"It's impossible to produce superior returns unless you do something quite different from the majority."
That's a quote from Sir John Templeton, legendary investor, portfolio manager, and philanthropist. As an investor, a financial advisor, and as a human being, there aren’t too many quotes that resonate with me as strongly as this one.
In our line of work there are some things that, well, there’s no other way to put it – things that simply piss me off. One of the things that really bothers me is that (almost) everybody is doing the same thing in the investment world. In my opinion, there isn’t enough differentiation or value being provided, when there very well could be. And this thing that just about everyone is doing, is nothing short of mediocre. I call it “investing not to lose.” It permeates our industry in terms of philosophy and marketing.
If you’ve known me for a while, or even for a short while, you’ll know that another thing that annoys the hell out of me is when people try to be different just for the sake of being different. There's a word for that in our industry, it’s “contrarian,” which defines someone who doesn’t run with the herd, someone who goes against the grain.
Certainly, there are legitimate contrarians out there. I count myself and our firm among them. We think for ourselves and ultimately do a significant amount of extra work to identify what’s best for our clients rather than taking their money and doing exactly what everyone else is doing. What we do is not easy! It’s not easy to stand up against the massive marketing machinery of the industry. It’s not easy to say things that are directly in opposition to what most of us have been fed to believe is the only way to invest.
But we do it here at Beck Bode because we believe that the conventional way to invest is not doing right by the client. We stand for what we believe in, and we prove it through a fully transparent investment process. There are a few things that make us contrarian by definition.
Number one is the fact that we believe in never ever using historical information to make any decision about how we invest.
Many investors and portfolio managers absolutely consider historical performance as a key determinant of their investment decisions. To our way of thinking, that is completely insane. There's nothing in the past that can tell us about what's going to happen tomorrow. There's nothing in a stock price or a piece of financial information that's already happened that has any predictive power with regard to what we should expect in the future.
Number two. Our self-discipline is core to our model and if we don't know when we're going to sell something, we don't buy it in the first place. We clearly outline that as one of the three critical questions that we feel is vital for our clients to understand.
Do you or your advisor know when to sell? This is probably the most uncomfortable question to address for anyone out there, investor or advisor alike, evidenced by the fact that I've talked to many financial advisors in my career, and I've asked a good portion of them what criteria they use to make a decision on when to sell. If I’m lucky to get an answer that’s intelligible, that’s even in English, it boils down to “it’s mostly based on price.” What does that even mean?! “Well,” they stumble along to add, “when it goes up to X or Y, we’ll sell.” I don't even understand that sentence. So you’re telling me that you're basing your decision to sell on something you haven't decided yet. But what if it doesn't get to X? What then? Or what if it gets to X, but then after you sell it, it goes from X to Y or Z?
The majority of the industry has no clear-cut discipline when it comes to selling their holdings. Based on our research – so this is not based on a feeling or intuition, it’s something backed by evidence – we know that over 90% of your overall return comes not from knowing when to buy, but rather from knowing when to sell. This statement in and of itself is contrarian! The industry widely holds that knowing what to buy is the key to optimal long-term performance, but we do not believe that to be true.
This brings me to my third ‘marker’ for contrarian thinking. The third thing we do that is decidedly contrarian is we believe that proper diversification is achieved through concentration, not dilution. You heard it correctly, but I’ll say it again: proper diversification is achieved through concentration, not dilution.
Remember what I said about everybody doing the same thing, taking clients’ money and investing in large mutual funds, or index funds? All of these vehicles are wildly over-diversified. There are so many securities in these portfolios that you essentially erase the opportunity for any kind of superior performance. Contrast that with our method of owning no more than 15 stocks – of course, you can see the impact of every holding on the entire basket.
The skeptic in you may wonder, “What if you’re wrong on one of them and it has a negative impact on the portfolio performance?” Sure, that may be valid, and actually does happen from time to time. The good news is that we have defined rules on when to sell, so we’re not going to sit on something for emotional reasons. We know when to get out.
What’s more important, interesting, and relevant to you is that in order for us to actually identify a security to buy, we need to identify companies that have had two positive earnings revisions in a six-month period. By definition, an earnings revision is an analyst saying what they thought in the past, for the sake of this example let’s say a month ago, no longer holds. They admit that they were wrong, and they are revising their earnings forecast to a positive one. This means they now believe that the company will actually earn more money in the period to come. The same analyst now comes back a month or two later says the same thing again and makes a second earnings revision in a positive direction. Effectively we're saying the analyst is admitting they're wrong twice. That’s when we decide to buy.
I’m not trying to be facetious, but we're always wrong. That's the nature of investing. We don't know what's going to happen in the future. What sets us apart from the rest of the industry is that there’s a method to our madness. Rather than having the answers, we know the questions to ask, which is of paramount importance. That's what drives our decision-making.
Before blindly placing our clients into the fund of the day, we actually stop and ask our clients how they feel about aligning the risk-reward scenario for their investments. In other words, we ask: “How do you feel about properly diversifying your portfolio so that we can give you a chance to reap a significant reward from the investment strategy?”
We do this rather than simply assume (in trying to make a sale) that they should go in an index fund or a variable annuity or something that promotes downside risk. Why not first give the client the option to get their input in terms of how they actually feel about having a process that answers most importantly the question of when to sell. Why not give the client the knowledge that historical information does not impact our buying decisions? Why not ask the client how they feel about having conviction in a proven methodology, as opposed to just buying every security in sight with the rationale that “having conviction would put you at risk of a potential loss.”
Might you get a client who says, “I don’t want that potential for loss.” Sure you will! And that’s totally fine. Because you know what? That client doesn’t belong with us. They need to be invested elsewhere.
But for the folks who actually understand that investing involves risk, there is a different way. Beck Bode is living proof that there are advisors and clients who have conviction in a process. We are living proof that there are people who are willing to take a certain amount of risk for a certain amount of reward.
The answer that folks give us is a lot different than what most of the industry would actually expect. Folks do want to succeed! Folks do crave a process. They do want to know when to sell and they do want to take advantage of the opportunities out there. They just don't know how, because very few others in the investment industry want to take the time or effort nor do they have the courage to hold themselves out there as being authentically different.
Learn more about Beck Bode’s investment management services.
Ben Beck is Managing Partner & Chief Investment Officer at Beck Bode, a deliberately different wealth management firm with a unique view on investing, business, and life.