The Wisdom Wall

“He said, while illiquid markets provide a much greater range of mispriced assets, private investors fare little better than their marketable security counterparts, as the extraordinary fee burden typical of private equity funds almost guarantees delivery of disappointing risk-adjusted results.”

“a lot of the response that I've seen from the people I talked to is we're going to go invest in a diverse manager, a diverse owned manager and And my contention all along is that's incredibly misguided because the structure of the industry today was created based on the old norms, which paid no attention to that. So…”

“The private wealth channel is a whole different distribution mechanism. What those two things have in common is they benefit the largest firms. They don't benefit the middle market player. So the middle market, you have contraction, and then you have expansion of the already large managers.”

“The one interesting aspect of venture, structurally, is to the extent private equity is private for longer, venture feels like it's private forever.”

“I think most of it today is about diversification. It used to be the case that you only participated in these alt strategies for alpha.”

“If you want to diversify your equity exposure away from the US equity market, by definition, everything else you do in the world is less liquid. You have to embrace some level of illiquidity in order to get the diversification. In the book, he described illiquidity as the unfortunate cousin of diversification. There's…”

“A portfolio of options is more valuable than an option on a portfolio. One of the attractive features of private equity is the absence of cross-collateralization of debt across portfolio companies. Nav loans take away that benefit.”

“Nearly every aspect of fund management suffers from decisions made in the self-interest of the agents at the expense of the best interest of the principals.”

“Well, the first thing you, you go in knowing is that you will, you will absolutely have the data to figure out if that was a decision, probably in 30 or 40 years. So you know that you can't do that quantitatively, right?”

“As long as money is flowing there into exactly that strategy and buying those names more than it's buying other names. It is next to impossible to outperform that index.”

“And one of the things you saw afterwards with some of the people who were in that trade without pointing to any particular manager, is that it almost changed the way they thought. They, they did something that was perfect, and then they proceeded to search for the next thing that was perfect, and if it wasn't the big…”

“The only thing that's been interesting to watch has been China, because two, three years ago, China was going to be out of portfolios. Then you have a year where Chinese stocks perform really well, and now these things are cyclical. The U.S.-China relationships, isn't that thawing a little bit? Maybe it's okay to…”

“And while that's pristine, there's a part of that that doesn't consider the necessity of a successful business in generating optimal investment performance. Oftentimes, allocators see a manager, they like getting there early, someone who's great, delivering performance, and then they get frustrated as they grow without…”

“In almost any rational assessment, the playbook favors growth. Expanding organizations can attract and retain talent and capital, which creates durability. Staying the same may benefit from focus, but it carries significant business risk.”

“A boutique manager is always one step away from a bad stretch of performance that creates an existential threat to the business.”

“Boutiques are not designed to outlast their founder. The investment offering rarely passes on to the next generation.”

“In the case where an LP invests in a NAV lending fund that extends a loan to one of their private equity funds, that investor loses by the fees it pays to both sides, just like Jack Bogle's critique of active management in public equities.”

“Capitalizing businesses fund by fund, instead of deal by deal, resembles a holding company in which the sponsor can efficiently acquire and allocate financing.”

“Investors hoping to beat the odds by playing the game of active management face daunting obstacles ranging from the efficiency and pricing of most marketable securities to the burden of extraordinary fees in most alternative asset investment vehicles. Success also demands substantial staff resources and contrarian…”

“Embracing illiquidity is not a first principle of the Yale model, despite many misinterpreting David's beliefs as such.”

“The study describes investor behavior, not finance theory. Investor behavior causes policy asset allocation to dominate portfolio returns, since institutions tend to hold stable commitments to a broadly diversified portfolio of marketable securities.”

“David was a staunch proponent of asset allocation, but he recognized that asset allocation drives returns in the rearview mirror. If investors choose equities, and equities outperform over time, then asset allocation mathematically dominates long-term return attribution.”

“He said, because of the strong fundamental links between private equity investments and marketable securities, private equity provides limited diversification to investors.”

