What do top investment teams have in common? What makes some succeed while others fall short?
The answer to this riddle is more important than ever. Sophisticated clients no longer want to pay active fees for index results. The shift from active managers to index products underscores the necessity of adding value.
So, what is the answer? What goes into the secret sauce of high performers?
To answer this question, our team at Focus Consulting Group (FCG) undertook a research project into the common factors shared by high-performing investment teams. We developed a list of factors that contribute to fund performance. Among these factors were “Do you use quantitative filters?” (to narrow your universe) and “Do you personally invest in your team’s strategies?”
We came up with 37 factors in all, which are available upon request, and asked 96 individual responders from 10 investment teams to rate the importance of each factor in contributing to outperformance. The teams were selected based on having achieved “benchmark plus” nominal and risk-adjusted performance, for 10 years or longer, with consistent results — not just one or two extraordinary years.
We divided team performance factors into two basic categories: the hard skills (process) and the soft skills (relationships). We wanted to find out whether top-performing teams valued one set of skills over the other, and, of course, which skills they thought contributed the most to performance. The question we posed to the participants was, “Is this factor important to your team’s ability to outperform?” They then ranked the factors from 1 to 10, with 10 being “critical to long-term success.”
Armed with their responses, we crunched the data and identified the following factors as most essential to achieving outperformance:
What was our major takeaway? Both hard and soft factors are critical to investment success.
Given our experience working with these and other teams, this was hardly a surprise. Michael S. Falk, CFA, embeds for several days with investment teams to learn how their process works, and these results matched his personal experience “living” with teams. Indeed, the successful ones have developed excellent processes and structures — but they also have healthy working relationships.
Increasingly, investment teams are realizing that so-called “soft” skills are essential. In research conducted by FCG team member Jason Voss, CFA, during his tenure at CFA Institute, he and his colleagues found that the greatest learning demand from investment professionals was on the soft side, not the technical side. Specifically, emotional intelligence (EQ) was recognized as a valuable skill for enhancing a team’s collaborative ability. Strong EQ means that a person has reasonably good self-awareness, as well as good “others” awareness. In short, they know themselves and their team members.
This understanding contributes to another key skill: capacity for good debate. Teams that make outstanding decisions thoroughly vet ideas and have in-depth discussions about them without damaging trust or morale. Many teams with weak EQ have “pseudo” debates in which much is left unsaid. They lack candor because the unspoken agreement is: “If you don’t rock my boat, I won’t rock yours.”
So what stood out about each of the top 10 factors? What insights could we glean about their application from the teams themselves?
1. Disciplined Process
While all teams are expected to have a disciplined process, the unconventional wisdom holds that these processes need to be examined over time and continually improved and evolved. The top teams indicated that they have buy/size/sell process disciplines. Other attributes were clarity and acceptance of decision rights: Everyone knows who makes the final call and what the ground rules for decision making are. Participant comments showed a clear commitment to an organized and clear process.
2. Continuous Improvement
The concept of ongoing improvement is a conventional one, but often there is a bit of self-deception around it. Many investment teams fail to examine their filters or engage in post-mortems on a regular basis to evaluate past decisions. By our count, only about 10% of investment teams conduct such after-action analysis. And even those that claim to tend to fall short: They don’t keep careful journal entries when stocks are discussed, purchased, and sold. Behavioral research demonstrates that our minds rewrite history, so careful records are necessary to learn from experience.
3. Independence from Outside Influencers
Top-performing teams serve one master: the client. They are laser focused on process and execution and not influenced by shareholders or parent companies. While we have seen teams outperform despite such influence, our survey participants indicated that independence is important to their success. Indeed, at FCG, we have also seen how outside influencers can creep in during periods of underperformance, to detrimental effect.
4. Diversity of Thinking Styles
The value of cognitive diversity is supported by ample research. The problem is measurement. How do you know your team is cognitively diverse? The top teams that we researched have used the Enneagram model to measure each team members’ approach to problem solving. Top teams have a mix of different styles. Of the nine distinct varieties, good teams typically have five or more.
