Lessons From the Year’s Top-Performing Advisers

Mark Hulbert writes that 2019’s best-performing advisers show the patience and discipline to stick with their strategies during those inevitable periods along the way when they are out of synch with the market.
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The top newsletter in the Hulbert Financial Digest’s 2019 performance rankings was fully invested in stocks throughout the year, and never sold a single share of stock.

The second-place newsletter, in contrast, began with 35% allocated to cash and made frequent purchase and sale transactions throughout the year.

Welcome to the complicated world of drawing investment lessons from the top-performing newsletter.

As you contemplate these disparate strategies of the top performers, you should know that there is a similarly wide range among the strategies pursued by the newsletters at the bottom of the 2019 rankings. The newsletter with the lowest 2019 return started the year with 50% cash, for example, while the newsletter with the second-lowest return was fully invested throughout.

Nor was 2019 unique. I have consistently found from my 40 years of tracking the performance of investment newsletters that, in the right hands and circumstances, almost any approach can work. And, by the same token, in the wrong hands or circumstances, virtually any strategy can lag.

In other words, past performance is going to be of only very limited use in determining which particular stock-picking or market-timing strategies will work best in the future.

While you might be disappointed that the performance rankings don’t tell you which strategy to follow, I actually think it’s good news. If there were only one road to riches, then it would quickly become so crowded that any potential gain would be almost immediately discounted away.

If there were only one road to riches, then it would quickly become so crowded that any potential gain would be almost immediately discounted away.

One Overarching Lesson

In any case, there is one overarching investment lesson that does emerge from the newsletters that have consistently performed well over the years: They have the patience and discipline to stick with their strategies during those inevitable periods along the way when they are out of sync with the market.

The alternative, which all too many individual investors pursue (as well as many advisers, for that matter), is to chase returns -- jumping from one strategy to another according to which has done well in the immediate past.

They remind me of the impatient drivers who constantly change lanes in hopes of getting to their destinations more quickly than if they were simply to stay put. Inevitably, it seems, the lane they switch into slows down the moment they get there, while the lane they switched away from suddenly speeds up.

To show this, I conducted a test: For each of the portfolios I monitor, I constructed a hypothetical portfolio that was identical to its composition at the beginning of 2019 and which undertook no further transactions. I then compared the 2019 return of this frozen portfolio to that of the actual portfolio. If the frozen portfolio did better, then we know that the newsletter’s trading was costly, on balance.

Slightly more than half of the monitored newsletters would have been better off undertaking no transactions this year. And for an additional 31% of the monitored services, the benefit of undertaking transactions was only slightly better than doing nothing. Only 18% of the newsletters produced substantial alpha through their 2019 transactions.

These results are consistent with what I have found in each of the other years since 1980 in which I tracked investment newsletters.

These results mean that your default investment assumption should be doing nothing to your portfolio. There is a high burden of proof you must meet when contemplating making a chance.

Risk Is Not Always Rewarded

There is another lesson that emerges from my analysis of the performance rankings over the past year: Higher risk does not always produce higher returns. That would be important information at any time, but especially if you are worried about an imminent bear market. During a major decline, of course, the riskiest strategies would be among those losing the most.

Many traders are willing to risk such outsized losses on the theory that they will make enough more money when the market rises to compensate them for that risk.

But my performance tracking calls that theory into question, since the riskier newsletters did not, on balance, produce higher returns.

I reached this conclusion upon feeding into my PC’s statistical package each monitored newsletter’s 12-month return and risk, as measured by the standard deviation of monthly returns. The statistical model that most closely fits the data is one in which higher risker leads to lower returns.

Though you may find this result to be surprising, it is hardly unique. I have reached the same result in each other year of the past four decades.

These results mean that you should feel no compulsion to go further out on the risk spectrum in hopes of producing greater returns. If there is a bear market, you will be glad you stayed closer to the conservative end of the spectrum, and you will not necessarily have given up any bull-market return to have that diminished bear-market risk.

Now, with the stock market at new all-time highs, would be a good time to become more conservative. If you wait until a bear market begins, whenever that may be, it will be too late.

Mark Hulbert is the founder of the Hulbert Financial Digest. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited.