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St James, Mark and Neil – the supernova to end all supernovas?

“A supernova is a transient astronomical event that occurs during the last stellar evolutionary stages of the life of a massive star, whose dramatic and catastrophic destruction is marked by one final, titanic explosion.” Wikipedia.

In the last few weeks we have witnessed such a thing in the investment world.

Neil Woodford’s career is over. And with it two of the UK’s biggest financial advisers are left having to explain themselves.

After an impressive career with Invesco Perpetual, Neil Woodford set up his own investment company in 2014. He promptly attracted billions in a very short space of time which grew to £15bn at its peak in 2017.

In 2015 the BBC declared him to be “the man who can’t stop making money”, after a year in which he handily outperformed the FTSE All-Share by 15% or so.

But, in 2016, that outperformance was reversed in full and he then underperformed by another 12% in 2017 and a further 7% or so in 2018. In three years his investors did 34% worse than simply buying a tracker fund.

The withdrawals started to mount up and were running at about £10m a day. Withdrawals that should be easily dealt with in a sensibly run fund. But this wasn’t a sensibly run fund.

The Kent County Council pension fund seems to have tipped Woodford Investment Management into meltdown. They asked for their £263m back (7% of the £3.7bn total) and it seems the supposedly daily traded, liquid fund couldn’t deliver.

In response Neil Woodford suspended redemptions, signing his own death warrant in the process.

Hargreaves Lansdown and St James’s Place

From the start in 2014 Neil Woodford was heavily backed by two of the UK’s biggest advisers.

Hargreaves Lansdown (HL) promoted him relentlessly. More than £3bn of HL clients’ money was with him at one stage. HL only removed his funds from their Top 50 “best buy” list in the last month or so.

However, it seems that HL’s clients were savvier than their adviser. They started to withdraw £1bn of the £3bn invested with him in 2017, despite HL’s ongoing open and vocal support. Who was advising who here?

HL still have about £2bn with him, both directly and through HL’s own branded funds, money they can’t hope to get their hands on anytime soon.

On 16 May, Mark Dampier, HL’s Head of Research, and his wife sold £5.6m of HL shares. They were spectacularly lucky; HL’s share price has since dropped 20%.

St James’s Place (SJP) gave Neil £3.5bn to manage. And pulled it all in the last few days, reducing his assets by 40% in one fell swoop.

They did, at least, have the presence of mind to set up their own fund for him to manage rather than give him the money directly. That allowed them to simply sack him on the spot and replace him. Nonetheless, the UK’s largest financial adviser still has plenty of egg on their face.

What were either firm researching? What were their clients paying for? A simple look at what he was doing would highlight that he had deviated from his previous successful strategy. They should have been nervous about the amount of money he raised and how quickly it was raised. He simply had to invest that money at any price. And where was the independent oversight? Neil Woodford chose his risk managers and compliance team.  Alarm bells should have been ringing from the start.

For both HL and SJP, this brings into question the true nature of their “independence”, whose interests were they really protecting? Their clients’? Their own? Mr Woodford’s?

To effectively “own” 50% of one investment manager’s entire portfolio is extraordinary. It appears they chose to ignore the clear warnings and plough on regardless, hoping that he would turn it around.

In effect it was individual investors withdrawing at an ever-increasing rate that forced HL’s and SJP’s hands; they simply had to respond to try to save themselves. Rats and sinking ships.

Up until then it appears they were content to carry on fiddling while Rome burned. Both will suffer as a result, neither seems fit for what should be their true purpose – to look after their clients’ best interests.

How did it happen?

Merryn Somerset Webb (someone I almost never agree with) explains it as well as anyone in this article in the FT. Read it if you really want to get into it.

If you don’t, take it from me, Neil simply broke the very simple rules of investment management. He took on too much money, changed his style away from what had been successful for him and owned too many illiquid assets (in excess of what is legally allowed – watch this space on that).

Perhaps, worst of all, he came to believe his own hype, that he was the best. And I doubt the people he surrounded himself with challenged him sufficiently.

At Invesco he was forced to work with the compliance and risk management people that Invesco chose. They owed him nothing and would have kept a very close eye on his holdings and activities. I expect he found this very frustrating in the end; he was the best, the figures said so, he knew more than them, no lack of ego there.

