Here's the gospel according to cerebral quant Mebane T. Faber: Risk management equals market timing. Buy-and-hold? To this 31-year-old contrarian, it's nothing more than "buy and hope."
Agree -- or be prepared to lose big in a bear market, says the Chartered Alternative Investment Analyst and Chartered Market Technician.
Faber, managing director and portfolio manager of Cambria Investment Management, is serving up those and other provocative notions on his witty three-year-old World Beta blog (www.mebanefaber.com). The website has become early-morning must-see for financial advisors, fund managers and savvy active individual investors.
Mebane T. Faber, Managing Director-Portfolio Manager, Cambria Investment Management and Cambria Global Tactical Funds; El Segundo, Calif.; AUM: $55 million; Co-founder AlphaClone (www.alphaclone.com).
How he rates buy-and-hold: "We don't have any problem with it -- as long as you're willing to experience 40 percent declines. Most people aren't."
Faber uses a strategy aimed at preventing asset classes from declining in Cambria clients' separately managed accounts and Cambria Global Tactical Funds, two recently launched hedge funds.
The logical Faber calls his a simple route to investor protection. "As long as you stay out of the really big losses, the gains will take care of themselves. Diversification is no longer enough: You can't expect it to make you immune from market declines," says the manager, from his El Segundo, Calif., offices.
Nonetheless, investors, he stresses, must have a plan. "They just can't wake up and say, 'Man, I heard in the locker room that it's time to buy!' The nice thing about this approach is that it's quantitative -- it's systematic and gives you a framework on how to make decisions."
In 2007, Faber presented his tactical, trend-following process in a paper published in the Journal of Wealth Management. Now he's expanded that in The Ivy Portfolio: How to Invest like the Top Endowments and Avoid Bear Markets (John Wiley & Sons-March 2009), co-authored by Eric W. Richardson, Cambria's founder-president. The focus is on market timing. Faber uses the term interchangeably with "risk management."
In the book, he shows readers a way of trying to emulate the outstanding, long-term investment success of Yale and Harvard universities' endowment funds.
Originally, Faber titled his journal paper, "A Quantitative Approach to Market Timing." But "nobody would read it because 'market timing' is a very emotional phrase. So I changed it to 'A Quantitative Approach to Tactical Asset Allocation,' and everybody loves it," Faber says.
The whole idea is to use his trend-following strategy to "stay out of the market when it's declining and therefore much more volatile." Once a month, compare prices relative to the moving average. "If the price is above," he says, "the market is up, and you're in that asset class. If it's below, you're out: sell and go to cash."
In last year's disastrous market collapse, Cambria's separate accounts, now with $55 million in assets -- and custodied with Fidelity Investments -- were down only about 2 percent. Indeed, with client portfolios, Faber uses a more complex strategy than the how-to in his book, but the philosophy is the same: investors need to go beyond stocks and bonds and into, especially, real estate and commodities.
During the past few years, the money manager says, his timing model has vastly outperformed buy-and-hold. But "we don't expect it to outperform buy-and-hold on an absolute basis. The model reduces volatility and draw-down. It's a method to reduce risk." In general, it trades less than once per asset class per year, Faber adds.
After graduating from the University of Virginia in 2000, the future scientist was poised to start his Ph.D. and delve into gene therapy but decided to take a year away from academia to make some cash. Hired as a Washington, D.C.-based biotech stock analyst, Faber got so hooked on finance that the life sciences became a mere hobby.
His dynamic blog generates healthy debate, and that plus the three other websites over which Faber reigns -- as well as tweeting on Twitter -- attract new clients. Surfing the Web was how tax attorney Mark Liniado of Dallas found him.
"Meb's good advice is backed up by theories that he explains and that I understand," he says. "He's got more of an academic perspective and says straight up what he thinks. When I first spoke to him, he said, 'If you're just going to use a buy-and-hold strategy, you don't need to hire me. But if you want a quantitative approach that takes you in and out of assets, I can help you.'"
Did he get early signals of what turned out to be the global financial calamity? You bet. "That's one of the reasons we run models tactically and don't use buy-and-hold. The models got out of U.S. stocks in January 2008, and the following month we got out of foreign. This is what the models pick up: They won't be in long bear markets," he says.
Now Faber's back in foreign stocks. But will the market rally last? "We don't do subjective decision-making. We're prepared either way," says the unemotional investor.
His newest enterprise: co-founding software company AlphaClone, an online investment research service that lets subscribers apply ideas of leading hedge funds and institutional money managers, an approach known as cloning.
Born in Denver, Colorado, and reared there and in Winston-Salem, N.C., Faber is the son of an aerospace engineer dad and teacher mom. (Mebane is a family first name rhyming with "web-in.") He graduated from college with a double major in engineering science and biology. As an equity analyst at The Genomics Fund, he did grad work evenings at Johns Hopkins. While working as a quantitative research analyst at The VTrader Group, a futures broker-dealer, he completed further biotechnology coursework at the University of California at San Francisco. In 2005, Faber joined Cambria.
His substantial grounding in science has given the money manager an objective view of market data. "If I came from a traditional financial background, I probably never would have had an independent approach. I'd have been indoctrinated with all the market truth: stocks always outperform bonds, diversification works, buy-and-hold works. But," he says, "I don't just believe what's fed to you."
Freelance writer Jane Wollman Rusoff is a Los Angeles-based contributing editor of Research and is the founder of Family Star Productions.