Jan 8, 2018 · 1h 16m · capital-allocators
Michael Mauboussin – Active Challenges, Rational Decisions and Team Dynamics (Capital Allocators, EP.36)
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gold bands on the timeline = statements, start to end. Hover to read, click to jump. CC turns on captions
In this episode of Capital Allocators, host Ted Seides interviews strategist and author Michael Mauboussin to examine the structural challenges facing active fund managers. Mauboussin outlines multidisciplinary frameworks spanning the paradox of skill, base-rate probabilistic decision-making, sports analytics, and complex adaptive systems to optimize institutional capital allocation.
How this conversation actually went
Every chapter scored 0–10 on four independent dynamics. Hover any point for the reasoning behind the score. Ted holds 21.3% of the talking time here. How this is scored →
Ted as informed peer 4.9 Guest teaching 4.2 Guest disagreement 0.5 Ted pushing back 0.8
speaking balance: gold is Ted, purple is the guest (3 minute bins)
Sharpest disagreement ▶ 1:04:00 Defending active management profession against passive fatalism
Michael firmly rejects the fatalistic view that active management is futile, insisting thoughtful managers can capture specific structural inefficiencies if they guard capacity.
Hardest push from Ted ▶ 1:03:36 Ted challenges the viability and fulfillment of active managementTed presses Michael on whether dedicating immense intellectual skill to active management is fundamentally undermined when capacity and fees cause excess returns to wash out.
Biggest teaching moment ▶ 21:00 Deconstructing value extraction via the Berk and Green frameworkMichael educates on why percentage alpha masks true skill, using Peter Lynch's career to demonstrate that gross dollar value extraction grew even as percentage alpha drifted lower.
Ted holds their own ▶ 26:20 Ted synthesizes Pedro Matos's high active share findingsTed brings in academic findings from UVA professor Pedro Matos regarding concentration and active share, enriching the ongoing discussion on market efficiency.
the scores for every segment, with the reasoning behind each
| Chapter | Topic | Ted as informed peer | Guest teaching | Guest disagreement | Ted pushing back | Why |
|---|---|---|---|---|---|---|
| Michael Mauboussin's Early Career and Drexel Burnham Lambert | 3 | 2 | 0 | 0 | Ted opens with friendly biographical prompts regarding Michael's youth, college background, and entry into Drexel Burnham Lambert. Michael candidly shares anecdotes about getting hired via a Redskins trash can discussion and his early failure as a retail broker. | |
| Mentorship and Early Sector Focus in Equity Research | 4 | 6 | 1 | 1 | Ted introduces the discussion on active management by asking why there are no .400 hitters anymore. Michael delivers a masterclass on Stephen Jay Gould's Full House and explains the paradox of skill using baseball and alpha distributions. | |
| Fluctuations in Standard Deviation and Market Demographics | 5 | 4 | 1 | 2 | Ted probes on evolutionary biology parallels and what triggered recent massive indexation flows. Michael clarifies how market standard deviations widen when unsophisticated retail investors enter and points to the Department of Labor fiduciary rule as a key catalyst. | |
| Berk and Green Framework on Value Extraction in Active Management | 6 | 7 | 1 | 1 | Ted references academic studies and Warren Buffett's critiques of active management. Michael educates on the Berk and Green framework and Grossman-Stiglitz theorem, illustrating how Peter Lynch extracted massive gross dollar value despite lower percentage alpha on a larger asset base. | |
| Global Market Efficiency and Active Share Dynamics | 6 | 5 | 1 | 1 | Ted brings in recent research by Pedro Matos regarding high active share and asks about international market efficiency. Michael concurs with the spectrum of market efficiency and notes that high indexing environments often incentivize active managers to differentiate. | |
| Multi-Asset Context and Probabilistic Decision Making | 5 | 6 | 0 | 0 | Ted asks how Michael's research approach applies to his role at credit-focused Blue Mountain. Michael breaks down fundamental analysis across asset classes and uses Amazon's base rates to demonstrate Daniel Kahneman's inside versus outside view. | |
| Ridgeline Mid-Roll Sponsor Message | 6 | 4 | 0 | 0 | After an ad read, Ted explores governance dynamics with allocator boards and investment committees. Michael shares findings on optimal team size (4-6 people), cognitive diversity, and regression to the mean in hiring and firing managers. | |