5. Developing Team Members
In our work with research teams, FCG has partnered with James J. Valentine, CFA, author of Best Practices for Equity Research Analysts. Valentine has created training modules to improve the basic skills of analysts. He has found many research teams resist developing their analysts. Their rationale? “We have investment professionals with CFA designations. We don’t need development. We are fully-finished products.” But recent active manager track records raise the question, How much denial are these research teams in?! The same firms that are underperforming — and there are a lot of them — resist developing their analysts! Our survey results suggest that the best teams do not make this mistake. They develop and train their smart, hardworking analysts.
As for those factors on the relationship, or soft side, of excellence, we noticed the following themes around them:
6. Committed to One Another’s Success
The commitment factor was the single most important soft element of success. One participant commented, “Our process and our success is built upon the team and its commitment to each other. Without this commitment, I don’t think we’d have the culture of trust which allows us to be creative, make mistakes, and still show up deeply excited to be there the next day.” We all know a common problem in the investment world: big egos. The best teams operate from a true sense of team: “We are all in this together. We succeed as a team.”
7. Passion for Our Work
We’ve never met a professional investor who didn’t say, “Yes, I have passion for the work.” And when we measure firm cultures, the passion factor invariably comes out as the top motivator, ahead of clients, colleagues, and higher purpose. The nuance is this: Many finance professionals — either at first or after their industry “training” — place money and winning above passion for the work. This can lead to demotivation when performance or bonuses are down. Their passion isn’t really for the work but for the extrinsic motivators — things that are out of their control, like money and performance. The top teams truly love the markets and the work: Their passion carries them through the inevitable down periods.
8. We Enjoy Working Together.
Teams that like and trust each other tend to have better debates. Debate is important, and many mediocre investment teams don’t achieve it. They either have a general silence as team members withhold their ideas and counterpoints, or they have arguments in which team members become defensive and take things personally. Neither environment supports good decision making.
9. The Members of Our Team Debate Well.
Only teams with high trust and candor can hope to achieve true debate and dialogue. The relationship between these different exchanges is depicted in the following chart:
The Quality of Debate
Top teams build healthy environments for debate and dialogue by creating trust and safety. In the chart above, the letters A, B, and C represent ideas. In a fearful environment, they will either be suppressed (“silence”) or expressed as arguments (“violence”). As teams learn to operate “above board,” the ideas emerge in fruitful debate or dialogue. Good post-mortems pose two important questions to each team member: What could we have known but didn’t, and what could I have contributed to add value?
10. Emotional Intelligence (EQ)
Investment professionals are waking up to EQ’s importance in good decision making. Comments from our survey participants support this:
- “We recognize this is a very fickle business and that mistakes are made. Therefore, there is a level of ego and confidence that is mandatory, but it is also extremely important to be able to admit what you don’t know, encourage others, and learn from the inevitable mistakes.”
- “In a collaborative environment, we need people to feel safe evaluating each other’s ideas. We could do a better job of speaking fairly and considerately, to spur honest feedback.”
- “We need to be able to rigorously challenge an idea and the work that went into it and still walk away from the table as colleagues and friends. That is not easy, and it takes a lot of emotional intelligence in terms of how you conduct yourself in a debate and how you manage your emotions before and after.”
- “I suspect compared with peers, we have more ‘emotional intelligence’ than ‘discipline.’ Emotional intelligence is more difficult to develop as it needs a well-aligned, well-performing, and stable team environment, and it takes time.”
So our findings have both good news and bad news. The good news: The survey identified key factors for investment teams to focus on without any major surprises. The bad news is that these factors require openness, commitment, and rigor to achieve. But that’s not really a surprise, either. Too many investment teams are in denial. They pay lip service to continuous improvement but let complacency carry the day. And from that comes the mediocre results you would expect.
As the saying goes, “If it were easy, everyone could do it.” Here’s hoping that your team is actually doing it and establishing and fine tuning these critical skill sets.
For more from Jim Ware, CFA, and Michael S. Falk, CFA, check out Let’s All Learn How to Fish . . . . to Sustain Long-Term Economic Growth from the CFA Institute Research Foundation and Money, Meaning and Mindsets.
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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.
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