Bad markets happen to good clients.
As fiduciaries, advisers owe it to their clients to look at defensive tools to counter bear markets.
In the Super Bowl, the team with the best defense usually wins the game. To be successful, investment advisers need to recognize this. A portfolio without a strong defense inevitably loses ground, sometimes never to fully recover.
In 1999, after my first five years as a money manager, I knew the markets were being kind, allowing me to deliver decent returns year after year without significant draw-downs. Being a student of market history, I also knew that eventually things would change and a bear market would need to be dealt with.
The thought of having to hold clients’ hands, perhaps for several years, while telling them to “be patient, the market will bounce back,” over and over – while account values kept shrinking – was not a conversation I was looking forward to having.
At that time, I put client money primarily in traditional asset allocation models. My style was to be fully invested with some trimming and filling of allocations, but I was largely flying by the seat of my pants. I knew there was more to managing money than merely charging fees instead of commissions, but I wasn’t learning much about investment management from the normal educational channels open to registered reps.
The discovery of NAAIM, the National Association of Active Investment Managers (www.naaim.org) changed my practice forever.
NAAIM is a small, but high powered group of independents, including Registered Investment Advisory firms, mutual fund managers and hedge fund managers. Formed in 1989, the group includes approximately 200 member firms that cumulatively manage nearly $20 billion. The group’s small size adds to its appeal, because members actually get to know the other members, which fosters a warm atmosphere and a sharing of ideas. NAAIM’s annual conference feels a bit like a family reunion without the potato salad.
If a common belief unites the NAAIM members, it is that buy and hold only works half of the time. They are the true believers in active money management, making NAAIM a hot-bed of innovation in active investment management. Members freely discuss ideas on how to assess the quality of trends, use technical analysis systems, back test procedures, build portfolio strategies from the ground up, or start hedge funds – topics advisers will never normally hear at a broker/dealer conference.
Make no mistake; NAAIM advisers are not a bunch of day traders. Although some trade frequently, many more trade only every few weeks or months. But all members have systems that tell them not only when to buy, but when to sell. If one is to pursue the great American investment creed, to buy low and sell high, then logically one must plan to sell at some point. Active managers have exit strategies to go along with their stock picking or fund selection capabilities.
A kinship exists between NAAIM members, because they all pursue the same holy grail of investing – greater risk adjusted returns – often through the use of leading edge technology and methods of analysis that they develop themselves. But greater returns are not the only goal. Consistency of returns is sought, as well.
Anecdotal evidence suggests that NAAIM members did very well relative to the performance of the indexes or the average mutual fund in the 2000-2002 bear market. The widespread use of exit strategies by NAAAIM members kept client portfolios from riding the market all the way to the bottom, leaving clients with more money to invest when the market turn back up in 2003.
Anyone who understands the math of losing – that overcoming a 50% loss takes a 100% gain – can appreciate why NAAIM members put so much effort into knowing when to sell. Anyone can ride a market down by 20, 30, even 50%, but by then it’s too late to sell high. Trends must be identified early and most NAAIM members have their favorite systems to determine when it is time to change holdings.
As NAAIM past President Peter Mauthe has said, “The trend is up until it isn’t,” and NAAIM members are usually among the first to know when it is or isn’t.
The free flow of ideas like one sees at a NAAIM conference is rare in any industry, especially a competitive one like financial services. The sheer complexity of managing money and wide variety of management styles, coupled with the fact that some parts of the process are just plain intuitive and therefore hard to copy, allows members the freedom to discuss aspects of their “black box” or decision making process without fear that someone might become a competitor who will take business away.
What makes the whole thing work is the synergy that develops at NAAIM meetings and on-line discussion groups as a result of talking about ideas, challenges and discoveries. The men and women of NAAIM are the Thomas Edisons of our industry. Constantly inventing and refining trading systems looking for the results their clients want.
Institutions that cater to active management have gravitated to NAAIM, and often use the experience and creativity of the members as a sounding board for development of new financial products and services. Profunds and other investment companies have brought to market many new products useful for hedging or other specialized purposes at the behest of NAAIM members.
Various trust companies and custodians also have begun specializing in the fast growing market segment that is demanding active investment strategies.
In investing, as in sports, the best defense usually wins the game. If you are considering ways to provide a greater defensive component to client portfolios, NAAIM membership may be just what you need.
You can check them out at www.naaim.org
Will Hepburn is a Director of NAAIM and owner of Hepburn Capital Management, LLC, based in Prescott, Arizona. He began his career in the investment business in 1979, and currently advises clients with assets totaling more than $100 million with daily responsibility for managing over $20 million of those assets.
His academic record includes a major in business and economics at Ottawa University where he studied under Dr. Wayne Angell, a former Federal Reserve Board Governor. Hepburn graduated first in his class at the Institute of Computer Technology in Chicago and has completed a number of post-graduate level courses with the College for Financial Planning in Denver. He has taught classes on investments and estate planning at Yavapai College, in Prescott for 16 years. His articles on financial topics have been published in newspapers and newsletters nationally and his ideas have been published in best selling books and leading investment newsletters across the country.