Thoughts on Track Records
I’ve been thinking a lot about the concept of a track record. In case you don’t know, in the investment business, a track record is a page or two which shares your performance returns (usually monthly) with a bunch of other statistics (CAGR, Sharpe ratio, Sortino ratio, max drawdown, etc.).
Your track record is your main currency in the investment business when it comes to finding investors, raising money, and otherwise making yourself stand out. But not all track records are created equal.
Generally, hypothetical track records are not worth the paper they’re printed on. Long ago people could sell a backtest but, nowadays, not so much.
Similarly, track records on personal accounts (as opposed to on money you manage for someone else) are viewed as mostly useless since people think personal trading is a far cry from the realities of managing other people’s money (which it arguably is - the pressures aren’t the same).
Next, if your track record is on a few million dollars, you won’t be taken seriously by institutional investors. Nope, you need at least $50mm (and more like $100mm) to be a contender. And given many big allocators have rules (they won’t be more than 10% of a fund as they don’t want to be the main player and won’t allocate less than $50mm as anything less won’t move their needle) you’re not a real player until you hit $500mm+.
The length of your track record also matters. As a general rule, anything under three years is pretty much useless when it comes to wooing institutional investors. You might get a family office or other off-the-beaten-path entity to invest, but they will likely want a large ownership stake in your business for the trouble of investing in an unproven thing. And, usually, they don’t bring much to the table beyond a few million bucks - you rarely get infrastructure, a lot of capital waiting in the wings, introductions to big investors, etc. These deals almost always sound nice to a fledgling managers but they rarely work out well.
Another thing to consider is your track record needs to be audited by an independent auditor in order for it to be considered worth anything because, if you don’t have a legit third party verifying it, your track record might be phony.
To recap, if you want to be a player, you need a lengthy track record on sizable AUM from legit external entities that is audited. This is the holy grail of track records.
Most would-be managers ask a similar question:
How can I get my hands on one of these holy grail track records?
But I’m not gonna answer that question because, somewhat controversially, I think it is the wrong question. Instead, I think a better question is:
Is a holy grail track record worth it?
My answer:
I don’t think so.
Why not?
Because reality demonstrates that even holy grail track records aren’t worth much.
What do I mean?
In the early years, Warren Buffett had a 60% ish CAGR for a long while. Nowadays, he basically matches the S&P 500 (around 10% CAGR). So, if I had invested with Buffett in say the late 1900s after looking at his track record, I’d have almost certainly been disappointed as his returns have come down a lot. And Buffett isn’t alone.
Soros used to make somewhere between 30 and 40% per year in his heyday. While his returns are not published nowadays, the things I’ve read over the years indicate he’s not getting anywhere near the 30 to 40% CAGRs of yesteryear.
Same goes for Druckenmiller. He used to do 30+% CAGRs. Now he says he’s not even in the same zip code.
And these guys aren’t alone. There are a lot more examples I could trot to support my point. But I won’t as I think burying you in an avalanche of supporting data is counterproductive to the larger point.
So, what is the larger point?
Even if someone has a totally valid track record that checks all the boxes, it is very unlikely their future returns will measure up. Or so say the returns of most GOATs that I can think of.
If you go through a bunch of managers past and present, you might find a few exceptions to the rule but I’m guessing you will find a whole lot more examples in support of what I’m saying (I did).
In fairness, sometimes, rarely, things get better in the future as it relates to hot manager returns. But, even if they do, the record you looked at didn’t provide a good indication of what to expect.
There is a natural inclination to wonder why track record degradation typically happens and I have a few thoughts.
I’d say a big factor is competition. Most of the greatest track records came when the business was in its infancy and there weren’t a lot of players. Another plausible explanation is that managers get wealthy and decide to reduce risk to avoid losing what they have thus reducing returns. Next we have size issues. When managers get a lot of assets to manage, they can’t play in the same pond as before so returns get worse. Yet another possible reason is simply that managers don’t get better as they get older. In much the same way that humans physically decline over time, investment skills might decline too (although I must say I think this is the weakest argument of the four).
But ultimately, the reasons don’t really matter because the real-world evidence says that you will almost certainly be disappointed if you rely on a track record as an indication of what’s to come. And this is true of holy grail track records too.
So, should you look at a track record? I mean, if you can get one, why not. But, in my opinion, you need to stay mindful of the truth.
So, what is the truth?
First, track records change over time and the next few years might look nothing like that past. Second, almost all amazing track records degrade over time, even if the managers/strategies remain the same.
Kinda wild isn’t it? For so many years I’ve seen so many people chasing the elusive “verified track record” (managers and allocators). But, when you really dig into it, they aren’t worth much. Or so says history.
So what can be done in lieu of a track record?
Personally, I’d look at the manager’s work experience to make sure this isn’t his first rodeo. Then I’d like to understand what a manager is doing. Figure out if she knows her stuff. Identify strengths and weaknesses in the strategy in question. Then measure actual results against expectations. And, ultimately, I’d treat it like a trade wherein I’d have a stop loss point at which I would throw in the towel if things weren’t going as planned.
Food for thought.