Some thoughts on luck vs skill in manager selection:

If we think about investment returns as a bell shaped distribution centered on an given index (since alpha is zero sum), then our job as allocators is to identity those returns to the far right, on a PROSPECTIVE basis (1/10)

Predicting the future is always hard, but it is particularly difficult when combating selection and survivorship biases (2/10)

If each of us threw darts at a board of stock tickers for a decade, it’s extremely unlikely that we would outperform the S&P 500, say by 5% annualized

But it is quite likely in fact that one of us might, if the sample size is sufficiently large (3/10)

In the case of investment managers, I have no idea how many there are, but it must be tens if not hundreds of thousands

Needless to say with that volume, many investment managers have compounded well in excess of the S&P 500 or MSCI ACWI

Was it skill or luck? (4/10)

Picking one of those managers out of a hat at random would be a miracle, suggesting skill on some level

But that is not how managers come to meet with us. The left tail of managers go out of business (survivorship bias) and the middle don’t gain traction or get buzz (5/10)

Alas, it is disproportionately the right side of the distribution who we meet, and that is precisely where the very lucky preside (selection bias) (6/10)

The issue is compounded by the fact that stock picking has gotten harder and thus concentration has become all the more critical to generating long-term outperformance (7/10)

But with greater concentration comes a smaller sample size of individual stock selection and increased the potential impact of a couple lucky bets

If you sized just a couple home runs right (Netflix, Amazon, Shopify, etc.) your whole track record looks excellent (8/10)

It’s a catch 22. We seek concentration, but it confounds the diligence process (9/10)

If you're still reading, all of this is to say that evaluating track records is rife with issues. They still matter.

But people, incentives and alignment are far better indicators of future success and the area where we spend the vast majority of our time in diligence (10/10)