Less smoke, fewer mirrors

MIT Sloan alums Christine Jantz and Sean Morgan are making system dynamics work for them — and their investors

What happens when a philosopher/aerospace engineer and an artist/statistician become intrigued with the field of system dynamics? The result is Jantz Morgan LLC — one of the most forward-thinking firms in the realm of investment management.

Christine Jantz, SM '99, and Sean Morgan, SM '99, met at MIT Sloan. Inspired by their courses in system dynamics, a field invented by MIT Sloan Professor Jay Forrester, they founded an investment management company on the premise that superior quantitative models will significantly outperform human experts over the long term.

Jantz and Morgan found inspired advice in consultations with MIT Sloan faculty, alumni, and former classmates before they launched their enterprise. They say the network they built as students is still very much there for them.

The partners believe strongly that models can do better than people in most environments.“At other schools, you have to compete with everyone. At MIT Sloan, the culture is open and collaborative,” Morgan says. “You're not competing, you're working together. Neither Chris nor I could have done this on our own. The only way we could have gotten our idea off the ground was by working as a team.”

The results of Jantz and Morgan's cool idea have surprised everyone, including the entrepreneurs themselves. While they had complete faith in their model — enough to invest their personal assets — they thought it prudent not to be too optimistic about short-term return.

Over the first three years, however, the portfolio performed gangbusters in some tough markets. In 2005, Jantz Morgan crossed the three-year mark with real money. The start-up also doubled its assets under management and turned in a respectable net return of 10.3 percent — 5.4 percent ahead of the S&P 500's 4.9 percent over the same period.

Since their portfolio's inception in September of 2002, net return has been 100.8 percent compared to the S&P's 48.7%, all with a long-only portfolio of stocks selected from the S&P 500 universe.

When Morningstar began publishing its ranks for individually managed accounts in February 2006, Jantz Morgan had five stars next to its name — an extraordinary accomplishment for a young firm. Its success is especially impressive in an industry in which few firms start from scratch. They were told that no one would take them seriously for at least five years.

The radicalism of rationality

The idea of “models outperforming humans” is, amazingly enough, a radical notion in the investment world — a fact that phases neither Jantz nor Morgan nor their visionary clients. The partners believe strongly that models can do better than people in most environments.

“We don't override the model,” Jantz notes. “We build our insights into the model and don't tamper with the stock picks after the fact. The point is to remove human cognitive biases from the process. For example, investors are often fooled by spurious correlations. Like linking increases in street crime and ice cream consumption. Both are linked to hot weather, but that does not mean there's a causal link between the two. The investment world is rife with spurious correlations.”

Morgan concurs and explains why system dynamics works so well in the volatile realm of investing. “We use the system dynamics methodology as the core of our processes because it is particularly useful at capturing causal relationship, feedback, and time delays.”

Jantz Morgan is, you could say, all system dynamics all the time. System dynamics powers the investment models. It also powers the company.

“We used system dynamics to model the company, and we use it to help us manage the company,” says Morgan. “This was part of the due diligence we used to determine if there was a business there, what it would take to get started, and what it would take to succeed.”

Knowing their left from their right brain

While both Jantz and Morgan liked their work, they wanted to be able to launch an idea past institutional boundaries. Jantz came to realize that if she wanted to build the kinds of models she had in mind, she would have to do it outside an established company. Morgan was applying system dynamics to business and financial problems, but he was itching to start a company from scratch.

“Maybe it is genetic,” Morgan explains. “My grandfather Morgan was a welder at the steel mill in Southern Colorado in the '20s. But one day he took his torch home in his lunch box and started his own successful welding and machining business.”

This is a team that knows when to rely on the left brain and when to rely on the right. Their investment philosophy stresses science over art, stressing cause and effect relationships over correlations and stressing replicability and consistency of process over reliance on single events.

Very left brain. But it was perhaps their right-braininess that inspired them to create this iconoclastic investment approach in the first place.

In fact, their approach has no real peers in the industry. In defining what they're about, they're often pressed to describe what they are not. They are quick to point out, for example, that Jantz Morgan is not a hedge fund.

“We had no interest in jumping on that band wagon,” Morgan says. “Our aim is to deliver hedge-fund-like returns at mutual fund prices. If we do well for our clients, we will do well.”

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