“This is where retail investors can have an advantage over institutions. Institutions have boards. They have committees. They have all these things that come in the way between an individual saying, I want to make this investment and an answer at the end of the day.”

“One of the things I've come to learn is that given the constraints that almost everyone has, an individual with their spending, an institution with their board, that the long term, if you can really think about it, probably gets to three to five years.”

“Uh, you read about a hedge fund that makes big, big money, but hedge funds by and large are risk reduction, wealth preservation type vehicles when done well.”

“Everyone I know doesn't think that a portfolio of hedge funds, generally speaking, will get them the returns that they need for their portfolio, but they do believe that their hedge funds will get them there.”

“The best way to do that was actually to invest in smaller funds because hedge funds inherently oftentimes are capacity constrained strategies.”

“What is troubling is the ramifications that has on the governance of the underlying companies that will drive the returns. So you could imagine if you have 95% passive investors that corporate executives could do whatever they want because their shareholder base would never turn over, and that's a real problem.”

“I think that the US market for index funds is actually quite different from most other markets around the world in that, say the S&P 500 is very diverse with a lot of global leading companies. If you were to look in, say, emerging markets, there are a lot of countries where the index is dominated by a very small number…”

“having the right networks to be able to access and find great investment ideas is, is pretty important. And it's one of the reasons why, you know, where we started some of these large endowments Have been able to perpetuate returns because they have long histories of being demonstrated to be a very long-term, very…”

“Investing based on, well, investing in an investment manager based on a piece of paper and a track record is a recipe for failure.”

“Most of the funds that do best by their investors aren't necessarily the ones that grow to be the biggest. They're the ones who care most about performance, not business growth.”

“The people who are good at this actually aren't doing it because of the money.”

“what you find for reasons that are a little bit confusing is if you think of just normal business strategy, sort of one of Porter's models of price differentiation and product differentiation, investors really, for the most part, do not select their investment managers based on price. It's much more about perception of…”

“An allocator in the seat like protege was, where the investing was really driven by the investment returns on who the seed was, The middle manager who just had a good track record is the least useful. They may be the most useful in terms of short-term being able to grow assets, but the least useful because, you know,…”

“I think that by the time you can replicate most of those strategies, the advantage that they have has probably gone away.”

“If you were going to diversify away from sixty-forty, by definition, everything else had to be less liquid. And that was one thing I think people misinterpreted in what he did.”

“The other thing that happened was, and it really started post Lehman, hedge funds disappointed. Uh, hedge funds in the past, say equity long, short hedge funds, had a certain kind of Capture of, if the S&P went up 10%, you might expect them to make five or six percent, and if it went down, you'd, you'd expect them to…”

“A great investment analyst becomes a portfolio manager, becomes someone who's a chief investment officer, That doesn't mean they've learned how to lead people and manage people. It's not part of the skill set that they got brought up in, so some of the people have never been exposed to it.”

“One of the things you hear when you listen is that the best investor relations people, the best salespeople are far more listeners and question askers than the stereotype would tell you that they are.”

“You could say that private equity is frozen because of fear. It's fear on the GP side of, you If they sell, returns aren't what their LPs would have thought. They're afraid they're not going to be able to raise their next fund. So rather than say, we'll just transact and move on, if we hold it longer and the business…”

“Private equity firms only want to buy if they get a great deal, and they only want to sell if they're getting full value. There's a few turns of multiples in the middle, and you haven't seen that thought quite yet.”

“The first thing it's done is increase the illiquid allocation, which means that when it comes to how much are you going to put in of new funds on the other end, there's less to go around.”

“The interesting thing about that in this community is it doesn't affect much of anything that people do, and that's because these allocator pools are like tanker boats. They're not fleet boats. So unless it's an allocator who's outside the U.S., domiciled in a non-U.S. currency, and they have to make that currency…”

“there is more persistence in private equity than in the public markets.”

“size is always the enemy of performance.”

