The Recent Bear Market You Might Have Missed

The bull market that began in 2009 was over and done by 2015. Most would vigorously disagree, contending that we’re still experiencing the longest bull market in history. But veteran wealth manager James E. Demmert is among critics who insist that a bear market barged in three years ago and stuck around for 18 months, as he tells ThinkAdvisor in an interview.

Demmert, 55, founder of Main Street Research, an RIA in Sausalito, California, who invests exclusively in individual stocks and bonds, credits active risk management for his clients’ portfolios performing better than the market during that reversal.

He argues that a “mild corporate profit recession” took hold during the 2015-2016 timeframe coinciding with a bear market in which global stocks dropped 20%. We’re now in the second year of a new business cycle in a new bull market, he maintains.

Managing more than $1 billion in assets in separately managed accounts for wealthy families and foundations, his average account size is about $5 million.

Risk management perhaps tops Demmert’s list of priorities. The chief reason most investors repeatedly underperform the market is “a gross lack of risk management,” he contends. In the interview, the advisor touts a simple, no-cost risk management tool to prevent calamitous losses.

For 20 years, Demmert has been a proponent of the controversial performance-based management fee — long banned by the Investment Advisers Act of 1940 because of broker abuse. Since 1985, RIAs have been permitted to charge such fees to “qualified” clients only.

Demmert has offered this fee structure as an option to his traditional asset-based fee for the last two decades. Today, 60% of his clients compensate him with a performance fee. “They like the value proposition,” he stresses.

The fee has two components: a management fee, which scales down to .25%, depending on asset level, and 5% of clients’ new net profits earned in their portfolio, if that should be the case.

Thirty-five years in financial services and vigilantly keeping abreast of macroeconomic research, Demmert is a featured speaker for organizations including the American Association of Individual Investors and authored “The Journey to Wealth: Smart Investment Strategies to Stay Ahead of the Curve” (New Insights Press 2017).

A Harvard grad, the Rochester, New York, native began his career on the institutional side at Lehman Bros. in San Francisco after interning at L.F. Rothschild. Before opening his own practice in 1993, he was a partner for five years in a small firm, The Belvedere Group.

ThinkAdvisor recently interviewed the RIA, speaking by phone from his Bay Area office on Liberty Ship Way. As a stock picker, he looks for “great companies selling products the world wants,” he says. Think: Amazon, Apple, Costco. Demmert’s philosophy dovetails with that of the hockey player Wayne Gretzky. As quoted in the advisor’s “Journey to Wealth”: “Skate to where the puck is going, not where it has been.”

Here are highlights from our conversation:

THINKADVISOR: What’s your take on the historically long bull market?

JAMES DEMMERT: Most people think the bull market that started in 2009 has been the longest one ever. We say that bull market died in 2015 and in 2015-2016 there was a mild corporate profit recession in a bear market. Today, we’re in the second year of a new business cycle in a bull market.

So did you sell 10% of clients’ stock portfolios in 2014? You’ve written that on the seventh year of an expansion that’s your strategy. This one lasted five years, according to your reckoning.

Yes, we took away 10%-15%. The market was really difficult. So that helped us.

Your clients have the option of paying a traditional fee or a performance-based fee. Please explain the concept of the latter.

We’re saying that if we don’t do well, we’re [advisors] going to make a lot less. If we have a great year, the client pays us a little more. So if the market isn’t good, we charge less.

Does a performance fee encourage FAs to take on more risk?

The SEC is very careful about performance-based fees to make sure the advisor isn’t taking undue risk. We don’t trade any differently in a performance-based fee account as opposed to a traditional account.

Why don’t more FAs offer a performance fee?