Did anyone else find themselves unintentionally sitting at home all weekend? I tell myself I only have a few things to do (like cleaning & laundry for the first time in a month), yet a day passes and I’ve done none of that. Instead, I made bad life choices and watched Twilight. If you read the books, you know how terrible they are. The movie? Even worse than I thought it would be. Which is actually pretty incredible.
Oh, right. Investing. I will admit that I was super lazy and super confused when I first got signed up for my company’s 401K – in fact, I initially picked one of the ‘moderate risk’ profiles. So, I literally knew nothing about what my money was invested in, except that someone over at Great West Retirement Services decided it had a ‘moderate’ level of risk – whatever that means.
One of the reasons why I wanted (and found myself) a financial advisor, even though I feel pretty positively about my own ability to put together a simple portfolio, is because I would receive access to tools and research that would otherwise be expensive to use. Trying to rank funds is a complicated and deeply flawed process: past returns don’t dictate future ones, ‘great’ managers can and do perform poorly, blah blah blah. I still believe that your choice of where to invest, outside of making terrible choices like saying “here, Madoff, take my money” or putting everything in one company, don’t matter that much.
Let me re-phrase that: it matters less than the other, known, input into the equation of how much money you have when you turn 30, 40, or retire --- how much you put in. Seriously, your sheer investing skillz (or pure luck) may account for a spread of 5-10% in returns relative to your peers. However, I can increase the amount of money I invest by 50%, or even more, if I change my lifestyle and commit to a certain goal. This is to say, I think I’m doing well because I started investing money at all in the first place, not because my financial advisor and I used a rubric to pick appropriate investments (which we did). The rubric that we used is called the fi360 fiduciary score: 11 inputs that are used to evaluate a fund relative to its peers.
(1) Inception Date: the fund must have at least 3 years of history. I think this is a proxy for how likely it is that the fund will continue to exist in the short-term. (And of course, it’s less useful to calculate the other points of there’s less historical data.)
(2) Manager Tenure: the most senior manager must have at least 2 years of history. You want to make sure the magic sauce is there for the fund. And I suppose you want someone with more experience for the job. (Smirking Biden vs. Paul “I call my child ‘Bean’” Ryan, anyone?)
(3) Assets: At least 75 million under management. You want to know other people trust this fund with their money, and it’s large enough to take advantage of certain buying opportunities as they come up.
(4) Composition: Allocation to primary asset class needs to be at least 80%. Basically, does the fund invest in what it says it does? If you’ve added a REIT to get exposure to real estate, it’s not cool if the fund invests mostly in something else. It’s also annoying because you’re likely not allocated in the way you thought you were.
(5) Style: blah blah management style. I like to hate on actively managed funds and have a lot of skepticism about the ability of individuals to consistently beat the market. To me, this is the fluffy human-interest story in the allegedly serious investigate newspaper.
(6) Net Expense Ratio: Must be in top 75% for expenses – ie, you should be paying less than at least 75% of funds in the peer group. This is pretty self-explanatory: pay less for expenses and you’ll be left with more money.
(7) Alpha: Must be in top 50% for peer group. Basically a measurement of return relative to risk. An alpha of zero indicates that the return on an investment is in line with the amount of risk it entails. So, an alpha less than zero indicates that the return you received was lower than would be expected given the amount of risk, whereas a positive alpha indicates that your return was in excess of the assumed reward. Investors generally prefer less risk, so in theory investors must be rewarded with higher returns given higher risk, in order to make the investments appealing.
(8) Sharpe: Must be in top 50% for peer group. The Sharpe ratio is a reward-to-variability ratio: if you care, there are actually some doubts about the strength of the ratio, given that it assumes normally distributed returns. (Hint: not always true) Still, it’s another stab at quantifying the relationship between returns and risk (deviation of returns).
(9) 1 year return: must place in top 50% of peer group (and then 10 & 11 are returns for 3 and 5 years)
Honestly, all eleven of those ‘check points’ are basic common sense … and yet, past returns don’t dictate future ones, so they’re also a bit arbitrary. Behavior of stocks is almost as hard to predict ... as our own. :)