“There's this magic eight percent that you saw in the institutional world that, roughly speaking, if you hit eight percent, everybody's happy. There's very few pools of capital that can't survive and meet all their spending needs at eight percent. You start getting below eight percent, and then people start sharpening…”

“One of the things that happens when you get larger is that the required rates of return of larger and larger pools of capital are a little bit lower. So if you're a very large sovereign wealth fund or your UBS platform or JP Morgan private bank, and you need access to large dollars to put to work, you don't necessarily…”

“The first is these are great businesses. Someone's given you money and given you a revenue stream for 10 to 15 years with an option on making more money. You don't have to be very big for that to be an incredibly lucrative proposition for you. And as a result of that, there are a lot of smaller private equity firms…”

“What is the investment philosophy of this organization? That will eliminate about 60% of all organizations who actually don't have a very clearly defined philosophy of how they think about what works in their markets.”

“Ultimate decision maker should speak last. Because if they speak first, everyone wants their bonus, and so everyone's gonna start agreeing, and the person who's not sure because of this one obscure thing that ends up being the biggest risk factor that no one thought of, it doesn't come out on the table.”

“I never had a feedback loop. I never came out of a meeting with a manager and said, how did I do? It was always, oh, what do we think of them? Are we going to have another meeting? Or thank God they're in our portfolio, or we got to get out of that manager. There was never an evaluative loop. And the podcast,…”

“By and large, managers have never been good at understanding the LPs. And by the way, I would say LPs have never been good at understanding the demands placed on managers. There's just a knowledge gap between the two.”

“When you were an allocator meeting hundreds of funds a year, you've seen everything more than once. But every manager thinks their story is unique. They think their edge is unique.”

“The challenge is that all of those channels make the winners win more.”

“no allocator actually wants to meet with small and emerging managers. They really want to meet with good ones. They just don't want to have to go through all of the chaff to find the wheat.”

“And what we find is that it's just really engaging in the process of relationship development, which is probably the most important aspect of capital flowing over time.”

“there are all these disciplines that people learn in almost any field that In the business world, except for investing, but they're incredibly important for success in investing. So think of things like decision-making and leadership and management and interviewing skills.”

“allocators have infinite budgets to spend on money management services and next to no budget to spend on anything else.”

“Even if Yale wants to continue the relationship, the fifty million dollar commitment is subscale for most strategies. An early stage venture capital or small cap public equity manager may be ready to roll with fifty million dollars, but managers of real estate, private equity, or hedge fund strategies usually require…”

“When a CIO departure occurs, the growing manager will have more options to continue a productive working relationship with the new CIO.”

“Daily marks, monthly reporting, and frequent subscription and withdrawal dates lead allocators to draw conclusions about a manager's skill far more quickly than statistically significant data would suggest.”

“Private market strategies can undergo two or three fundraising cycles over five or more years before allocators have any evidence of the success of their initial commitment.”

“Big part of the reason why I was comfortable making the bet was because the market was trading in historical high valuations. When that happens, you don't expect the next 10 years will be good.”

“Those first principles for a pool like Yale, with very long duration assets, with very minimal spending needs, were to have an equity bias, because those spending needs, while minimal on a year-to-year basis, are high. Needs to spend at roughly five percent real, and that's a very high hurdle over a long period of…”

“In the meeting itself, it's really hard to listen to someone properly if you're evaluating them at the same time, if you're thinking about anything else at the same time.”

“One of the biggest challenges in money management is that people who have the characteristics that determine success, there are far more of them than end up being successful.”

“GPs out of dry powder can buy time for the fundraising environment to improve by taking a NAV loan and using the proceeds to add a deal or two to its existing fund.”

“Internalizing and implementing his approach, however, is as difficult as outperforming the markets.”

“What most people do across the conference room is a physically confrontational setup that's probably the worst way to make somebody open to sharing information with you.”

