Gary Miller, a manager with Frontier Asset Management, uses a complex statistical formula in an effort to identify the mix of “active managers” who outperform over time. “We come to this with three core beliefs,” Miller said, “active fund managers can add value; we can identify those managers in advance; and they will continue being successful.”
The complex process starts with identifying managers and funds who are focused on generating strong returns to investors and not concerned about fitting in a particular style or size box (Miller says those funds that focus on growing assets are really “closet indexers” and the ones he avoids). Of the 130 funds that make the cut, he then runs a series of simulations looking for the optimal mix of various funds. Part of his ranking system involves taking a fund’s alpha and cutting it in half, a calculation he does so that investing skill is discounted in the model. According to Miller, “maybe half of any above-average performance can be attributed to something other than skill”. He also weights bear market performance more heavily than returns in bull markets.
One of the observations Miller has made when looking at the return data is that “during periods when value stocks were outperforming growth stocks, his managers, in aggregate, had been overweighting on the value side. When growth was outperforming, they had been overweight growth.” He says “they were adjusting to market conditions in ways that we could not have identified.”
The author in this piece asks the question, “does all of this work” in terms of generating outperformance. According to Miller, the strategy with the longest track record, a globally-diversified balanced portfolio, has produced and added return (alpha) of 1.2% per year.