P wouldn’t have made 6% or long Gilts 9%. So possibly I’d still have some “alpha”. Nobody knows.

    Look passive is great. It’s easy to set up, requires no effort and, long-term, it will probably produce the results. Personally, however, I can’t handle a passive portfolio. I’m not the overconfident, optimistic type you tend to find on FIRE blogs. I’m a pessimist, risk averse, no self confidence (didn’t go to private school). I live my life in constant fear. I wouldn’t sleep facing a 20%+ drawdown or waiting 10 years+ for the portfolio to recover. Moreover, given my job, as long as I didn’t totally drop the ball eventually I would accrue some wealth. I didn’t want my portfolio dumping 5 years of savings down the plughole in a flash. I needed a portfolio that also wouldn’t drop the ball.

    So I originally constructed my portfolio strategy with a volatility budget of 5-6%. I constrained my risk, especially my downside tail. That’s a problem with passive portfolios. You can’t shape the risk profile in a precise manner using delta 1 products and I’m far more comfortable with complexity than I am with volatility. Now the “benchmark” was inflation + 4%, post tax. Say 8-10%, nominal, pre tax. So it shouldn’t have lost money more than 1 year in 20 (it’s actually had one down year in 21 years). The key point is that I never actually targeted a return. I never aimed for CPI+4% or 12%. That’s was output, not an input.

    Active investing is hard work and adds complexity. Take my foray into P2P lending in 2013-16. Acting as an underwriter on loans for a few platforms, I was able to generate returns of 30%/annum but it took considerable effort. It wasn’t passive and the opportunity didn’t last forever. Or this year when I bought a corporate bond JPM 0% 2041 in ZAR at 5.75 (price) with USDZAR at 18.8 in early April, and sold it for 14.25 with USDZAR at 17.1 in early July, a 170% return. Nice but I’ve been thinking about doing that trade for 3 years(!), waiting for the confluence of events to put all the risk vectors in the right place. These opportunities just don’t happen every day.

    I’m not punting. I don’t trade regularly. I’m not taking macro views where I believe I can call the market. I’m simply waiting for some playing field to be skewed heavily in my favour. Then I play. The moment it becomes fair, I stop playing and go back to a low-risk, more passive type of portfolio.

  • 39 The Borderer August 3, 2020, 10:30 pm

    @ZX (38) “I’m simply waiting for some playing field to be skewed heavily in my favour. Then I play. “.
    I wouldn’t fancy playing you at poker.

  • 40 Sparschwein August 4, 2020, 12:38 am

    Interesting article and discussion, as always. This blog really is a valuable contribution to the world.
    There may be a case for a smallish allocation to stock picking, if only as a diversion for the ever-present drive to meddle. I do the odd active bet, only in the narrow field where I can delude myself into thinking I have an informational advantage; and only when I see a major point the market seems to be missing; and only with a small fraction of my investments.
    The results have been surprisingly good, but it may be all down to dumb luck (low n) and the effect on overall “alpha” has been rather negligible. Sometimes I wonder whether to increase the stakes when I spot an opportunity…

  • 41 Sparschwein August 4, 2020, 12:59 am

    @ZXSpectrum – this is very interesting. What do you look for to decide if the odds are sufficiently skewed in your favour? And how do you determine position size?

  • 42 Neverland August 4, 2020, 8:10 am

    The whole fund management industry (hedge fund and retail) is strewn with people who produced great investment returns for many years and spectacularly blew up before sloping off quietly to tend their fortunes from the gullible

    They all had pages of pages of reasons why their investment processes couldn’t fail and what their secret secret sauce was

    Soros, Druckenmiller, Bacon, LTCM (I don’t remember their names but those guys had nobel prizes), Paulson, Marek, Woodford …. just off the top my head.

    Are all the people claiming alpha on here saying they are smarter than those people?

    There is no real alpha its just luck.

    Everyone wants to fall for the comfort blanket that if you are smart and clever or hire someone smart and clever but in the end its almost all just luck.

    If virus just coming along and upending the world for a year should teach you anything; it should be that.

  • 43 Matthew August 4, 2020, 2:57 pm

    @sparsch – i suppose there lies the danger, building confidence, and I personally can’t think of a new infallable secret sauce that someone else hasnt already
    I suppose maybe the place for active really is risk control, not alpha (ie only buying into rosy consensuses), filtering out risk from the index, etc – if a fund said “im not trying to outperform the index but have less volatility than the index” – that could work, apart from the fact a more bondy passive allocation would probably achieve the same thing better

    We could say that the humility to use passive is an individual strategic alpha vs the rest of the market – one of those things (like age, risk tolerance, tax situation) where knowing of it’s existence as an advantage doesnt create too much arbritage

  • 44 ZXSpectrum48k August 4, 2020, 4:26 pm

    @Sparschwein. I don’t ever really try to “call the market”. It’s unlikely I have some special insight into the Fed’s policy, geopolitics or whatever. A few probably do but most, who think they do, don’t.

