1. Swarm Intelligence

    International Alpha Team. Fourth Quarter 2018
  2. COLLABORATION

    Our industry is full of star fund managers and guru investors. It is a cult of the individual, not a celebration of the team. The psychologist and author Daniel Kahneman believes that “when people look at a joint project, they are very curious about ‘who did it’. The assumption is that one person did it. … our joint work is clearly superior to anything we could have done alone … The urge is to allocate credit and to single out people and not treat collaborations as units.”

    Our belief is that collaboration produces better results.

    When you think of someone doing research, you probably have an image rather like the image below in your mind.

     

    A solitary figure, thinking quietly, awaiting a Eureka moment.
    © VPC Travel Photo/Alamy Stock Photo.

     

    Instead, I would like you to think of our research process like the first image.

    This picture is a murmuration of starlings. These birds gather together in a particularly fascinating way. They form bizarre, shifting shapes as they flock, confusing any potential predator into thinking they are one enormous organism. This collective behaviour is a kind of swarm intelligence, a self-organised and decentralised group. There is no King Starling telling the others what to do. In The Wisdom of Crowds, James Surowiecki finds that human groups can also show an intelligence greater than any single person. We agree. For us, collaborating in a team leads to wiser investment decisions.

    Why does collaboration work in investing? Ray Dalio, the hedge fund investor, thinks “the main advantage of working in groups is that it’s easier to design a group to include all the qualities needed to be successful than to find all those qualities in one person”.

    The qualities that we believe are needed to make good investment decisions are threefold. First, considering diverse sources of information; this is evidently easier to do in a group as more people can absorb more information than any one person can alone. Second, extracting insight by identifying which information can have the greatest impact; again this is easier in a group where the wisdom and experience of different people can be brought into discussion. Third, keeping one’s head through market gyrations; a well-functioning group can achieve this by supporting each other.

    Let me take each of these in turn and illustrate our collaborative process. First, we consider diverse sources of information. The International Alpha Portfolio Construction Group (PCG) is a motley crew in terms of our educational backgrounds. Between us we have degrees in everything from Arabic Studies to Music. To the business world focused on MBAs and CFAs, we can appear a collection of eccentrics. But this cognitive diversity is a great strength, and it is not an accident. It gives us different lenses through which to view the world. Collaboration between a cognitively diverse group is one of the secret sauces in our investment process.

    Across the Baillie Gifford investment floor we seek alternative sources of information, in order to step out of the echo chamber of our industry. Our alternative inputs range from sponsoring the largest non-fiction book prize in the UK to working directly with academics and investigative journalists. These investigations have ranged from changing food consumption habits to ageing, and the implications for investment opportunities. These give an independent view and a different methodology from our own. We also try to avoid groupthink in the way we structure our teams. We debate all research within small teams of around six, a size identified by academics such as Charlan Nemeth as optimal for incorporating a range of views whilst not side-lining any dissenting voices.

    Alibaba and Grifols both exemplify how we utilise the diversity of the team to consider a stock before we buy. In the case of Alibaba, several different sources within Baillie Gifford contributed to the communal understanding of the stock. Baillie Gifford’s longest standing client1 had owned the stock ahead of it listing; our Emerging Market team provided Chinese context; an international team examined the VIE2 structure; and a technology analyst assessed the business model against global comparators.

    In the case of Grifols, our shared research library contains notes dating back to mid 2009 (the company joined the Spanish IBEX 35 Index in early 2008). We were able to speak with a number of our colleagues in both the equity and fixed income departments who had produced research notes and management meeting notes; not just with Grifols but also their competitors. We had in-depth knowledge within our PCG of its UK, Australian, American and Chinese competitors, so could compare businesses in order to identify the highest quality player.

     

    1. Baillie Gifford’s longest standing client has been managed since 1909.
    2. A variable interest entity (VIE) refers to a legal business structure in which an investor has a controlling interest, despite not having a majority of voting rights.

     

    Our alternative inputs range from sponsoring the largest non-fiction book prize in the UK to working directly with academics and investigative journalists.

