High turnover’s PR problem
The buy and hold mantra misses an important aspect of generating returns
I was listening to a podcast this week with Ian Cassel — a well known investor in micro caps and founder of MicroCapClub — in which he mentioned that Warren Buffett’s turnover was actually highest during periods in which he had his best performing years. Ian goes on to say that:
There has been such a buy and hold mantra, low turnover is judged as a thing of pride…however portfolio turnover when done correctly is the price of progress in your portfolio Ian Cassel
Following on from last week’s thoughts on buy and hold strategies and the pitfalls of using recent history as the arbiter this felt like a refreshing viewpoint. Indeed the topic of high portfolio turnover, generally associated with excess trading costs, has been analysed more thoughtfully by John Huber of Saber Capital in a 2015 discussion paper titled: “Portfolio Turnover–A Vastly Misunderstood Concept”. He goes on to highlight that the returns of Buffett, Walter Schloss and even Peter Lynch were more commonly made up of 20–50% gains turned over rather than the multi-baggers. This quote from the paper rather neatly sums it up:
I think this is where there is somewhat of a disconnect in the value investing community — which often considers portfolio turnover to be a negative thing. In and of itself, turnover is not bad. In fact, generally speaking, the math tells us that it is one of two main drivers of investment performance. So it’s actually necessary!. John Huber
Given the gnashing of teeth over whether we are finally at the point of a big market rotation there is of course plenty being written about comparisons with the tech bubble in 1999/2000 with a lot of that focus always comparing various US stocks and sectors. Turning back to the UK though the lessons are equally stark.
FTSE All-Share sector performance pre and post 2000
From January 1997 to January 2000, roughly the peak of the FTSE All-Share, which had risen by 57%, the top performing sectors were indeed all tech related. Over the following two years however, ie to Jan-2002, the All-Share fell 19%. What is intriguing is that, much like in the US, those best performing sectors unwound most of their gains with the top 4 making up 4 of the 5 worst performing sectors for the next two years. Despite this backdrop though there were still decent gains to be made with 11 sectors, like Tobacco, Personal Goods, Beverages and General Industrials, all delivering decent returns in the context.
StockViews portfolio of ideas, constructed as it is from bottom up research and a view of intrinsic value, feels reminiscent of this situation with the likes of Jet2, Frasers, Stabilus weighing against Future, Learning Technologies and Partners Group…
Finally I thought it worth ending with a particularly apt Charlie Monger quote given the topics of the last two Friday’s. Apt both because the current period of supra-normal market performance has caused many to look inward at their process, mainly due to underperformance, but also apt because I have started listening to the brilliant and (warning!) incredibly crude Stephen Fry Seven Deadly Sins podcast series — like Munger he also rails against Envy…
“The idea of caring that someone is making money faster [than you are] is one of the deadly sins. Envy is a really stupid sin because it’s the only one you could never possibly have any fun at. There’s a lot of pain and no fun. Why would you want to get on that trolley?”; Charlie Munger