    The idea there is no alpha though is a bit simplistic. The whole “zero net sum” argument assumes a closed system, no market segmentation and risk-neutral agents. Some markets, like equities, approximate that well but many don’t. I would instead argue that alpha is not scaleable, sources are inconsistent and don’t always persist for long periods. You need to constantly locate new sources as older ones are eliminated. Yet if you move too far outside an area of expertise, you risk becoming a someone else’s source of alpha!

    Personally, I focus on payout ratios. I typically want a minimum of 3:1 but preferably higher. Options allow me to construct very defined payout ratios. In other trades there is often an asymmetric bias. A yield curve trade that is a more attractive manifestation of a directional view than the actual directional trade. So some parts of the yield curve may flatten aggressively in a bullish environment but only steepen modestly in a bearish one. I may have no idea which way the market will go but clearly the flattener is the right payout trade. I use quant signals to give me an idea if there is a reasonable probability that the ratio can be achieved. Those are fundamental, technical, but mainly, valuation based.

    I normally end up with a portfolio of good payout ratio trades, relatively floored downside, no concentration risk. It’s a disciplined, methodical risk management approach. I don’t risk more than 1% of NAV on any strategy, often less. I then just allow the natural randomness of markets to trigger payouts.

    It should be clear I have a long volatility bias in this approach. At a personal portfolio level, I find that this complements well the passive core since that has a natural short volatility bias. In years where the market is quiet, bullish etc (2017), the alpha strategies are a drag. In the volatile, more bearish years, such as this one, the alpha tends to outperform hugely.

    Professionally, I been trading for 16 years (plus 7 years as a quant strategist). My type of strategy is expected to generate a high Sharpe (return/risk ratio). In many asset classes, a Sharpe of 2 is very good but in my area 3-4 is quite common. A 5% drawdown is probably curtains. I’ve never had a loss year yet but some periods were very hard work. At few years I scraped just above breakeven. Other years (like this one, 2008 or 2013) are like all your Xmases came at once.

    For example, my original source of alpha, swap curve trading, really fell away from 14-17 as the market became crowded with people similar to me, operating with ever larger capital, in ever bigger hedge funds. I wondered whether that source had gone. Thankfully, poor performance by hedge funds resulted in the capital allocated dropping massively. Recent years have been good again, and this year exceptional, but that probably results in more capital being allocated, again choking performance. The hedge fund industry is 10x too big. In 2010 you could still launch a fund with $100mm and be viable. Now it’s really $1bn.

  • 45 Chris@TTL August 5, 2020, 3:21 am

    Pretty neat to see Vanguard doing a bit of writing on the 4% rule (well, rule of thumb at least) from the good old Trinity Study. Thanks for sharing that one.

    “It also resulted in this blog, which judging by the generous feedback is my best contribution to the world so far.”

    It is indeed a pretty wild thing to take a moment and appreciate how many people can be (well, have been) reached by what we bloggers can write into the world. Those analytics, just the numbers, well–they represent real time from real people digesting what was said. And hopefully, gaining something from it.

    Thanks for adding to the chorus.

  • 46 Neverland August 5, 2020, 8:09 am


    Everything you are describing is just vanilla for a hedge fund and it just reads like the playbook for LTCM except maybe you use less leverage, who knows


    There are ten of thousands of people dong this and statisically some will be lucky for many years on the trot

    Just as enough monkeys on the beach with a typewriter and one will bang you out a Shakespeare play

    But time and time again their luck runs out eventually

    But its the % of fees under management and the carry that makes them rich

    Their genius was always for marketing not investing…

    …and if you are going to market it it helps that you have a clever sounding explanation and you even believe it yourself

  • 47 Richard August 5, 2020, 9:35 am

    To my mind there are 4 key factors when actively investing. 1) having a view of the probability of an outcome, 2) having the information to fine tune that probability, 3) having enough ‘events’ to tend to the mean probability from the distribution, or understanding the likely variation around the mean and 4) a success/fail exit strategy. If you don’t have enough events over the time your information is good then it is likely luck. If you don’t have complete information then it tends towards luck. If the information suddenly changes so the probability no longer makes sense then it depends how quickly you can react which could be luck or reflect a well thought through exit strategy. The problem is you only need one of these three things to go out of kilter and ‘your luck runs out’. The more complex the system the more likely it will fail at some point. Which is why passive investing is so appealing…..

  • 48 The Investor August 5, 2020, 9:53 am

    @Neverland — We understand your point, which is a reasonable position to hold. Now you’re just repeating yourself.

    Personally I’m pleased to hear more from somebody who actually does this stuff as to how s/he sees the process, and evidently some other readers are, too, on a thread that is specifically about the pursuit of alpha.

    There’s $3+ trillion under management with hedge funds so hearing how/why they do what they do is interesting to many of us.

