What Makes a Good Investor? And What Makes a Good Investment Advisor?

The Wealth Management Industry’s “Proprietary Funds” Problem

November 8, 2020 | Paul Chapman

If you’re reading this, you’re at least somewhat curious as to what really makes a good investor, and by extension a good Investment Advisor. This is something that has come up a lot in my conversations, and I wanted to finally put pen to paper on this subject.

In my 20+ years in the industry working first-hand with some of the world’s top investment managers, I’ve had the opportunity to observe a handful of great investors and also a number of, in my opinion, poor ones. The good ones all have some common traits, unsurprisingly.

Firstly, they’re all very smart. This isn’t surprising. But the correlation isn’t as high as you may think on this front. Lots of smart people can’t get out of their own way, and multiple biases take over the smartest of us, especially when things go awry.

So within the group of super-smart folks, we need to look for repeatable performance. A long track record with minimal risk and small drawdowns to take luck out of the equation. Some pretty bad investors can look smart for short periods. Remember the bubbles we’ve all experienced by now – lots of us looked and felt smart for a while during the tech boom, and we all know a few folks who bought some weed stocks early and seemed to make astronomical returns. For a while. Maybe the most prevalent example is the Robin Hood theme recently where it seemed like every American was day trading from the comfort of their home during Covid, and making money hand over fist buying call options. It worked well – until it didn’t.

As with most professional occupations, experience is a must have. A lot of investors and advisors get into the money management business when they are young, and they haven’t seen a whole cycle yet. A heavy crop of current advisors and institutional managers started in the markets post-2008. And the up part of the cycle is considerably less instructive than the down part, as many learned recently. You remember the pain when you get burned. I’d say the list to ‘get thru the door’ in my books would be that you need to have experienced the following to some degree: the tech bubble, the Russian financial crises (both in recent history), the housing bubble, the European debt crisis, the S&P debt downgrade, the flash crash, rare earths, uranium, Ebola, the yuan devaluation, zero rates, negative rates, oil at 140, oil negative, COVID-19, Bitcoin, Volkswagen, the cannabis bubble, SARS, 9/11, Argentina (multiple times), and European banks. I was always the young guy in a number of my endeavours, but I suppose not anymore – I’ve experienced a few events by now. If you get heavily positioned the wrong way for any of these, your portfolio may become permanently impaired, and you’ll enter a cycle of trying to ‘gain back’ your losses, which is a dangerous place to be, both financially and mentally.

As we get older, we usually get more careful. This speaks to emotional fitness. Which I find the greatest investors possess in spades. A big part of emotional fitness is humility – there is nothing more dangerous than overconfidence, even though we generally love people who speak with supposed ‘certainty’. We often tend to forget how often they may have been wrong. The forecasts uttered nervously with numerous disclaimers and qualifications tend to be the most right. Oddly enough, many people would rather be right than make money, believe it or not. They fear embarrassment more than they fear financial losses. This also speaks to why you only hear about your friends ‘winners’. But emotional fitness refers to how one truly manages risk.

Finally, most successful investors keep the riskier positions in check, if they play them at all. Meaning, if they do go out the risk curve, they realize they can lose it, and can afford to. The nest egg stays intact.

A truly great Advisor needs to possess many of these traits, and help you to identify and manage your biases and strengths as well. They need to coordinate the best-in-class resources and professionals for your situation. And, finally, they need an unrelenting worth ethic. Those with this combination are few and far between.