Please Review this Portfolio Proposal

[kv968]

I read over the paper you provided and the other website discussion you posted.

The paper states that the "Stock Pickers" category of actively managed funds outperformed the benchmark by an annualized net of 1.26% over 19 years. I'll believe that, but my concern comes from exactly how do you find the "Stock Pickers" category among all of the funds out there? The paper seems to classify them by "active share" but what is the criteria to delineate that group from the others and would/could you reasonably do it?

First there's the work involved. Are you willing to input all of the weights of a fund's holdings and compare those to that of the index? If you are, how do you know you've found a "Stock Pickers" fund?

The paper provides some metrics in how he went about deciding which fund fell into what category but would you be able to really tell?

"Concentrated" and "Factor Bets" funds could probably be ruled out by just looking for an over-concentration of the fund's holdings within certain sectors, industries, etc... "Closet Indexers" could possibly be rooted out quite easily by just looking at the fund's tracking error or r^2.

That however leaves us with a broad swath of funds (~48% of the funds sampled) named "Moderately Active", which should probably be avoided since they returned a net of -0.52% over the same 19 year period.

The "Moderately Active" group of funds have a similar turnover ratio as the "Stock Pickers", even though that's not really a benchmark the author used in determining the groups, so that easily attained metric is out. Which leaves us with the "Active Share", "Tracking Error" and "# of Stocks" categories. All of which differ between the two groups in mean values but could be proven hard to differentiate when you take into consideration their standard deviations.

All said, there does seem to be a "group" of characteristics in managed funds that may outperform their benchmarks even when factoring in expenses. The real questions are can you find them? How do you really know if you found them? Will you find the "right" ones (remember all of the "Stock Picker" funds had an annualized net of 1.26% as a group so some did worse/some better)?

I'm not debating whether passive or actively-managed is better. I hold some of both. I'm just saying that using the metrics shown in the paper can be daunting and possibly for naught since what you may perceive to be in that outperforming "category" might actually not be. Perhaps looking at a fund's alpha for outperformance and its Sharpe and Treynor ratio to get an idea of its risk and volatility would be almost just as good, definitely easier.

So after all of that, did your advisor show you how those 30 or so funds he recommended stack up as being "Stock Pickers" and why you should hold all of them?

[bUU]

So after all of that, did your advisor show you how those 30 or so funds he recommended stack up as being "Stock Pickers" and why you should hold all of them?

I'm still gathering insights, such as yours, to ensure that when I sit down with the guy that I know all the questions to ask and all the things he needs to demonstrate to me. Your message is among the most actionable and constructive replies I've received so far. Thank you very much.

[kv968]

I'm still gathering insights, such as yours, to ensure that when I sit down with the guy that I know all the questions to ask and all the things he needs to demonstrate to me. Your message is among the most actionable and constructive replies I've received so far. Thank you very much.

No problem, thanks for the kind words. Although I must also say that I'm with everyone else...that's WAY too many funds. I know they may be somewhat different in their own way but to me that's just over-diversification and unnecessarily too complicated.

A couple of things I'd have him demonstrate to me is does he get paid extra for this advice (i.e. 12b-1 fees, loads, etc...), why would he put you in load funds (Hartford Small Co. Fund comes to mind) when it doesn't really do any better than the index and could he run a correlation analysis of this "portfolio" against proper indexes? I have a feeling if he did the latter the r^2 wouldn't be much lower than 0.90.

[bUU]

Although I must also say that I'm with everyone else...that's WAY too many funds. I know they may be somewhat different in their own way but to me that's just over-diversification and unnecessarily too complicated.

I said myself that, "The proposal is such a complex and voluminous approach..."

A couple of things I'd have him demonstrate to me is does he get paid extra for this advice

I think that's a moot issue, at this point. I told him, "we would not consider changing our brokerage to yours". If anyone gets something from 12b-1 fees or loads, it'll be Fidelity, not the FP.

why would he put you in load funds (Hartford Small Co. Fund comes to mind) when it doesn't really do any better than the index and could he run a correlation analysis of this "portfolio" against proper indexes?

Moreover, since he put forth Active Share as his explanation, he'll have to show how he determined it, and show that these funds have it (and that the alternatives do not).

[kv968]

I think that's a moot issue, at this point. I told him, "we would not consider changing our brokerage to yours". If anyone gets something from 12b-1 fees or loads, it'll be Fidelity, not the FP.

Don't be so sure about that. Not changing your brokerage to his may not impact the fees he receives from the funds themselves. FP's can get a cut of those fees as well. Better yet, ask him if he is a fiduciary. That should clear that issue up.

Fiduciary Oath

Moreover, since he put forth Active Share as his explanation, he'll have to show how he determined it, and show that these funds have it (and that the alternatives do not).

If he does show you how he determined these funds are Active Share managed please post back with the results. I'd be interested in seeing how he determined it. Not to be skeptical, but I personally have a feeling he didn't.

[bUU]

FP's can get a cut of those fees as well.

How would that work? How would he even know what we decided to do?

If he does show you how he determined these funds are Active Share managed please post back with the results.

Will do.

[kv968]

How would that work? How would he even know what we decided to do?

Yeah, if you're just taking his advice and using your own Fidelity account I guess he wouldn't get the fees.

I'm just kinda stumped in his selection (let alone number) of funds, especially the ones in your non-retirement account where you can invest in anything. There's no mention of any indexing whatsoever and some of the funds that I looked at have a pretty high expense ratio and/or load.

Not saying that they're bad funds overall and maybe they are chosen for their Active Share aspect and possible better than average returns. Again, I haven't looked at all the funds, especially when all put together, but it has a certain "swing for the fences" feel to me. Although with 4% being your top holding in any fund there's not much individual swinging going on It also feels like a "Here's my 'what I'm commissioned to sell list', let's see what I can pull out of that".

Who knows, maybe it does all make sense and hopefully you'll get his rationale for it when you talk to him. In the meantime I'm still sticking to my over-diversified/needlessly complex theory.