    You’ve made your point, so no need to make it again thanks.

  • 49 ZXSpectrum48k August 5, 2020, 3:55 pm

    @Neverland. I’ll reply once more to you. You really don’t know your arse from your elbow.

    Let me quote you
    “just reads like the playbook for LTCM except maybe you use less leverage”

    What a daft, ignorant comment. LTCM was basically involved in highly (40x) leveraged carry trades, such as massive positions on the UST bond-future basis. There were intrinsically short volatility on the vast majority of those positions. I sat on the swap desk as a junior while it was going on. I remember the types of positions we took off them during the unwind.

    My whole strategy is intrinsically long volatility and convexity. I don’t blow up in a 1998, 2008 or 2020. I actually make out really well in those environments, and that’s by design. For god’s sake, my role is to be the bloody hedge in the portfolio for other PMs who are doing massive UST bond-future basis trades.

    My problem is never blowing up. My issue is slowly but bleeding to death from negative carry. And that’s a big issue when the whole modus operandi of central banks for over the last decade has been to suppress volatility. My expertise, if anything, is not making money when everything blows up, that’s built in to the strategy. It’s the ability not to lose money while I’m waiting. Hence the reason why they give me very tight stops.

    It also should be fairly obvious I can’t explain in a short comment section what it’s taken me over twenty years to develop. Especially when it’s in areas outside of equites and requires a mathematical and data science type of background.

    Frankly, I give up. I’ve got better things to do than comment further. You just carry on trolling everyone with your misinformation and misunderstanding.

  • 50 Seeking Fire August 5, 2020, 4:38 pm

    Interesting back and forth as ever.

    I think this is a good demonstration to anyone who is thinking about seeking alpha that just reading the money section of the weekend paper clearly isn’t going to cut it. And even deep intensive analysis may easily yield results worse than the market. I remember recently reading a blog of a youngish personal financial adviser in the US who denigrated much of the fund management industry and then tried to convince his reader that the answer was dividend growth investing via the stocks he was picking. I suspect that movie has been done before. Or the co-worker who assured me BP & Shell were screaming buys due to their dividend yield….yup I suspect the market has seen that too.

    For me, I’m happy to have a foot in both camps. I feel it likely that some investors or market participants achieve sustained alpha due to skill, equally I know that’s not going to be achieved by me nor can I really identify those people in advance to invest with. I do believe there’s a strong following of the beta / passive movement due to the decade long bull market. I suspect if we had a decade of poor returns it would have fewer supporters. Someone who just holds the FTSE 100 since 1999 on the mantra that passive is best must be chewing their nails a bit. Not that you should just buy the FTSE 100…

    Having just re-read the black swan by Taleb again, it seems as if ZX Spectrum you have followed a similar strategy to the one he pursued in his professional career. A series of regular minor losses followed by the occasional strong performance when markets deviate substantially from expectations. Could be wrong clearly 🙂

    Enjoy the lovely weather all!

  • 51 The Rhino August 5, 2020, 7:16 pm

    I read this article on get rich slowly having a catch up with Jacob Lund Fisher -> https://www.getrichslowly.org/author/jacoblundfisker/

    He made the observation that alpha is present when your mixing in quant circles. I often thought that real alpha has no requirement to shout about it so find it all eminently believable.

  • 52 Rob B August 5, 2020, 10:01 pm


    Your insight, knowledge, understanding and perspective is top notch. Whatever happens, don’t stop contributing!

  • 53 Sparschwein August 5, 2020, 11:09 pm

    Indeed it’s very interesting to read about the mechanics of a hedge fund strategy, and one that obviously works. I think it would make sense for most stock-heavy portfolios (yes there are periods when stonks *don’t* go up). Anti-correlated being the magic word.

    Unfortunately it is difficult for retail investors to get access. And then to pick the “ZXSpectrum” among the “LTCMs”. A few years ago I could have invested in a fledgling hedge fund. I understood just enough for my pennies/steamroller-alarm to go off, and passed. They made good money for several years. The moment of truth came in March, when the losses wiped out all previous gains. They did have a failsafe system (they aren’t idiots after all) but it failed in the crash.

    Bottomline – I need to learn about options. Any suggestions of books or other sources very welcome!

  • 54 Mean Gene August 6, 2020, 12:56 am

    Well, there are ETFs that try to mimic taken strategies. Check TAIL. Losses on good years for stocks will offset any gains in troubled years like 2020. At best it is a wash. Then there is SWAN, which does fine but uses call options and thus will take a hit albeit downside might be capped. Or not.

  • 55 Richard August 6, 2020, 10:39 am

    The other thing to consider is whether we drop managers too fast for poor performance. The strategy is sound, but a string of ‘bad luck’ – hitting the bottom of the return distribution – before enough data is in shuts them down too early. As stated above, marketing and ‘celebrity’ are important factors to survival.

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