| Assessing Rationality Quotient and Cognitive Diversity in Hiring | 5 | 4 | 0 | 1 | Ted asks how to screen for cognitive diversity during interviews, and later what market risks worry Michael most. Michael introduces Keith Stanovich's Rationality Quotient (RQ) concept and highlights abnormally suppressed equity volatility. | |
| Fixed Income Liquidity and Structural ETF Risks | 6 | 4 | 0 | 0 | Ted raises structural liquidity mismatches in credit ETFs and transitions to sports analytics. Michael explains how illiquidity in underlying high yield could stress ETFs, then shares insights on modern sports analytics including three-point distribution and pitch framing. | |
| Career Risk, Suboptimal Decision-Making, and Evaluation Horizons | 6 | 3 | 0 | 0 | Ted notes how established endowment CIOs have career insulation to try unconventional strategies compared to newer allocators. Michael agrees, highlighting how fear of career risk drives coaches and allocators toward conventional, suboptimal decisions. | |
| Santa Fe Institute and Complex Adaptive Systems in Markets | 5 | 7 | 1 | 0 | Ted prompts Michael to explain the Santa Fe Institute. Michael provides an expansive breakdown of complex adaptive systems, emergence, Brian Arthur's increasing returns, and why individual behavioral biases can wash out at the market scale. | |
| Upcoming Research on Analogies and the Leverage Cycle | 5 | 5 | 1 | 1 | Ted asks about upcoming research topics, and Michael outlines his work on reasoning by analogy and John Geanakoplos's leverage cycle, emphasizing that margin requirements matter more than interest rates. | |
| Balancing the Investment Business Versus the Profession | 7 | 4 | 2 | 6 | Ted directly pushes Michael on whether devoting a career to active management makes sense given Buffett's passive prescription and capacity constraints. Michael responds by citing Charlie Ellis's distinction between the business and profession of investing. | |
| Reflections on Memorable Athletic Experiences | 3 | 1 | 0 | 0 | Ted asks closing personal reflection questions regarding favorite athletic moments and childhood parental lessons. Michael shares memories of the 1980 Olympic hockey game, a master's lacrosse title, and his father's insistence on meticulous work. | |
| Cultivating Multidisciplinary Mental Models and Lifelong Learning | 4 | 3 | 0 | 0 | Ted inquires about high-value reading sources. Michael explains his preference for broad mental models and multidisciplinary lattices over siloed information, citing Charlie Munger and Todd Combs. | |
| Essential Habits and the Value of Reference Classes | 3 | 2 | 0 | 0 | Ted concludes with life lessons and advice to an older self. Michael emphasizes foundational health habits (sleep, exercise), recognizing reference classes early, and prioritizing human relationships. |
Statements from this episode (36)
Mauboussin Calls Drexel's Alan Greditor The Greatest Analyst He Has Ever Seen
“So I would say that in my 30 plus years of Wall Street, the analyst who I thought was the greatest analyst I've ever seen operate was a guy named Alan Greditor, who was the food industry analyst at Drexel Burnham.”
Mauboussin: As Overall Skill Improves In Any Field, Luck Drives Outcomes
“And the paradox of skills when both luck and skill are contributing to outcomes, which is most things, right? There are some things that are mostly skill like running races, but most things in life have at least a dollop of luck. It can be the case that a skil…”
Mauboussin: Standard Deviation Of Active Manager Alpha Has Narrowed Over Time
“So one of the ways to quantify that as we measure the standard deviation of excess returns, the standard deviation of alpha, right? So you imagine alpha plotted as a bell shaped distribution, which is roughly not a horrible way to look at it. And that bell has…”
Mauboussin: Manager Return Dispersion Spiked During Dot-Com Era Before Reverting
“So that standard deviation had been going down, down, down, sixties, seventies, eighties, into the nineties. And then there was a massive reversal where the standard deviation went way back up around the dot com period. And so there's a spike, and then it come…”
Mauboussin: Olympic Podium Finish Times Are Shrinking As Skill Levels Increase
“In most things, certainly physical endeavors, you know, we are grinding toward physiological limits, and if you look at things like marathon times, or sprinting, or swimming, and as you also know, that the times are converging, so the difference between gold, …”
Mauboussin: Retail Investing Surges Almost Always End Poorly For Individual Investors
“It's almost always the case when individuals get excited and start directly investing that the story doesn't end happily for them.”
