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It was bizarre thing for a supposed champion of index investing to do.

Hours before I was to argue in favour of indexing at a debate in Winnipeg last week, I visited a mutual fund manager who totally refuted my case.

Larry Sarbit isn't on the A-list of investing celebrities in Canada, but he's everything a money manager should be. He has a coherent philosophy he lays out plainly to investors, he follows it through all kinds of market conditions and he usually outperforms the stock index used as a yardstick for his performance.

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My argument for the superiority of indexing over active money management revolved around the following belief: So many fund managers underperform their benchmark index on a regular basis that it makes more sense to invest directly in the index through exchange-traded funds. I support this to the extent that I own some ETFs myself, and often write about them in this space.

But nothing in the investing world is absolute. There are no perfect solutions, no air-tight theories.

This was my thinking several months ago when I invited David Feather, president of mutual fund company Mackenzie Financial Services, to make his case for active money management in a Q and A that was to appear in Globe Investor magazine. After the article was published, both Mr. Feather and I were invited to Winnipeg to continue the debate at a gathering of chartered financial analysts, or CFAs.

While I was gathering my data, I made plans to meet with Mr. Sarbit. You might say I came to Winnipeg both to bury and praise active management.

Coke was on the menu when we spoke at his office on the banks of the Assiniboine River, just off Winnipeg's downtown. Not the beverage, but the company. In talking about what he's been buying recently, Mr. Sarbit mentioned how Coca-Cola had recently got cheap enough for him to finally buy some shares.

"At last, I got to buy some Coca-Cola at a reasonable price," he said. "I've been talking about it as an example of a great business for the past 20 years."

Mr. Sarbit's buy-in price was around $42 (U.S.). "That's slightly higher than Barry Diller paid. He's a board member at Coke and he put $20-million in at around $39."

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Coke's trading these days around $47, but Mr. Sarbit is not a quick-score artist. He describes himself as a "business investor," which means finding strong, well-run companies and waiting for their attributes to be reflected in their share prices.

Many companies are on Mr. Sarbit's wish list, but he's not buying much these days. Even with the stock markets still down massively from their peaks of last year, he finds many companies still too expensive to buy.

In fact, he's been selling stocks as the markets have rallied of late. The net result is that about 70 per cent of the fund is in cash right now, up from 57 per cent or so a few months ago.

His thinking here is that U.S. consumers, who account for about 70 per cent of U.S. economic output, may not have the spending capacity to float the country out of recession. As investors come to realize this, it could undermine a stock market that never did get down as low as Mr. Sarbit thought it could.

The guiding principle behind this cautious stance is Mr. Sarbit's No. 1 priority as a money manager: avoid losing money.

"The fundamental foundation of successful investing is to not lose massive amounts of money," he said. "If you do, a lot of people don't have time to get it back. How do you make up a 40- or 50-per-cent decline?"

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So here's what you get when you invest in Mr. Sarbit's fund, Sarbit U.S. Equity Trust. A markedly conservative, patient style of money management that may hold tons of cash while the stock markets are flying, and that ignores trends like commodities in favour of buying good businesses.

In other words, you end up with something that does not look, or perform like the index it's tracking, in Mr. Sarbit's case, the Russell 2000. Sarbit U.S. Equity Trust lost a compound average annual 8.3 per cent for the three years to April 30, compared with a loss of 10.8 per cent for the index measured in Canadian dollars.

Sarbit U.S. Equity Trust is in a field of 45 funds that invest in U.S. small and medium-sized companies. Their average loss for the past three years was 14.4 per cent, and just 15 of them managed to meet or beat the index return adjusted for the kind of fees you'd pay if you owned an ETF that tracked the Russell 2000.

It's statistics like this that make me so high on ETFs, which are low-fee index funds that trade like a stock. It's managers like Mr. Sarbit who show why actively managed mutual funds have their place, too.



LARRY SARBIT

TITLE: Chief investment officer, Sarbit Advisory Services

JOB DESCRIPTION: Running Sarbit U.S. Equity Trust, a mutual fund offered by IA Clarington Investments

HOME BASE: Winnipeg; age: 57

FIRST FINANCIAL JOB: Analyst with brokerage Richardson Greenshields

ALSO WORKED AT: Investors Group; AIC

SARBIT ON HIS FUND BEING DOWN LESS THAN ITS BENCHMARK INDEX OVER THE PAST THREE YEARS: "At the end of the game, it's still a negative number and I'm not satisfied with that."

SARBIT ON INVESTORS: "What's required on the part of investors in this business is patience, and it's the thing that's most lacking. The customers want returns, and they want them now."

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