The Alpha Generators: Morning Comment

Attention Conservation:

• 1/2 An enormous amount of negative #alpha is realized by individual investors and active mutual funds which trade frequently
• 2/2 Who reaps that #alpha? Renaissance, Bridgewater, and who else?

My greatuncles in the 1960s and 1970s used to spend an enormous amount of time pouring over the Wall Street Journal’s stock price pages and talking about their stocks. It was never clear to me whether this was their hobby in retirement, or whether they had simply changed jobs from promoting people bureaucracy and managing operations to asset allocation.

The interesting thing to me then was that they talked a lot but traded rarely: trading was expensive, after all, both in commissions and in the risk that your counterparty knew more than you did.

Nowadays people who hold individual stocks— whether actively-managed mutual funds or individuals—appear to trade a lot more. They do not see the costs of commissions up front. And my sense is that they are punished for it:

• Invest through Vanguard, earn in real terms on average annually 5.0% – 0.3% – 0.1% = 4.6%: the S&P earnings yield minus the cost of maintaining a value-weighted index portfolio minus Vanguard’s profits.

• Invest through Fidelity, earn on average annually 5.0% – 0.3% – 0.7% – 0.2% = 3.8%: the S&P earnings yield , minus the price pressure produced by active management outside Ms. Market’s OODA loop, minus the cost of research and management and administration, minus the Johnson family’s profits.

• Invest as an individual, and earn annually 2.5%.

The gap between the managed mutual fund’s performance ex-fees and the S&P, plus the gap between the individuals’ performance and the S&P, times their share of the market is their negative alpha. Since alpha sums to zero, they are generators of alpha for the other players of the market.

So it is out there. Who has it? Renaissance and Bridgewater, definitely. What others?