Consultants and asset owners who evaluate your firm need to understand your investment philosophy. A good investment philosophy statement can help them do that by providing starting points for further conversation.
Finding out whether your investment philosophy is truly defensible requires an in-depth conversation, perhaps many conversations, as well as observation of the investment process in action. In our experience, few investment professionals can cut to the chase in these conversations. The more likely situation is that the evaluator must work to uncover the professional’s tacit knowledge, something the professional may not be able to identify or articulate without thoughtful questioning and dialogue.
One of the biggest challenges an investment firm faces is maintaining conceptual and process continuity when a key person such a founding partner or CIO leaves the firm. One of the most powerful—and least recognized—team transition tools available to investment firms is their investment philosophy. A genuinely shared investment philosophy transcends the tenure of any one individual and can be a source of stability during times of transition.
Automating the last mile of your client reporting and marketing presentation process is our recommended course of action. But if your firm isn’t there yet, here are some steps you can take to help identify and correct manual errors in the meantime:
1. Use checklists.
Having a checklist of all the tasks that must be completed is a best practice for any manual process.
- Keep the checklist long enough to be meaningful, but short enough to be manageable.
- Have people sign and date the checklist.
- Keep checklist in a central location — not an email thread.
- Save the checklist with the materials produced.
We have heard both investment managers and evaluators of managers grappling with the question: How many investment philosophies should an investment firm have?
We believe a firm should be able to articulate a sound investment philosophy for every investment strategy it offers, regardless of whether that strategy is packaged as one product or several related products. An investment strategy is the application of a set of beliefs to a specific set of opportunities. A strategy is an approach for practicing a philosophy, including beliefs about internal skills, portfolio construction and risk management.
It goes without saying that the beliefs behind an investment philosophy are, by definition, deeply held. But should they be cast in stone, even when new information challenges those beliefs?
We don’t think so.
Investment and marketing professionals often say that their philosophy is what makes their firm unique. And some investment consultants and other evaluators also expect each manager to have a unique philosophy. Perhaps they don’t really mean “unique.” Maybe what they expect is “distinctive.” But if they actually mean one-of-a-kind unique, we think this is a mistake.
In today’s high-tech world, saying you’re “data-driven” has become something of a mandatory for businesses and financial managers. But should your investment philosophy be data-driven? We think “What do the data say?” and “What data would I need to confirm an intuition- or experience-derived belief?” are good questions, and ones that should be asked in order for an investment philosophy to remain vital and grounded in reality. But we do not think that an investment philosophy should be driven by data.
To say an investment philosophy must be data-driven asks more of data than it can deliver. Intuition and personal experience are key ingredients in the development of any belief system, and an investment philosophy is no different. Not all convictions about the markets—or good investment decisions—can be backed up with verifiable data. The nature of investing is to act now on the expectation of future events, and investors are rewarded for being correct ahead of the competition. Sometimes the data don’t reveal themselves until the future has become the past.
We propose three criteria for evaluating a manager’s philosophy statement:
- It should be a statement of belief as opposed to process, objectives, etc.
- It should avoid logical fallacies, such as non sequiturs and mythology presented as fact.
- It should provide enough content about the philosophy itself to constitute a starting place for in-depth exploration.
Below, we evaluate three examples of active investment philosophy statements in terms of these criteria. We chose these three out of the many we looked at because they allow us to illustrate all three evaluation criteria. They are actual investment philosophy statements taken from investment managers’ websites. We modified them only to disguise the managers’ identities.
Last week, we talked about the difference between an investment philosophy—a set of beliefs that guides your approach to investment management—and an investment philosophy statement, which is a summary of those beliefs.
But what constitutes a good active investment philosophy? First and foremost, it must address how investment opportunities come about, why some opportunities are more attractive than others, and how you identify and exploit those opportunities before others do. In our view, these are mandatory components of a meaningful active investment philosophy.
In addition, we believe an active management investment philosophy should also embody the following 3 essential attributes:
An investment philosophy is an integrated, nuanced, cultivated set of beliefs about how you approach investing. An investment philosophy statement is a summary of those beliefs.
A philosophy statement is like a resume. It highlights major points and provides a few proof statements without going into too much detail. The goal is to trigger a potential reviewer’s interest in you and a desire to learn more. That’s what an investment philosophy statement should do—give someone who is evaluating your investment philosophy a good grasp of your basic beliefs and provide entry points for a more meaningful conversation to develop.
Effective communication often calls for short, punchy statements. Yet many investment philosophies are based on complex ideas and cannot be easily reduced to an elevator pitch without losing content. How can your investment philosophy statement do justice to your underlying philosophy without becoming a full-blown treatise? We propose three criteria for writing a philosophy statement: