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Capital Decanted
S2 | Episode 1: Long-termism: The Greatest Asset in Asset Management with Sarah Williamson and Geoff Rubin
01:47:55
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- [00:00]
John Bowman
Foreign welcome to Capital Decanted. In this show, we say goodbye to tired market takes and superficial sound bites because here, instead of skimming the surface, we dive into the heart of capital allocation, striking the perfect balance and exposing the subtleties that reveal the topic's true essence. Prepare to have your perspectives challenged as we open up the issues that resonate with the hearts and minds of those shaping capital allocations. We've enlisted the wisdom of visionary leaders in the industry, and just like a meticulously crafted wine, we'll allow their insights to breathe, unfurling their hidden depths and transforming our understanding. This is season two, Episode one of Capital Long Termism. I'm John Bowman. And I'm Kristy Townsend and we are your hosts. A huge thank you to our returning title sponsor, Alternatives by Franklin Templeton. We're so grateful that they are back to partner with us in this second season. With over 40 years of alt investing and over 260 billion of assets under management, their specialist investment managers have expertise across six different asset classes. Real estate, private equity, private credit, hedge strategies, venture capital, and digital assets. And of course, all of them operate with the client first mentality that has always defined Franklin Templeton to help prioritize investment outcomes. So thanks so much Alternatives by Franklin Templeton and stay tuned to hear more from them at halftime. Well, Christie, we are back. We are so jazzed to be sitting here in studio with all of you decanters. We've got stuff to say. Thank you for an amazing first season. The engagement and feedback I know I speak for both of us just blew away our expectations. Over 15,000 listens. That's an average on my elementary school math of 1000 downloads per each of our 14 episodes. Which puts us in pretty impressive company as we've benchmarked ourselves, particularly in the first season of a show. So just know how grateful and flattered we are for each of you for taking this journey with us and being patient with us as we got a bit better and figured out this whole podcast medium. For you Northern Hemisphere listeners like Christy and I, I hope you had a wonderful session summer break. And for our Southern Hemisphere folks, I hope the winter treated you well. For us, it was a productive time. We certainly reflected, we reevaluated, we tweaked a bit of the show and I'll mention that briefly. But before we get to that, most importantly, Christy, we welcomed our newest member of the Capital Decanted production team in late June. Tell us and introduce us to Isaac Townsend.
- [02:44]
Kristy Townsend
Isaac, to say I had a baby between seasons his name is Isaac. He's very sweet, very sweet little baby. He's actually downstairs right now, so if y'all hear him in the background, hopefully we'll be able to clear that up post production. But yeah, he's what, 11, 12 weeks now and already has his little Kaya onesie, so definitely a Future Alternatives investor.
- [03:02]
John Bowman
There you go. And a dedicated capital decanted listener. It was very nice and kind and respectful of him to schedule his birth between seasons, so we're grateful for that. I made mention of this in the teaser if anybody saw it on social, but season two will be 10 episodes, dropping approximately one per month. That's slightly less frequent and here's why. Here was our takeaway. The amount of research that these take Christy and I, to ensure we're meeting your standards and really distinguishing ourselves from the cacophony of noise out there in podcast land, we think demands we slow down a bit. We really want to make sure this is a show that's worth your time. It is long, it is a commitment, and we want it to be enjoyable and helpful. So we've confirmed over half of that programming so far. Five, six episodes. And we're working on the other episodes now. Let us know there's still time. What you want us to talk about? We, of course, as we said before, want this to be your show as much as ours. Anything to add to those? Thanks, Christie. Before we kind of transition to episode one in season two.
- [04:01]
Kristy Townsend
No, just thank you to everybody out there who continues to support us as we build this out and to our now fearless leader, John, who has taken over our organization going forward. So definitely be giving us some interesting insights from that perspective as well. We're super excited.
