Wealth of Wisdom: The Top 50 Questions Wealthy Families Ask. 2018. Edited by Tom McCullough and Keith Whitaker. Wiley.
What are the signs you’re losing control of your family business? How do you raise responsible, independent, and productive children (versus entitled trust fund babies)? How can you avoid the next Bernie Madoff? According to the co-editors of Wealth and Wisdom, Tom McCullough and Keith Whitaker, these are among the top 50 questions asked by families of the sort served by investment managers specializing in wealth management.
McCullough and Whitaker are well-placed to understand the needs of high-net-worth families as, respectively, chair and CEO of the multifamily Northwood Family Office and president of Wise Counsel Research, a think tank and consultancy focused on families with significant wealth. Together, they recruited an all-star cast to write the chapters in Wealth of Wisdom, each of which corresponds and responds to one of the 50 questions.
The resulting book is invaluable to wealth managers, who often become more deeply involved in their clients’ financial and even personal concerns than in merely the returns on their portfolios. This book’s contributors help wealth owners confront such thorny problems as deciding how much to bequeath to their children and how to initiate discussions of the topic. Other chapters address practical issues, such as choosing trustees, prenuptial agreements, and the comparative merits of single-family and multifamily offices. Achieving the most good through philanthropy, with a focus on how to bring children and grandchildren into the process, is the subject of one of the book’s nine sections.
The two chapters of Wealth of Wisdom that most directly address the investment process both answer the question “Is active management still worthwhile?”
Charles Ellis, CFA, founder of Greenwich Associates and former chair of Yale University’s investment committee, takes the negative view. He explains why identifying and capitalizing on pricing errors is immensely more difficult now than in the past. Fifty years ago, individual investors accounted for more than 90% of New York Stock Exchange trading volume. Those part-time amateurs traded less than once a year on average, and when they did, it was primarily for outside-the-market reasons (e.g., investing the proceeds of an inheritance, liquidating stocks to fund a major purchase). Today, full-time professionals — armed with extraordinary new data-gathering and data-processing tools as they systematically search the market for minor price discrepancies — account for over 98% of trading in listed stocks and almost 100% of derivatives transactions.
Incidentally, Ellis neatly disposes of alarmist statements about the potential destruction of the price discovery process as a result of the increasing prominence of passive investing. He calculates that even if index funds were to capture 80% of assets, these low-turnover managers would account for less than 5% of total trading. Ellis has difficulty believing that active managers’ success in price discovery would be materially impaired if they were still doing well over 90% of the trading.
Randolph Cohen, a partner at Alignvest Investment Management and formerly an associate professor at Harvard Business School, presents the affirmative case for active management. He cites research showing that the average stock picked by mutual fund managers outperforms its index by 1% to 1.5% a year. The problem is that trading costs and fees offset that excess, leaving the median fund with a net return lower than its benchmark. However, Cohen also cites research showing that when “closet indexers” are removed from the sample, the remaining “true” active managers beat their indexes by approximately 1.25%, net of fees. He contends that active managers “can deliver substantial net benefits to investors” by deviating substantially from their benchmarks, charging modest fees, exploiting skill-intensifying factors (illiquidity, leverage, velocity, and concentration), and sizing their strategies appropriately, given that many of the most rewarding approaches have limited capacity.
Editors McCullough and Whitaker are to be commended for creating a genuinely valuable resource. One minor flaw appears near the end of the book, where baseball great Yogi Berra is credited with saying, “It’s tough to make predictions, especially about the future.” Variants of this adage have been incorrectly attributed to physicist Niels Bohr and movie mogul Samuel Goldwyn, among others. The earliest attested use found by the Quote Investigator website is in volume four of the autobiography of Danish politician Karl Kristian Steincke, published in 1948.
The final word on the quality of Wealth of Wisdom comes from its ultimate beneficiaries, the wealth owners. My firm sent copies to our high-net-worth clients at the end of 2019. It generated far more effusive thanks than any other holiday gift we have ever distributed.
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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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