     

    The second way in which we collaborate is through bringing the wisdom and experience of the group together to generate insight. Information in itself is not a competitive advantage, but insight is. We try to create a supportive, stable culture and long-term investment horizon where there is time to figure out what really matters in an investment case. The ability to pass on institutional memory is an important part of the wisdom we try to bring to our investment cases. Within the International Alpha PCG alone, we have 164 years of collective investing experience, 137 years of which were spent at Baillie Gifford. This degree of perspective and stability allows us to focus on signal rather than noise, on long-term returns rather than short-term expectations.

    Our industry is crippled in its ability to think long-term – most companies manage their accounts to quarterly results, and most fund managers manage their portfolios to annual performance. This has a detrimental impact on returns. You will all be familiar with the businesses of Amazon and Walmart. Amazon invests heavily for the future, and has only hit quarterly earnings expectations 4 per cent of the time over the past decade.3 In contrast, Walmart has smoothly delivered quarterly earnings that met expectations 75 per cent of the time over the same period. Amazon has added $424 billion to its market capitalisation over that decade, whilst Walmart has added only $10 billion in value. We find the same pattern in our own performance: we have outperformed in 59 per cent of quarters, but a wholesome 100 per cent over rolling 5 year and longer time frames.4 Investing for the long term is the driving force behind returns, and it is easier to invest for the long term in an environment of long-tenured staff, stability, and the passing on of wisdom.

    The third way in which we collaborate is by supporting each other, by owning the portfolio as a team. A common goal is essential – we can disagree and differ and display cognitive diversity more safely because we know we are all seeking the same end, which is long-term outperformance for our clients. Indeed, our variable remuneration is aligned with long-term client outcomes.

    It goes without saying that we are not the first to have discovered that working together is a good idea! Steven Johnson’s book, How We Got to Now, is an explorative romp through the history of innovation, and makes the central point that ideas transmit laterally and build upon each other; no innovation can be singled out as a Eureka moment within one man’s brain. Cast an eye over the history of innovation, and it is evident that each invention was not a ‘light-bulb moment’ in the brain of a lone genius, but a progression of ideas across people, places and industries, each building upon the other. How could Galileo have observed that the earth orbits the sun if the glass industry had not refined its production of lenses? Why would the glass industry have produced lenses if demand for spectacles had not increased after the invention of the printing press?

     

    3. To 30 September 2017.
    4. As at 30 September 2019.

     

    Cast an eye over the history of innovation, and it is evident that each invention was not a ‘light-bulb moment’ in the brain of a lone genius, but a progression of ideas across people, places and industries, each building upon the other.

  3. Risk Factors

    The views expressed in this article are those of the International Alpha team and should not be considered as advice or a recommendation to buy, sell or hold a particular investment. They reflect personal opinion and should not be taken as statements of fact nor should any reliance be placed on them when making investment decisions.

    This communication was produced and approved in the fourth quarter 2018 and has not been updated subsequently. It represents views held at the time of writing and may not reflect current thinking.

    Potential for Profit and Loss

    All investment strategies have the potential for profit and loss, your or your clients’ capital may be at risk. Past performance is not a guide to future returns.

    Stock Examples

    Any stock examples and images used in this article are not intended to represent recommendations to buy or sell, neither is it implied that they will prove profitable in the future. It is not known whether they will feature in any future portfolio produced by us. Any individual examples will represent only a small part of the overall portfolio and are inserted purely to help illustrate our investment style.

    Baillie Gifford does not hold Walmart.

    This article contains information on investments which does not constitute independent research. Accordingly, it is not subject to the protections afforded to independent research and Baillie Gifford and its staff may have dealt in the investments concerned.

    All information is sourced from Baillie Gifford & Co and is current unless otherwise stated.

    The images used in this article are for illustrative purposes only.

     

    Annual past performance to 30 September each year (net %)

     

    2015

    2016

    2017

    2018

    2019

    International Alpha Composite

    -6.6

    16.1

    22.1

    2.7

    1.3

    MSCI AC World ex US

    -11.8

    9.8

    20.2

    2.3

    -0.7


    Source: Baillie Gifford & Co and MSCI. US dollars.

    Past performance is not a guide to future returns. The International Alpha portfolio is more concentrated than the MSCI AC World Index.

    Changes in the investment strategies, contributions or withdrawals may materially alter the performance and results of the portfolio.

     

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