CONVERSATIONS on Twitter aren’t known for their civility. Still, it came as a surprise last week when, out of the blue, author Nassim Nicholas Taleb launched a broadside against investor Clifford Asness, calling his work “crap,” along with other insults.
Asness wasted no time firing back, calling Taleb “very wrong and clearly both nuts and a world class terrible person.”
From there, the insults escalated: nasty, overrated, unoriginal, illogical, pretentious, emetic. That last one I had to look up in the dictionary. And those are just the words fit to print.
If you aren’t familiar with them, Taleb is a retired Wall Street trader turned author. He’s best known for his book The Black Swan. Asness is the founder of AQR Capital Management, which runs several public and private investment funds. Both are well respected in the investment field. According to Asness, they used to be friendly.
So why the sudden vitriol? It started when Taleb questioned the track record of some AQR funds, then touted the superior performance of funds managed by Universa, a firm with which he’s affiliated. Over the course of several days, Taleb and Asness debated a number of points but, fundamentally, it was an argument about investment performance.
Of all the topics to debate, investment performance seems like one that ought to be cut and dried. Suppose Fund A gains 5% and Fund B gains 10%. Didn’t Fund B deliver better performance? What’s there to argue about?
It turns out that investment performance is, unfortunately, somewhat in the eye of the beholder. Below are just five of the ways in which performance measurements can be fuzzy:
Choice of benchmark. One of the oldest tricks in the book: A fund manager will choose a benchmark that’s easy to beat. Fund companies have been known, for example, to choose a conservative benchmark and then fill their funds with the stocks of small, fast-growing companies. Result: By comparison, the funds look like stars.
Choice of time period. Measuring performance obviously requires picking a time period. Yet the reality is that almost every investment has periods when it’s in favor and when it’s out of favor. Choose one time period and you could argue that international stocks are superior to U.S. stocks. Choose another time period and you’ll get the opposite result.
Limited data. Try to evaluate an index of emerging markets stocks and you’ll quickly get stuck. Why? For the U.S. market, there’s reliable data going all the way back to 1926. But the most common emerging markets index only started in 1998. How can we best compare emerging markets to other investments, if at all? It’s a judgment call and certainly subject to debate.
A changing world. The world is not a static place. Since 1926, the U.S. stock market has returned some 10% a year, on average. But today, our population is growing at just half the rate it was in decades past, so is that historical average meaningful or misleading? You could make similar observations about other countries, as well as particular industries and companies. In every investment category, it’s very hard to make comparisons across time.
Taxes. For individual investors, one of the more maddening aspects of performance reporting is that taxes are often ignored. If one money manager is pursuing a tax-efficient strategy while the other is not, it’s very hard to compare them. A key problem: Tax rates differ across individuals. For instance, those in the lowest tax brackets pay zero capital gains taxes. That’s why many money managers don’t even try to report after-tax performance, even though that’s what really matters to investors.
Asness summed it up best. In one of his tweets, he accused Taleb of comparing “apples to hippopotamuses.” That’s the heart of the problem. In this case, both Asness and Taleb have a vested interest in defending their own funds’ performance. But even for the individual investor trying to make objective judgments, it isn’t easy. With that in mind, here are three recommendations as you build and monitor your portfolio:
Adam M. Grossman’s previous articles include A World of Problems, Thinking It Through and Regrettable Behavior. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman.