Alan Steel: Academics know nothing about investing

Contrarianism has worked in the finance industry. Picture: John Devlin

Contrarianism has worked in the finance industry. Picture: John Devlin

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MY GRANNY used to say that going against the grain and keeping an open mind would one day pay off in a big way.

It sounds easy, but in practice it’s anything but – especially when your money’s at stake.

When I look over my years in the industry, starting in 1969, it’s plain that contrarianism has worked. It keeps you clear of investment bubbles and scams for starters.

I’ll tell you what else you need to look out for when investing your hard-earned money – model driven theorists, brainboxes, academics… call them what you will. They’re dangerous.

The savings industry I entered 46 years ago was dominated by with-profits companies. They were controlled by actuaries with brains the size of Europe. However, a savings system invented in Victorian times proved useless against the flexible alternatives of the 1990s. But they stuck to their outdated theories. As a consequence, hundreds of thousands of with-profit policyholders have suffered years of near-zero returns.

In 1997 I warned readers of this newspaper of Equitable Life’s claims about their allegedly superior with-profits plans. Higher returns which they insisted came from lower charges and better investment skills.

But their eggheads made a blunder, launching plans where, for a change, the charges and performance were transparent. The performance was dire and I said so. They conceded their figures were dismal. Three years later they went belly up, destroying the retirement hopes of thousands.

In the US at the same time a group of academics, including winners of the Nobel Prize for economics, invented an investment scheme called Long Term Capital Management. When it blew up in 1998 it had lost $4.6 billion in four months.

Yet fast forward to 2015 and a growing number of pundits and investors are taking the word of academics whose models show that it’s pointless investing in actively managed investment funds. Why? Well, such economists typically refer to old academic theses such as the “efficient market hypothesis”, which they say demonstrates that it’s impossible to beat a cheap index tracker. Others say much the same about so-called “passive strategies”.

In Superforecasting: The Art And Science Of Prediction, a best-seller published this year, authors Philip Tetlock and Dan Gardner remind us that stock markets are anything but efficient, and that they make mistakes.

For UK equity investors there is no evidence that so-called cheap trackers and passives are better than funds that are actively managed. The FTSE100 is anything but efficient. Its capital weighted format means that the top 20 shares in the FTSE 100 by size represent over half the index’s performance. That explains why it’s gone nowhere in over 16 years. One cheap UK passive fund launched ten years ago by another group of academics has a performance record so dire it makes Equitable Life’s look good.

Superforecasting found a correlation between a fund management team’s active open-mindedness and its predictive accuracy. That’s why top fund managers like Neil Woodford are worth the effort to find and hold. As my granny was also fond of saying: “Quality is well worth the extra, son. Well worth it. You remember that.” I have.

Alan Steel is chairman of Alan Steel Asset Management

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