Mauboussin: Market Return Dispersion Widens When Unsophisticated Investors Enter The Fray
“I think when you see episodes of people who are less sophisticated getting involved with reasonable sums of money, that's probably the case where you could get that standard deviation blow back out.”
Mauboussin: DOL Fiduciary Rule Accelerated The Shift To Passive Indexing
“So I think the DOL rule itself was probably a pretty important specific catalyst for acceleration of indexing.”
Mauboussin: Unweighted Data Shows 40% Of Active Managers Beat Markets Annually
“Unweighted numbers, about 40% of managers beat the market in an average year. And the standard deviation is high. It's like 17% standard deviation.”
Mauboussin: Asset-Weighting Lifts Active Manager Outperformance Rates To The Mid-Forties
“If you look at it on an asset weighted basis, the numbers go, they're not quite 50, but they get into the mid to high So it's a temp called a 10 or 15% uplift on that percentage basis.”
Mauboussin: US Active Equity's $1 Trillion Gross Profit Was Erased By Fees
“The cumulative gross profit, I think we have 35 years of numbers, is about a trillion, trillion net positive gross profit. So gross profit positive more than, you know, ok, is a trillion dollars. Now, that also happens to be about what the fees were in that ti…”
Mauboussin: Active Managers Perform Best In Markets With Highest Explicit Indexing
“They found that in markets where the Explicit indexing was highest Active managers often did the best”
Mauboussin: Equity And Credit Investors Must Consistently Monitor Each Other's Markets
“So if you're an equity investor, you should understand what's going on in the credit markets and the options markets and CDS markets. Credit investors should understand equities and so forth, right? So just having other touchstones, I think is incredibly valua…”
Mauboussin: Zero $100B+ Companies Have Grown Revenue 15% Annually Over Ten Years
“Let's look at every company that had initial revenues of one hundred billion or more, so obviously adjusted for inflation, and look at how they did in their subsequent growth rates for the next 10 years. And by the way, because this is such rarefied space, you…”
Mauboussin: Harvard Research Shows Optimal Team Size Is Four To Six People
“Richard Hackman as a professor at Harvard. And, you know, he studied teams across all different disciplines and found that the optimal tie size was four to six.”
Mauboussin: Genuine Consensus Is Rare Because Good Investment Ideas Are Controversial
“I've always thought that in the world of investing, it's just really rare to have an honest consensus. You know, most good investment ideas are controversial. It's very rare that everyone says this is obviously brilliant or obviously right.”
Mauboussin: Buying Fired Fund Managers Consistently Outperforms Buying Newly Hired Ones
“Study after study demonstrates that if you bought the funds that were fired and sold the ones that were hired, you actually, just because of regression toward the mean, you do much better.”
Mauboussin: Keith Stanovich Distinguishes Rational Decision-Making Ability From General IQ
“Stanovich has made this really important distinction between IQ, which measures something very real, helpful, more of it tends to be better, and what he calls RQ, rationality quotient, which is the ability to make good decisions.”
Mauboussin: Combining Non-Traditional Backgrounds With Rationality Testing Drives Team Success
“Find people with sort of weird backgrounds, but essentially test them or assess them on their ability to think rationally. And it could be that combination that might be the sweet spot for success.”
Mauboussin: Low Market Volatility Suppresses Active Fund Manager Performance Differentiation
“The small variance and performance of active managers, part of that's also a function of the volatility being low. And we can demonstrate that. So, you know, it's very difficult to distinguish yourself either favorably or unfavorably when the volatility of the…”
Mauboussin: High-Yield ETFs Are Much More Liquid Than Their Underlying Assets
“Most of the volume, for example, in ETFs would be things like the SPDR, which is the S&P, and there's just not, there's unlikely to be a big issue there, but as you point out, we've had this massive proliferation, and especially into credit markets, and you kn…”
Mauboussin: Traditional Liquidity Metrics Cannot Be Properly Tested In Non-Stressed Environments
“Dealer inventories are way down, and I just don't think we've tested it, because many of the traditional tests of liquidity are things like bid-offer spreads and realized prices, but you can't really test it in non-stressed environments.”
