Keynes The Money Manager

John Maynard KeynesKeynes’s fame as an economist and his personal success in the markets led to his being offered and accepting positions managing money on behalf of King’s College, Cambridge and the National Mutual and the Provincial Insurance companies.

Keynes enjoyed great success managing these portfolios – particularly King’s College’s.

Keynes became first bursar of King’s in 1924, taking on responsibility for the college’s financial well being. He decided to concentrate all of the college’s resources over which he had discretion into a fund called the Chest. He intended using his trading and investing skills to considerably increase the Chest Fund’s value.

His policy of selling properties and using the proceeds to “speculate in the stock market” was opposed by many of King’s College’s fellows. Keynes’s view was that he would rather be a “speculator” in an asset that had a daily price quotation and was liquid enough to be bought and sold than an “investor” in something whose price was largely unknown.

Keynes knew it would be imprudent to speculate with the college’s money as boldly as he had with his own, particularly with regard to high margin speculation. Nevertheless he continued to invest in an aggressive manner, leading to impressive but volatile capital growth in the Chest Fund.

His investing philosophy changed over time as Keynes began to doubt his initial belief that he could profit from his broad understanding of economic cycles. He grew to favour making large investments in individual businesses; Keynes was a logical man and individual businesses had balance sheets he could study and they sold products or services whose value he believed he could assess objectively.

Keynes spent half an hour each day on stock market research – in the morning, still in bed – studying company reports, reading the financial sections of the newspapers and speaking to his various brokers by telephone.

The Chest’s initial capital was £30,000. By the time Keynes died in 1946 the fund had grown to £380,000 – an annual compounding rate of just over 12 per cent. This might not seem very remarkable but for the facts that:

  • This performance was achieved during a period that encompassed both the crash of 1929 and the build up to World War Two, both of which proved disastrous for British stocks.
  • In the same period of time, the British stock market fell 15 per cent.
  • The growth in the value of the Chest Fund was entirely due to capital appreciation. There was no dividend reinvestment because Keynes spent all of the dividends on the college. He believed the fund was there to provide money for the college and was scornful of the way other Cambridge colleges managed their finances, referring to them as “savings banks”.

The performance of Keynes’s fund from 1927 to 1946 is shown below. During these years the Chest grew at an annual compounding rate of 9.1 per cent while the general British stock market fell at an annual compounding rate of slightly under 1 per cent.

Chest Fund Performance 1927 to 1946

Maynard Keynes Chest Fund

Performance Chest Fund v UK Stock Market

Year Chest Index Chest Index Change UK Stock Market UK Stock Market Change
1927 100   100  
1928 96.6 -3.4 107.9 7.9
1929 97.4 0.8 115 6.6
1930 65.8 -32.4 91.7 -20.3
1931 49.6 -24.6 68.8 -25.0
1932 71.8 44.8 64.8 -5.8
1933 97.0 35.1 78.7 21.5
1934 129.1 33.1 78.1 -0.7
1935 186.3 44.3 82.3 5.3
1936 290.6 56.0 90.7 10.2
1937 315.4 8.5 90.2 -0.5
1938 188.9 -40.1 75.7 -16.1
1939 213.2 12.9 70.2 -7.2
1940 179.9 -15.6 61.2 -12.9
1941 240.2 33.5 68.8 12.5
1942 238.0 -0.9 69.4 0.8
1943 366.2 53.9 80.2 15.6
1944 419.3 14.5 84.5 5.4
1945 480.3 14.6 85.2 0.8

While managing the Chest fund, Keynes grew to favour making long-term investments in companies whose balance sheets impressed him and whose prospects for future business looked good. He believed that careful analysis of a company was more valuable than inside information. On the subject of inside information he said: “the dealers on Wall Street could make huge fortunes if only they had no inside information”.

The investment strategy Keynes finally adopted is, in many respects, remarkably similar to Warren Buffett’s. Buffett has acknowledged Keynes’s influence on his thinking. In 1991 he said Keynes was a man, “whose brilliance as a practicing investor matched his brilliance in thought.”

Buffett went on to quote a letter from Keynes to a business associate, F. C. Scott, on August 15, 1934 showing how Keynes, in addition to favouring long term investments, had grown to favour limiting these investments to a small number of enterprises:

“As time goes on, I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence… One’s knowledge and experience are definitely limited and there are seldom more than two or three enterprises at any given time in which I personally feel myself entitled to put full confidence.”

Like Buffett, Keynes was sometimes criticised for investing in stocks he believed would prosper in the longer term and then sticking doggedly with his selections despite shorter-term problems. Increasingly, Keynes grew to favour a contrarian style of investing, writing in 1937:

“It is the one sphere of life and activity where victory, security and success is always to the minority and never to the majority. When you find any one agreeing with you, change your mind. When I can persuade the Board of my Insurance Company to buy a share, that, I am learning from experience, is the right moment for selling it.”

Benjamin Graham later summarised the contrarian credo:

Mr Market comes along each day quoting you a variety of prices for assets. He will buy or sell at the quoted price. Often his quotes reflect fair value. Mr Market is, however, a manic depressive. On some occasions he is depressed and he prices assets too cheaply. Other days he’s unreasonably optimistic and his prices are too high. The contrarian’s job is to go investing when Mr. Market is depressed and to divest when he’s unreasonably optimistic.

In 1938, Keynes wrote his manifesto for sound investing using a concentrated, balanced portfolio. He proposed:

  • A careful selection of a few investments (or a few types of investment) having regard to their cheapness in relation to their probable actual and potential intrinsic value over a period of years ahead and in relation to alternative investments at the time;
  • A steadfast holding of these in fairly large units through thick and thin, perhaps for several years, until either they have fulfilled their promise or it is evident that they were purchased on a mistake;
  • A balanced investment position, i.e., a variety of risks in spite of individual holdings being large, and if possible, opposed risks.

His view of investing versus speculation was: “Investing is an activity of forecasting the yield over the life of the asset; speculation is the activity of forecasting the psychology of the market.”

Keynes came to view too much speculative activity as economically damaging, famously saying: “Speculators may do no harm as bubbles on a steady stream of enterprise. But the position is serious when enterprise becomes the bubble on a whirlpool of speculation. When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done.”

Keynes’s biographer, H.F. Harrod, summarised Keynes’s investing philosophy with the words:

“He selected investments with great care and boldly adhered to what he had chosen through evil days.”

R.F. Harrod – The Life Of John Maynard Keynes, 1951
William T. Ziemba – Hedge Fund Strategies, Performance, Risk and Disasters and their Prevention, 2004
Mark Harrison – The Empowered Investor, 2002
John Maynard Keynes – The General Theory of Employment, Interest and Money, 1936
Robert G. Hagstrom – The Essential Buffett; Timeless Principles For The New Economy
Robert Skidelsky – John Maynard Keynes 1883 – 1946, 2003
Warren Buffett – Letter To the Shareholders of Berkshire Hathaway Inc., 1991