Friday, July 10, 2020

Keeping it simple with downside protection

Rule #1 Don't Lose Money 
Rule #2 Don't Forget Rule #1 
-Warren Buffet 

I was recently reviewing a presentation and having an investment discussion with a hedge fund manager. The strategy was thoughtful and well researched, but the language used to describe it was fairly complex. This complex language cluttered the manager's objective and did not clarify his strategy. The average pension trustee would have a hard time understanding repeating to someone else what the manager would be doing to add value. Simplicity and directness would cut through all of the excess verbiage. At least for an opener, the Buffet Rules serves that purpose.

The Buffet Rules prioritize manager goals and are a good start to expressing simplicity; however, there needs to be some structure on how to implement the "don't lose money" rule. A deeper discussion can be broken into four questions:
1. What is the strategy for preserving money? 
2. What will be the tactics employed for protection?
3. How is downside risk measured?
4. How do you measure the cost of protection?

Any manager should be able to answer these short questions. There can be added complexities with how this is done but first the four questions have to be answered.

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