Which of the following two advisers would you more likely follow?
• An adviser with a decent but unspectacular track record who merely matches the market’s return when it’s going up but loses less when it is declining?
• Another adviser at the top of the performance sweepstakes but who suffers big losses in a bear market?
If you’re like the typical investor, you’d jump for the second one. Yet the first is more likely to help you reach your long-term financial goals.
That’s because the key to long-term financial success is sticking with an adviser or strategy through thick and thin. And most investors who follow high-flying advisers end up discovering that they don’t have the level of commitment and intestinal fortitude that are required.
As a result, most investors who start following such advisers get rid of them at or near the end of the next bear market. As a result, they suffer almost all of those advisers’ bear market losses yet benefit from only a fraction of their bull market potential.
That’s why the first, less glamorous, adviser is to be preferred. Even though his track record appears to be inferior, you most likely will make more money following him over the long term than by going with the one whose track record appears to be superior.
To put this another way: Slow and steady wins the race.
Most investors know all this already. And, yet, they continue to prefer advisers who are like the second one above.
Why? Because they’re addicted to excitement. To use a baseball analogy, the prospect of hitting a grand slam is more alluring than avoiding a strike out and earning a walk to first base. They prefer the former even as they know that its pursuit more often than not leads to striking out.
It’s in hopes of helping you overcome these behavioral biases that, each year for more than two decades, I have constructed an Honor Roll of investment newsletters. I include on the Honor Roll only those advisers with above-average performance in both up and down markets.
You’d think that making it onto this Honor Roll would be relatively easy. After all, if advisers’ up and down market returns were unrelated to reach other, you’d expect—on the basis of randomness alone — that 25% of advisers would have above-average returns in both up and down markets.
In fact, however, fewer than 10% do. That is our first indication that making it onto the Honor Roll really means something.
Our second indication: On average, the model portfolios of newsletters that have made it onto my past Honor Rolls have been 31% less risky than the newsletters that did not make it onto the Honor Roll, as measured by the volatility of their returns. And, yet, over the last decade, they have done better than those non-Honor-Roll newsletters — by 2.7 annualized percentage points.
It’s a winning combination to perform better with less risk, of course.
For the record, I should report that, even though the Honor Roll newsletters have outperformed the typical service not on the Honor Roll, they on average have not outperformed the stock market itself. But that’s not a reason to shun them, since few investors actually are willing to stick with a stock market index fund through thick and thin.
‘People who can truly stomach the volatility of a 100% stock portfolio are either catatonic or dead.’
As Claude Erb, a former fixed-income and commodities manager at mutual-fund firm TCW Group, put it to me in an email: “The people who can truly stomach the volatility of a 100% stock portfolio are either catatonic or dead.”
In practice, therefore, many investors who pursue a strategy of buying and holding an index fund end up going to cash at the bottom of bear markets. They then end up doing worse than other advisers who lag the index on paper but in practice do better.
This raises a subtle but crucial point: If few actually are following a long-term buy and hold strategy, then it is unfair to criticize managers for not doing as well as that approach.
Your job is to engage in honest self-reflection about your true motives. There’s no shame in looking for excitement from your investments. If so, you just need to realize that you’re probably paying a price for that excitement. Furthermore, you probably won’t be interested in the investment newsletters that are on my Honor Roll.
However, the rest of you may would want to give serious consideration to the newsletters that make it onto the Honor Roll. In my just-updated Honor Roll for 2018-2019, just six newsletters make the grade:
• Bob Brinker’s Marketimer, edited by Bob Brinker.
• The Buyback Letter, edited by David Fried.
• Investment Quality Trends, edited by Kelley Wright.
• Investment Reporter, published by the Canadian Business Service.
• Investor Advisory Service, edited by Douglas Gerlach.
• Sound Advice, edited by Grey Cardiff.
For more information, including descriptions of the Hulbert Sentiment Indices, go to The Hulbert Financial Digest or email mark@hulbertratings.com .