“And a lot of times, particularly say manager, investor, if you lead to a leading question, they're going to agree with you. You're going to feel like they're smart because they just agreed with you.”

“So one of the things that I coach the allocators and the Capital Allocators University to try to help them improve is create that feedback mechanism for how are you performing and your team, individuals on your team, in interviewing managers. You need to have a mechanism to understand, did I ask good questions? Or if…”

“sequencing it so the person who you think is going to speak the most speaks last, and vice versa, has a really nice way of balancing that out to begin with.”

“Preparation. Can't underscore how important it is, but it's got to be the appropriate level of preparation. If it's too much, you can get too wedded in it.”

“you have to do your own work. And whatever that means in a different situation, you can't just take for granted, even with someone who was perfectly aligned. He had so much of his own capital in this name, and he missed something that was totally obvious.”

“Quitting on time usually feels like quitting too early.”

“Things like venture capital and private equity and real estate investing all require a lot of resources to either find the deals or to find the managers who are conducting those deals globally. Um, those investment areas, the winners tend to be very plugged in and networked in their space. And it's very difficult to…”

“unlike in, say, venture capital, the ecosystem around hedge funds has no information base of entrepreneurship, because if somebody starts a successful hedge fund, they never start another business, so there's no opportunity to say, I'm a serial entrepreneur in hedge funds.”

“David Swenson first articulated, particularly for institutions, this idea that, that successful investing for institutions demands non-institutional behavior.”

“When you're talking about just getting access to that market portfolio, diversification is the ultimate free lunch, right? To go from one stocks to 12, to go from the US market to an international market to To go from private markets to public markets and have pieces of all of the global portfolio, the more you get…”

“People tend to focus much, much more on return than risk. Return is easy to measure. Risk is hard to measure, even after the fact.”

“I, I do think there's a, you know, the high level lesson that Warren wanted to impart was basically right, which is, it's just really, really hard to beat the market.”

“Optimal decision-making units are four to six people. I cannot tell you the research of why that's the case. I just know it is. So you think about your investment committee should not be 12 people. It probably shouldn't be two investment people either. Four to six people.”

“If the leader of the group comes in and says, I'm kind of leaning towards buying this. I'm kind of leaning towards investing in this manager. What do you think? You've just lost the idea of independence.”

“because the type of capital that an endowment runs or a foundation runs is similar compared to a pension fund or compared to a wealth advisor, they do tend to have a similar way of looking at the world. Because of the nature of the capital.”

“These are the tools of really a five tool player, like CIOs of big pools of capital have to be able to do a little bit of everything. And these are fundamental disciplines that they're just not taught in the CFA. They're not taught in the investment business.”

“Maybe the very first interview, you're just gathering facts, trying to figure out, is this a fit structurally for what we're trying to do? Somewhere down the road, you probably want to do a deep dive on their process. You might want to do a deep dive on individual investments. You definitely want to do an assessment of…”

“What you see often in manager, kind of, allocator interactions is that allocators want to be the smartest person in the room and prove themselves. And so they talk too much. You're not going to learn a whole lot about somebody else by talking. You're going to learn by listening.”

“The long term that we all aspire to be, long term investors, doesn't really exist unless every part of the capital through the governance structure to the individual making the decision is perfectly aligned, and unless you're Dave Swenson and a few other select people, it's just not the case. So the long term for most…”

“You're probably better off being balanced between the two. Because if you get too far ahead of your skis and you're wrong, if you're right in the long term but you don't survive to the long term, I think as Andy Golden said on one of the shows, finish first, you first have to finish.”

“if you ask a compound question, the person on the other end will, 90% of the time, only answer the second part of the question.”

“The question is like, what does good governance mean? And I think that's pretty simple to say, a little bit harder to pull off. So the first is just clearly defined roles and responsibilities. Everybody knows if you're on the committee, you're responsible for policy, you are not responsible for manager selection.”

“where technological advance comes into play has more to do with the efficiency of information and risk than in making investment decisions. And the reason for that is fairly simple, which is that As you get a few layers away from the underlying asset, you have less and less data to go off of.”