Mauboussin: Elite Pitch Framing By Baseball Catchers Produces Substantial Win Deltas
“Simply bringing in a pitcher, a catcher, pardon me, who's really good at pitch framing can lead to, the numbers seem to me like unbelievable, you know, over a season, substantial delta in the number of games won.”
Mauboussin: NFL Teams Still Make Suboptimal Fourth-Down Decisions Despite High Stakes
“It's amazing that even like in the NFL, where there are huge stakes, There's still a lot of suboptimal decisions made. You know, the famous one is fourth, going forward on fourth down.”
Mauboussin: Wilt Chamberlain Shot Underhand Free Throws During His 100-Point Game
“That day that Will Chamberlain scored a hundred points in Hershey, Pennsylvania, he was shooting underhand free throws and made like 90% of them. And it was like one, and it wasn't captured on tape, and apparently it was kind of a one-off. He just did it a few…”
Mauboussin: Outcome Bias Creates Crippling Career Risk For Under-Established Decision-Makers
“Bill Belichick goes four and a fourth down, and it doesn't work out. People give them the benefit of the doubt, but if you're a coach who's got a 500 team, it may be the correct decision, but you lose that game. People don't think about the quality of your dec…”
Mauboussin: Statistically Evaluating Managers Requires Longer Time Horizons Than Practice Allows
“Some of the academic work and some of the simulation work suggests that the time horizon is a little bit longer than it is practically. But the flip side is if I'm an allocator and I have someone who's underperforming, I don't really don't know if it's just a …”
Mauboussin: Complex Adaptive Systems Explain Both Market Efficiency And Episodic Crashes
“I think that the market as complex adaptive systems both explains why markets tend to be efficient. This is, you know, the wisdom of crowds concepts. But also explains why markets episodically go haywire, which they clearly do.”
Mauboussin: Individual Cognitive Biases Often Cancel Out, Leaving Markets Efficient
“The fact that you and I are suboptimal and it's easy for us to show that we're suboptimal as individuals that doesn't necessarily translate into a market setting, right? Because our errors may cancel out. You're overconfident. You buy, I'm overconfident. I sel…”
Mauboussin: Analogical Reasoning Frequently Breaks Down Across Breadth And Depth
“The short answer is that the number one way we use to compare things is by analogy. This is like that. And that is, that approach is incredibly effective if you've got the appropriate analogy, right? But it breaks down pretty quickly in terms of breadth and de…”
Mauboussin: Margin Requirements, Not Interest Rates, Actually Drive Market Credit Cycles
“John's, I think, very provocative point is that it's not about interest rates. It's about margin requirements. It's about the ability to borrow. And we tend to think that if we lower interest rates, the world is going to be better and we raise interest rates i…”
Mauboussin: Liquidity, Not Leverage, Will Be The Next Major Market Systemic Challenge
“I don't suspect leverage is going to be the next big challenge, I do think liquidity might be the case.”
Mauboussin: Forced Sellers And Buyers Create Active Investing Opportunities
“There are people who are for sellers. There are people who are forced buyers and they're doing things that are non-economic or for non-economic reasons. And those can present opportunities for the other side.”
Mauboussin: Managing $70 Billion Is Far Harder Than Managing $7 Billion
“At Lake Mason Capital Management, we, you know, the AUM got to, I think, 65 or seventy billion dollars. It's a lot harder to run seventy billion dollars than it is to run seven billion dollars than it is to run seven hundred million dollars, and that's somethi…”
Mauboussin: Analysts Usually Evaluate Deals As One-Offs Rather Than Using Frameworks
“And I just found as an analyst over the years and a strategist and so forth that analysts, almost every deal, it's like a one-off right there. They're analyzing it without a framework. And if you have a framework for it just allows you to put things into conte…”
Mauboussin: Outside Views And Reference Classes Counter Our Illusion Of Uniqueness
“And the big one is, is that inside outside view, this idea of understanding past performance and how that applies. And, you know, as we go through life, everything feels unique to you. You know, you're moving from, you know, from New York to Boston. It feels l…”