Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 302

Fascinations: investment management can learn from sport

For all their speed and dynamism, change is slow in coming to both sports and investment management. Basketball hoops have hung at 10 feet ever since James Naismith invented the sport back in 1891. In the investment arena, even though most Australians have been online since 2001, it is still common for investors in an unlisted managed fund to provide a wet signature with their applications.

Culture can change faster than the rules of engagement, but the tendrils of tradition are still long and potent. There aren’t many hard rules around where baseball players may stand on the field, for example, but teams today still use the same positions as did the first World Series winners, the 1903 Boston Americans.

Where change can happen, though, is when it comes to how best to connect and focus the team. For example, since the creation of the National Basketball Association, players have been lumped into three positional categories - guard, forward, and center - and that mix was only marginally more refined in the 1980s. Unless a team had a Michael Jordan (and there is only one of those), the standard basketball strategy was to try to find a big man to build around. The nine highest-paid players in the NBA were all big men.

NBA coaches and executives slowly realised, though, that if the ultimate goal of an offense was to put a ton of points on the board, the best way to do so was to take more and better shots. It sounds obvious in hindsight but slowing down to pass the ball to your least-skilled player so that he could try to make a difficult shot with another 7-footer in his face was not an optimal strategy.

The net effect is that today’s NBA is scoring a staggering 21% more points per game than it did 20 years ago while also shooting for a higher percentage. Oh, and by the way, only two of the 10 highest-paid players today are big men. The other eight are more agile guards and forwards who can find open space and create their own smart shots.

The 'big man' problem in investment management

Investment management, particularly among global equity funds and those with wide mandates, has its own version of the flawed ‘pass it to the big man’ model that has been culturally slow to change.

Let’s say that you’re a portfolio manager overseeing a team of analysts. Let’s also say you are fundamentally-focused and long-term-driven, so odds are good that the ultimate objective of your idea generation process is to identify outstanding businesses to buy and hold.

Most global funds follow tradition and establish their teams around one of two sets of fault lines: sector or geography. On the face of it, these are practical structures because they cover the waterfront, provide diverse feedstock for the idea-generation process, and allow individual players to play to their strengths.

The rub is that, for a fundamental, long-term-driven investment process aiming to identify outstanding businesses, a forced choice between focusing efforts along the lines of sectors or geographies is a false dichotomy.

There are also other large inherent problems reminiscent of the ‘big man’ problem. For example, not all sectors are created equally. As a study by McKinsey emphasised, industries with sustainable barriers (e.g. software and household products) tend to have high and persistent returns on invested capital, while industries that are capital intensive (e.g. materials and energy) and highly competitive (e.g. retail and transportation) tend to have persistently low returns on invested capital.

If the ultimate goal is to find outstanding businesses, sending an analyst to find a long-term winner in energy or retail is like sending them to the desert to find a glass of water. Maybe they’ll get lucky but they’re more likely to come back thirsty and sunburnt. Or, to bring it back to basketball, it’s like giving the ball to your center, asking him to take 15-foot jumpers with a fellow giant in his face, and then wondering why you keep getting outscored.

Also, just like any basketball player will heave up shots - even poorly selected ones - if that’s what their coach asks of them, analysts also have a habit of falling in love with their area of coverage. Ask an analyst to cover energy and, if for no other reason than career preservation, they’ll probably pitch you a steady flow of ideas from the space even if the timing is off because that’s the job you’ve given them.

A ‘fascinations’-based framework

Rather than ease into one of these traditional frameworks at Lakehouse, we inverted the process and asked a very basic question: what is the best way to identify outstanding businesses to buy and hold for the long-term?

Starting with that fresh sheet of paper, we focused on the backbone of our philosophy: well-run, competitively-advantaged businesses that can reinvest at high rates for a very long time offer the most compelling potential for the long-term investor. That clarity led us to focus on our core fascinations when it comes to stock selection:

Loyalty: Think enterprise software, payment processors, subscriptions, or any other form of business with an intense focus on customer loyalty and retention. Importantly, we view loyalty as not just switching costs, which make it difficult for customers to move on, but also the delivery of value and delight to customers that makes them want to stay.

Businesses with extremely loyal customers are often underestimated by the market because of their staying power, pricing power and ability to cross- and up-sell. In our experience, many investors lump recurring revenue businesses into one big pile, which creates an opportunity for discerning buyers to separate the coal from the gems.