“What's been interesting is that portfolio construction is actually more of a science than an art. Some of the inputs may be more art, so think about risk reward, think about upside, downside, some of the things that would go into inputs of portfolio construction decisions, conviction levels, things like that. Once…”

“interviewing Ben Ryder, who wrote the book Astro Ball, twice now, but the first time before the Astros blew up, it was like startling to me that what he was describing was the movement into quantitative finance, and that baseball was ahead of investing, and that baseball had gone full on to quantitative moneyball…”

“If you don't have the people right, everything else doesn't matter at all. In fact, in some cases can be worse for you.”

“And by the time people understand it enough to commoditize it, most of the time that alternative beta is not an equity like expected return. It's something less.”

“most of the people in those seats pursuing these strategies all will tell you that there are only a few dozen pools of capital that are properly structured to pursue these and succeed. It requires an army of people, a small army of people, a small army of talented people. It requires a governance board that fully…”

“There is reflexivity in hedge fund organizations from investment returns. So if a hedge fund is not performing well, they could lose good people to other organizations, which makes it more difficult for them to perform well in the future.”

“the more concentrated an economy is into a certain sector, The less diversification you get by investing your personal assets in that sector as well.”

“So when the, the bet started short-term rates were maybe, I don't remember what it was, but four percent, and today they're close to zero, and that is a four percent Maybe three percent annual difference in performance just because of the short rebate on, on the, the way long short funds are constructed. And so that's…”

“And so you can read about behavioral finance as an example, but you'll still make all the same mistakes everybody else made. You just have to Figure out how to get a little bit better because your brain is wired in a certain way and you're going to make similar mistakes. You may be more cognizant of what those mistakes…”

“Because we know from research that as soon as I tell you my opinion, I am coloring and biasing your opinion of the same issue. And so the leader who starts by expressing their opinion has just lost the ability to get the diversity of opinions of the other people in the room.”

“Ultimately, it comes down to listening. I think that when you're in a dynamic, when someone enters a room to be presenting Their heart and soul, their business, their strategy. They do have a tendency to just tell their story. Press play and tell their story. And don't always get a good sense of what is the person…”

“The discipline of listening, I have come both through the podcast and through experience to realize there is sort of a body of knowledge, just like, you know, if you take algebra, you need to learn certain principles to understand how to do algebra. Listening is the same way, and I've heard or spoken to people involved…”

“Now that I've shifted back to also being involved in investing, I was shocked at how much better I am now at interviewing investment managers because of the podcast experience as opposed to the other way around.”

“What I found is the more stuck I get into questions that I want to ask, the less I'm able to effectively listen.”

“I don't know that business school really trains you for it either. It tends to be an apprenticeship business”

“money makes people more so. So the notion is, if you're a greedy person, and you have more money, you're going to be more greedy. If you are a kind person, and you have more money, you are going to express kindness in even better ways.”

“The problem is if that were the case and that were the only way to get into business and have a successful business, you'd probably only have 20 or 30 Investment funds in the world, because very few people have the alignment of, they have the capital, they have the governance structure, and the patience and duration to…”

“If you want to go invest in the Two, three, five, ten billion dollar hedge fund today and be the next marginal investor, you're always a price taker. But when you invest early on, you have the opportunity to be a price maker.”

“So in a broad range, I would say that it's probably 15 to 25% of the top line that a seeder takes in exchange for providing that initial capital.”

“what you see is that fewer and fewer funds each year are able to get traction and grow. And the ones that do have everything right. So they have the right pedigree. They might have the right tracker. They might have the right initial investors. They might have the right strategy, which doesn't mean it's their…”

“At the same time, the required rate of return that many institutions have for their hedge fund portfolio has just gone down and down and down and down and down. So that the large pension fund who is using hedge funds, not as an asset class, so they're not taking money and allocating it. They're just putting it on top…”

“The other challenge is a little bit more subtle, which is managing a short-only portfolio has a real rebalancing issue. And if you just think about the fall of 2008 and early 2009, dedicated short sellers that might have been typically run, call it 80 or 90% short, you go into the fall of oh eight, and as they're…”

“The esoteric strategy probably falls short because usually it's capacity constrained, and therefore you can't scale a business out of it.”