In his own company he chose and employed the people he wanted. What are the chances they didn’t feel empowered or confident enough to say what needed to be said? Who ultimately was going to call a halt to unwise behaviour? Only Neil Woodford himself.

What are the lessons?

The biggest lesson for me is the “cult” of the star manager. He thought he knew it all, he didn’t. And he didn’t have the common sense to have or listen to anyone to remind him of that.

After all, when you have HL and SJP in your corner, everything’s good with the world, isn’t it? But now he’s been abandoned by both and the piper must be paid.

Hopefully, this results in the death of the “star manager”. The idea that anyone, other than a tiny handful of people you have no hope of ever knowing or being able to invest with, can be expected to consistently “beat” the market is utterly fanciful.

It just can’t be done, all the research shows it can’t be done, and logically we must know and understand it can’t be done.

You see, the market return is the average of all private and professional investors; it represents the thoughts and decisions of all of us.

To beat the average, you have to be better than all those other people. You can achieve that now and then but not consistently. That’s a clear-cut fact.

It gets worse though. Human nature means we convince ourselves we know why we over- or under-performed. We’ll cook up a story in hindsight to support the outcome. Hindsight, driving by the rear-view mirror, brings with it all manner of biases.

And on we’ll plough, convinced we’ve learned from our mistakes / great decisions. Until it all repeats itself and we have to cook up some new excuses. We never learn anything of true value that way.

Active investment management requires masses of time and effort as well as dealing with the emotional highs and lows, not to mention the additional costs. All to end up with an average return.

And that’s the point.  It turns out that Neil Woodford is probably, on average, no better than me or you buying a FTSE tracker fund. Or, he’s not better enough to justify the emotional rollercoaster and the additional costs.

And cost is a really big part of this. Active management means investors pay more in fees than a passive or index tracking investor. Something like 1% pa vs 0.25% pa.

Now, you may get lucky over the years (you won’t unless you can bend mathematical law, see above) and it might turn out that paying the higher fees works out for you.

Without any research or computation at all, I’m going to say that’s a 1 in 100,000 chance over the 30-40 years you have money invested.

So, the question is, what do you prefer? Those odds? Or knowing that tracking the market saves you c0.75% pa?

The latter means sticking to a plan and taking what the market has to offer; something I’m completely convinced you’ll end up getting anyway. And those returns are absolutely fine in the context of a properly managed financial plan.

Put another way, if you have £1,000,000 invested, do you prefer a known £7,500 pa saving (the bird in the hand) or an unknown extra amount from “superior performance” (the two in the bush). How much more does the bush have to produce to make it attractive? For me, at least £20,000 pa. Not going to happen.

We know what Neil, HL and SJP want you to do, but what side of the table are they sat, in truth?

The entire premise for both businesses is that they know better than you. That’s resulted in them being backed into a corner of their own making where they had to back Neil, until they couldn’t anymore. Both having so much financial and emotional “skin” in the active management game, can they really be trusted?

I’ll ask you again. Whose interests where they protecting?

What next?

Neil Woodford is dead in the water. You find me anyone who gives him money again and I’ll show you an idiot.

As soon as that fund reopens, we can expect everyone to withdraw their money and his company will close. That will leave Neil very wealthy indeed, a host of employees tarnished by their association with him (and distinctly less wealthy) and legions of irate investors.

Hargreaves Lansdown’s and St James’s Place’s clients will suffer mightily, on top of the desperate under-performance of the last three years. They face uncertainty and, presumably, a loss in confidence in their advisers.

Those that presided over this debacle are likely to remain unscathed. Management will probably hang a few out to dry, the blow softened by ample severance packages (hush money?).

And watch out for their PR machines going into overdrive.  You can expect campaigns of subterfuge and misinformation that would make the CIA and KGB blush.

Then there’s Mr Dampier, HL’s Head of Research. He’s already slated to retire; that might now come forward, so it’s a good job he and his wife sold those HL shares.

Had they held on to them, they would be £1.12m less wealthy today.

Conclusion

And there we have it, a supernova in the investment world.

A “star” fund manager, who got too big for his boots aided and abetted by the UK’s two largest advisers who did nothing about it until it was way too late.

St James, Mark and Neil made the sort of basic and amateurish mistakes you’d be embarrassed to make yourself.

And now it’s the individual investors carrying the can.

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