Networks: Think marketplaces, exchanges, payment networks, social networks, or any other form of business exhibiting network effects. We’re passionate about businesses with network effects because many of them scale quickly and capital-efficiently, creating a significant amount of value in short order. Markets tend to underestimate the staying power of a leading, well-established network.

IP: Think brands, data, patents, or even corporate cultures that are difficult to replicate. Businesses with strong IP have enduring pricing power and, often, an innovative culture and strong distribution network that creates and scales new and valuable IP.

The strength of fascinations

Ultimately, the beauty of a fascinations-based model is that we’re not trying to cover all parts of the waterfront. We’re covering places where empirical research suggests we’re more likely to find more and bigger fish. The approach also has the benefit of developing deep subject matter expertise on business models and ecosystems.

A fascinations-based framework may not suit every situation. Traders need not apply, for example, or deep value investors who jump from one beaten-down market or geography to another. For the long-term, fundamentally-driven shop, though, we think letting one’s core investing beliefs and fascinations drive process rather than a following a false construct is a far more sensible approach.

 

Joe Magyer is the Chief Investment Officer of Lakehouse Capital, a sponsor of Cuffelinks. This article contains general investment advice only (under AFSL 400691) and has been prepared without taking account of the reader’s financial situation. Any person reading this message should read the product disclosure statement and seek professional advice.

Lakehouse Capital is a growth-focused, high-conviction boutique seeking long-term, asymmetric opportunities. Lakehouse is the investment manager of two strategies: the Lakehouse Small Companies Fund and the Lakehouse Global Growth Fund.

For more articles and papers by Lakehouse Capital, please click here.

 

1 Comments
Jack
April 17, 2019

I wish I knew as much about investing as I do about football.

 

Leave a Comment:

RELATED ARTICLES

Buffett and his warning about 'virtually certain' earnings

banner

Most viewed in recent weeks

Raising the GST to 15%

Treasurer Jim Chalmers aims to tackle tax reform but faces challenges. Previous reviews struggled due to political sensitivities, highlighting the need for comprehensive and politically feasible change.

100 Aussies: seven charts on who earns, pays, and owns

The Labor government is talking up tax reform to lift Australia’s ailing economic growth. Before any changes are made, it’s important to know who pays tax, who owns assets, and how much people have in their super for retirement.

Here's what should replace the $3 million super tax

With Div. 296 looming, is there a smarter way to tax superannuation? This proposes a fairer, income-linked alternative that respects compounding, ensures predictability, and avoids taxing unrealised capital gains. 

Which generation had it toughest?

Each generation believes its economic challenges were uniquely tough - but what does the data say? A closer look reveals a more nuanced, complex story behind the generational hardship debate. 

9 winning investment strategies

There are many ways to invest in stocks, but some strategies are more effective than others. Here are nine tried and tested investment approaches - choosing one of these can improve your chances of reaching your financial goals.

Chinese steel - building a Sydney Harbour Bridge every 10 minutes

China's steel production, equivalent to building one Sydney Harbour Bridge every 10 minutes, has driven Australia's economic growth. With China's slowdown, what does this mean for Australia's economy and investments?

Latest Updates

Retirement

The best way to get rich and retire early

This goes through the different options including shares, property and business ownership and declares a winner, as well as outlining the mindset needed to earn enough to never have to work again.

Shares

Boom, bubble or alarm?

After a stellar 2025 to date for equities, warning signs - from speculative froth to stretched valuations - suggest the market’s calm may be masking deeper fragilities. Strategic rebalancing feels increasingly timely.

Property

A perfect storm for housing affordability in Australia

Everyone has a theory as to why housing in Australia is so expensive. There are a lot of different factors at play, from skewed migration patterns to banking trends and housing's status as a national obsession.

Economy

Which generation had it toughest?

Each generation believes its economic challenges were uniquely tough - but what does the data say? A closer look reveals a more nuanced, complex story behind the generational hardship debate. 

Shares

Is the iPhone nearing its Blackberry moment?

Blackberry clung on to the superiority of keyboards at the beginning of the touchscreen era and paid the ultimate price. Could the rise of agentic AI and a new generation of hardware do something similar to Apple?

Fixed interest

Things may finally be turning for the bond market

The bond market is quietly regaining strength. As rate cuts loom and economic growth moderates, high-quality credit and global fixed income present renewed opportunities for investors seeking income and stability. 

Shares

The wisdom of buying absurdly expensive stocks (or not!)

Companies trading at over 10x revenue now account for over 20% of the MSCI World index, levels not seen since the dotcom bubble. Can these shares create lasting value, or are they destined to unravel?

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.