Knocking Down a Straw Man

Straw Man Argument: By exaggerating, misrepresenting, or just completely fabricating someone’s argument, it’s much easier to present your own position as being reasonable, but this kind of dishonesty serves to undermine honest rational debate.

Today I’m going to pull a straw man down from its rigging, have sex with it, set it on fire and then kick it off a cliff. I’m tired of hearing it and seeing the snide remarks posted across blogs and social media by people who ought to know better.

Here is that argument, paraphrased for brevity:

“Robo-advisors and financial advisors who skew passive are leading the sheep off the cliff by being fully invested right now.”

Basically, they’re saying that because rates are so low and valuations are high and stocks have already run, that active management is the only answer and passive investors are in trouble.

Which is funny, because there is no evidence that actively managed funds fared much better, en masse, in the 2008 crisis than their passive counterparts. In fact, there’s a case to be made that dissatisfaction from how fund managers weathered the crisis is what kicked off the whole passive trend to begin with. “If I’m going to get killed anyway, I may as well not pay up for the privilege in the meantime.”

Sure, there were skilled managers who navigated the crisis better than others, but could they be identified in advance? And how have they done since, through 7 years of market recovery? Whatever you do, don’t look at the SPIVA Scorecard.

As a big fan of the great active managers and an admirer of professional investment skill, I can tell you that what makes it so special is how little of it there actually is. The few, the proud. If you truly respect George Soros and Warren Buffett and their incredible achievements, then the last thing you’re doing is telling others you can easily replicate them.

In the case of robo-advisors, all they’re doing is asset allocation, not unlike what a lifecycle or target-date mutual fund has done for decades. The clients of the robos are mainly people in the accumulation phase of life. Should they be spending their time and energy (and money) on market-timing? They haven’t saved a full nest egg yet, it’s not as though there are millions on the line. Nor are they on the verge of withdrawing for retirement.

For the most part, they are dollar-cost averaging, like you do with a 401(k) you’re contributing to. In this way, a market drawdown would help them enormously, as they’d be investing the same dollars at depressed prices and thus buying more shares. While they’re focused on their careers and families and social lives. This is a “bad” or “dumb” strategy why, exactly?

In the case of advisors who skew passive or build portfolios using systematic strategies, are you assuming that “passive” is the same thing as 100% long the S&P 500? Because it’s very far from that.

I don’t know a single advisor whose asset allocation consists of a 100% long US stocks portfolio. If anything, advisors have been too risk-averse, with portfolios overloaded with TIPS, cash equivalents, precious metals, short-term Treasurys and T-bills. Just because they choose to gain those exposures passively as opposed to paying someone to trade betwixt and between them, this is not akin to “letting their risk ride” on the stock market.

Again, if anything, advisors could be accused of rebalancing their accounts too often, and throttling returns – constantly cutting back their equity exposure into each leg up.

The proponents of this straw man argument also falsely assume that there is no way to hedge risk other than with a traditional hedge fund. Sorry, it’s not the 1990’s anymore, Kurt is dead and Leo looks like Orson Welles. Portfolio solutions to reduce volatility or even make downside bets have bloomed like a thousand roses in today’s era of FinTech and the Age of the ETF.

Never before have investors and advisors been given so many tools to approximate what only the 2-and-20 set were once able to deliver. This is not to say that they’re better or worse than any given hedge fund, it’s just that they are highly available and in popular use. You can be responsible without paying the highest vig in the industry now.

In light of the fact that there is zero correlation (or, perhaps, a negative correlation) between the highest investment fees and the best outcomes, this is a good thing. The most expensive product is not the best product in the realm of investing. I have a Fort Knox-worth of empirical data proving this. You have your feelings.

A robo-advisor or human advisor’s passively-skewed portfolio – invested in low-cost, well-diversified, highly efficient products from Vanguard, iShares, Dimensional Funds, Wisdom Tree and State Street – is NOT a long-only US stock market bet. You don’t have to trade every six minutes or be an expert in every single development around the world in order to manage risk.

If you’re a purveyor of high-cost, high-tax, high-transaction, high-bullshit, wannabe macro-genius strategies, you might want to look into the things you have so much to say about before mocking others who are doing the best they can to save and invest rationally.

You’re either pretending not to understand this in an attempt to mislead others or you’re genuinely uninformed yourself.

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