Jeremy Grantham’s Q1 2013 letter is a wonderfully honest reflection on the competing goals of a money manager to, on the one hand, protect clients from the certainty of loss in buying and holding over-valued assets, and on the other hand, protect your job from the possibility that clients will fire you for “missing out” when prices go up without them for a period. Given the potential peril to one’s career and business model, few managers have the courage to do the right thing for the client at risk to their own revenue stream.
I see it as inverse to this. In the end, clients fire managers for losing money. If I have to choose–and sometimes we do–I would rather be fired for protecting capital from over-valued markets than for losing it in the inevitable mean reversion that always follows.
I talk about Grantham’s experience in the late 90’s in my book Juggling Dynamite, when extreme over-valuations moved him to dramatically underweight equities by 1998. By the time the tech bubble burst in 2000, his 2 years of under-performance had caused his firm to lose 40% of their clients. In the end, the clients that stayed were more than compensated for their patience. And after the crash, the firm quickly regained new clients from all the other many firms that had not protected their client assets and had garnered “benchmark losses” and worse. This is the normal cycle for long always managers, and the reason they tend to market constantly to keep replenishing the steady flow of accounts leaving after losses.
Managers can choose to sometimes lose clients for moving preemptively to protect the assets under their care, or regularly lose clients each down cycle for losing capital. I decided years ago that the former of these options was the far more attractive risk.
In fact Grantham’s experience was one of the early inspirations for my firm Venable Park when we first decided to go off benchmarking to an absolute return strategy a decade ago. It is interesting to me that his firm GMO is now rolling out its own “Benchmark-Free Allocation Strategy” where, as he puts it, the urge to put risk management first has won out. See his whole article here at Jeremy Grantham’s Q1 2012 letter.