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Happy, clever people

Humans, not machines, still drive innovation
Eleanor Moriarty
Responsible Investment Associate
Kevin Paul
Responsible Investments Director, ESG

Nearly all advanced economies face a common foe: low and falling productivity. And that is a problem. As Paul Krugman put it in 1994’s The Age of Diminishing Expectations, “A country’s ability to improve its standard of living over time depends almost entirely on its ability to raise its output per worker.” To solve this problem, companies need to innovate, and many have turned to technological solutions such as artificial intelligence (AI) and machine-based learning. But innovation still stems from the human brain, and the best companies understand that attracting, retaining and developing an engaged, creative and knowledgeable workforce is the key to productivity gains.

We see human capital – employees’ skills, knowledge and experience – as critical to companies’ performance. It follows that a sound grasp of human capital trends can yield insights into companies’ potential for value creation. This shows how responsible investment frameworks can enhance traditional fundamental analysis. You cannot fully understand a company without considering operational aspects that are often seen as ESG factors and thus secondary to the fundamentals.

In recent times, strikes and skills gaps have plagued many industries, jeopardising the corporate strategies that underpin companies’ market valuations. These issues stem from an array of social and governance failings, some due to companies’ own actions, others exogenous.

For investors, identifying the risks and opportunities the management of human capital presents could be the difference between backing a winner and picking a dud. Companies with employees who are well managed, incentivised and trained are the most likely to innovate, grow and produce long-term value for all stakeholders – not least investors.


Productivity is the relationship between inputs and output – in other words, how efficiently a business turns raw materials, capital etc into goods or services.

Inputs are a function of a number of variables. Specifically, two are in scope for the innovation argument: human capital and labour bottlenecks.

Human capital is a broad term for the knowledge and skills possessed by individuals in the labour force. It captures more qualitative attributes than commonly used measures of activity such as the number of hours worked. By integrating human capital into their productivity frameworks, analysts can account for the value added by employees’ learning, development and experience.

Labour bottlenecks can prevent companies from accessing sufficient human capital. They are caused by both acute and structural issues. Demographics shape the labour force – countries grow richer, their populations become more educated, average fertility declines and life expectancy rises. As populations age, the proportion of retirees increases with each generation, leaving a smaller pool of workers for companies to recruit from. Long-term illness, ‘quiet quitting’ and employees opting for early retirement since the pandemic have all contributed to a tighter labour market.

Throughout 2022, we saw evidence of these bottlenecks in our meetings with companies, as many management teams said a shortage of labour supply was impeding growth.


Companies need to find ways around these bottlenecks. Despite phenomenal advances in AI, employees are still the main drivers of innovation. So the challenge for companies is to nourish and cultivate their employees’ joint stock of knowledge – their human capital.

Companies can enhance this knowledge base by creating an environment in which employees are encouraged to take risks. Companies must be open to trial and error, specialisation and cross-pollination.

This means fostering a culture of aspiration, humility and transparency. To capitalise on such a culture, companies need to attract, integrate, develop and retain individuals who are engaged, innovative and comfortable with uncertainty.


So how can investors assess a company’s success in managing its human capital?

Unfortunately, companies’ disclosures on human capital management remain primitive. That is frustrating for those who see “the individual as the primary actor in knowledge creation and the principal repository of knowledge.”1

If human capital performance is a key driver of the financial outcomes in corporate accounting statements, surely analysts should put just as much effort into evaluating companies’ stock and flows of knowledge as they currently put into tracking changes in financial metrics.

If we take knowledge creation as the crucial measure, our three key areas of analysis are: access to capital; utilisation of capital; and enhancement of capital. (This applies to all forms of capital, whether financial, manufactured, intellectual, natural, social or human.)

A well-positioned company can readily access the capital it needs at a favourable cost, use that capital productively today and enhance it to increase the chances of creating and capturing value in the future.

Strength in these three areas is likely to underpin any sustainable competitive advantage over the company’s peers, especially during times of volatility and scarcity.

To track the link between human capital productivity and a company’s profits and value, we need clarity on its access to and its use and enhancement of human capital.

A better grasp of a company’s labour market power will help us to assess how boosting workers’ productivity could lead to a higher equity value.


In equity analysis, qualitative factors are notoriously hard to evaluate. But some factors could be easily measured and compared if only companies reported key indicators.

We have built a sample framework to help with this kind of analysis.

By using an analytical framework like this, it should be possible to identify connections between a company’s competitive position, its management of human capital and its ability to generate profits.



Imagine an industry where human capital productivity varies widely from company to company, owing to accumulated differences in the quality of employees and firms’ assets or managerial processes.

Within this industry, Company A has created a working environment which helps its employees to be more productive than its competitors. This gives it the prestige of a best-in-class operator, making it more attractive to potential employees. At the same time, greater productivity leads to stronger profits, which allows Company A to pay its workers higher wages than are on offer at its peers.

Crucially, the wages – though higher in absolute terms – can account for a lower proportion of Company A’s profits, if this prestige affords the company bargaining power over labour. This difference between workers’ marginal output and absolute wage is known as a wage markdown. Assuming Company A sets this wage markdown just right (a tricky task), workers can be kept happy even as profits grow, thus creating a virtuous circle.


The companies that are best at attracting, using and enhancing human capital will be best placed to create and capture economic value.


Investors naturally seek out innovators. And productivity demands innovation. To identify the companies with the highest innovation potential, we need to understand how they manage human capital.

Despite the rise of the machine, knowledge creation still requires the human touch. The companies that are best at attracting, using and enhancing human capital will be best placed to create and capture economic value. They will develop the new knowledge required to solve problems efficiently and make the greatest gains in productivity.

In stock level analysis, it may well pay to identify the leaders in human capital management and engage with laggards, whilst continuing to explore the productivity-innovation nexus.

1 Grant (1996), Toward a knowledge-based theory of the firm

This article first appeared in The Ruffer Review 2023.

Past performance is not a guide to future performance. The value of investments and the income derived therefrom can decrease as well as increase and you may not get back the full amount originally invested. Ruffer performance is shown after deduction of all fees and management charges, and on the basis of income being reinvested. The value of overseas investments will be influenced by the rate of exchange.

The views expressed in this article are not intended as an offer or solicitation for the purchase or sale of any investment or financial instrument, including interests in any of Ruffer’s funds. The information contained in the article is fact based and does not constitute investment research, investment advice or a personal recommendation, and should not be used as the basis for any investment decision. References to specific securities are included for the purposes of illustration only and should not be construed as a recommendation to buy or sell these securities. This document does not take account of any potential investor’s investment objectives, particular needs or financial situation. This article reflects Ruffer’s opinions at the date of publication only, the opinions are subject to change without notice and Ruffer shall bear no responsibility for the opinions offered. This financial promotion is issued by Ruffer LLP, which is authorised and regulated by the Financial Conduct Authority. Read the full disclaimer.

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80 Victoria Street
London SW1E 5JL
31 Charlotte Square
Edinburgh EH2 4ET
103 boulevard Haussmann
75008 Paris, France