Let’s stop the debate on how to pick the right benchmark index for an active manager. It can’t be answered because it’s the wrong question to be asking. Current approaches to quantifying the value added by active managers are so deeply flawed that we must go back to first principles to correct course.

If you are responsible for evaluating and allocating capital to active managers, then you have arguably the hardest and most impactful job in the world of investing: managing a portfolio of managers, i.e. being a “manager PM.” There needs to be a rigorous framework to value, and language to discuss, the work of manager PMs.

A precise and tight investment mandate is the bedrock of performance measurement. Evaluating managers without properly accounting for their mandate is like scouting athletes without knowing for what sport. A deep understanding of how investment mandates impact performance allows allocators to quantify the true value added by active managers.

Allocators must take care not to mistake descriptive analysis for prediction. Just because something involves numbers and metrics does not make it “Moneyball for investors.” Common attribution-style analysis is silent on the degree to which past outcome was achieved by skill or luck, and whether it will persist in the future.

An allocator invests in a manager with three straight years of positive alpha, and then it suddenly disappears. Perhaps this has happened more often than some care to remember. If alpha were a measure of skill, then we are in the midst of an everlasting pandemic of once-skilled managers losing their touch overnight. I don't think that's what's happening.