“The difference today with 20 or 30 years ago is the opportunity cost is much, much higher. So that, that talented person that might be able to get 20 or fifty million dollars and therefore get three or four or 500,000 dollars of management fee income can get a job that pays that or Presumably much more than existing…”

“The two key differences are the level of market exposure, where the S&P 500, every dollar you put to work is a dollar exposed to the market. In this group of hedge funds, and most hedge funds, let's just say for simplicity, it's about half of the exposure to the market. So your longs from stocks, your shorts from…”

“If you don't have that allocator's edge, and you don't think you should have it, you probably shouldn't play the game.”

“And the ability to, to communicate with a committee and say, these are our targets. We want to shift it. Let's shift it this way and keep people on board was so powerful. I think that was as big of a component as just that particular asset allocation strategy.”

“If you can make the case credibly that you don't have to sell someone's business, you become a more favorable buyer. So if someone has bought, I'm sorry, built their own company over the years, and they're nearing retirement age, and they want to sell their baby, they don't, they may not want to sell it to a private…”

“Capital allocators is very tied to the institutional investing community, mostly allocators and managers, and I hear a lot that allocators don't go into a meeting with a manager without having checked Has there been an interview? Because it just speeds up the process. You can have a full hour of somebody asking…”

“It started with Apollo buying Athene, and more and more you see the insurance liability base matches really well with credit with some incremental yield, and it's an extremely low cost of capital for the managers.”

“A fork in the road typically comes after around five years for a public market strategy, and it fund two or three for a private market firm, with the decision to stick with what worked or grow.”

“just by being there earlier than everybody else, there was a material advantage in being able to build relationships with great managers.”

“By providing a diversified portfolio as collateral, sponsors can access cheaper credit for their companies.”

“Which is the audience wants you to succeed. All of these people that could feel scary if you're not accustomed to public speaking, they're actually on your side. Nobody wants to see a complete train wreck or somebody fumbles all over themselves.”

“About five percent of my brain is thinking about making sure that I'm spacing out my words so that I don't say, um, like, uh, uh, while I'm not doing that. And if you practice it, it's not that anyone will be perfect, but practicing it and saying, okay, I'm not fully present with you because I have to spend time in…”

“the core of how David approached kind of the investment problem, which is pervasive, is he developed a certain set of beliefs about investing. And then he was incredibly good at communicating those beliefs to his constituents, which is his board, his team, and then being very creative about what strategy he was going…”

“You do see people, as they generate a lot of wealth, often get a little bit more conservative. So most people that have substantial amounts of wealth that wasn't inherited made it by taking significant risk. And once they make it, they don't necessarily continue to take significant risks with it.”

“he sits in a seat where he has a big pile of cash, and he's looking to find attractive businesses to buy, so he has, for decades now, reiterated a message of the types of businesses he wants to buy for people, so that He can get sort of inbound inquiries. And so for his particular style of investing, that's what's been…”

“in those first couple of meetings, you might have roughly the same meeting with different subsets of people on the other team. And so as the person on the other side of the table, you're looking for consistency of the message. You're looking for the way people interact with each other to try to sense, is this a highly…”

“What I might have done differently would be to introduce The dynamic that this might be a difficult conversation. This is sort of unexpected. ... Unexpected, difficult, with no judgment about you personally, or your business, or just try to get them on the same side of the table. Say, I need your help understanding…”

“I think operations are similar to going to the dentist. In that when you go to the dentist's office, you have expectations. And the very best a dentist will ever do is meet your expectations. But if they, you know, if the dental hygienist tweaks your gum or something like that, you know, people hate their dentist…”