- [04:15]
John Bowman
Well, thank you, Christy. I appreciate that. Really excited, overwhelmed and anxious all at the same time, which hopefully is a good thing. So we'll need the help of all of you listening and our global membership to support me. Okay, Transitioning, long term investing, long termism, we're going to use that interchangeably here. This is loaded language. In fact, it's so overused that sometimes I think it's almost invisible marketing language, similar to how our industry uses holistic portfolio approach or innovative investing methodology. We beat these descriptors to death and as a result, result, the intellectual synapses, at least speaking from ourselves, sometimes begin to shut down and the meaning just completely evaporates. So we often don't even hear this stuff half the time anymore. But if it does connect, a range of visceral emotions typically fire and engage when you Discuss and talk about long term investing. On the one hand, this phrase is somewhat akin to motherhood and apple pie. Virtuous, pure, idyllic. So we all know in our core that patient multi cycle investing will yield better client outcomes for a whole host of reasons. I think very few would argue with that philosophically, and we'll unpack some of those reasons in a few minutes. But yet there's another emotion that often accompanies that purity, which is oddly, cynicism. Because almost everyone claims to be a long term investor, and we would argue almost no one is. The apparatus and systems in which we work, governance, investment, policy, benchmarks, asset allocation haunts us. And in fact, even our inner head speaks to us and whispers to us. And especially in times of market stress and trauma, our knees tend to buckle. And even the most experienced and disciplined investors succumb to much of this pressure that's both a function of the whole ecosystem and our own organizations and of course, our psychological bent. And that's why we wanted to devote an episode to what we call the most important asset in asset management, the Trojan horse, standing in plain sight. Or maybe a better metaphor would be a translucent Trojan horse with the Greek soldiers waving to the crowd. Long termism is the most un secret secret sauce or comparative advantage that should be wielded and exploited and parlayed into superior investment outcomes. So when you think of all the inherent advantages or endowments that investors, particularly institutional asset owners, claim, you might hear things like healthy governance, or operational independence, or superior talent and expertise, or access to great strategies, robust and organized data sources, technological superiority, proximity to great investment managers. The list could go on and on. And all of these things are really beneficial, and all of them indeed can provide competitive edge or innovation and perhaps even outsized returns. But I would suggest to you that the underlying foundation to maximize all of these other endowments is a long term time horizon. So sometimes I think as you compare virtues, it's really challenging because all of them are good had you actually put a relative ranking on them. And sometimes it can be helpful to test the significance of each of them by the deterioration or sacrifice if you were to lose that said advantage. So just as we say, for example, that pride is the root of all sins, short termism, I would argue, is a rapidly destructive virus that breaks down the best intentions for healthy governance. It can dilute the intellectual capability of your investment professionals very quickly, it can almost take over your mind, and it can counteract the value of what the data is telling you, even with the access to the very best and accurate data sources. So long termism can either be an unmatched corroding force if it is co opted into short termism, or it's a superpower that can be transcendent to your capital pool success. So these are bold introductory, perhaps hyperbolic statements, but after all, this is episode one after a long break. I told you I had things to say. So we need a little sensationalism in the premiere to get your attention and get you started. I hope if you're on the treadmill you just sped up a little bit. But at a minimum, our objective, whether you end up agreeing with that strong open that I just talked through, the objective of this episode is at least to convince you of the power of a long term investing mindset, equip you to recognize and thwart the seductive siren song of short termism at the most inopportune times. So here is the navigational map of where we're going to go for this episode. I want to spend some time on just two things. First, I want to define long term investing. As I mentioned, this is really important. We throw this a language around and often don't stop to think what we actually mean. So there's a precision assignment with our language and our words and the way we describe this that I just want to talk us through. And then second, I want to list, as I mentioned, the merits of a long term investing system. And I choose the word system specifically because I think true long term investing requires both organizational structures, policies, procedures and an alignment of the heads and hearts of the team, which is more about culture and mindset. Both of those need to work together. And then Christy's going to grab the mic, at least figuratively. We're not in the same place, so she won't actually be taking my mic, she has her own. And through a set of vignettes, personal experiences and examples, she's going to help us think through how challenging this long termism mindset is in today's memeified world of TikTok and Reddit and power money. An obsession with the Fed. We're taping this on the day the Fed is meant to announce and of course all the interwebs frustratingly get taken over by whether this is 25 or 50, which in two days does not matter. But there it goes. Christie's also going to examine some of the red flags you might use to diagnose whether you have symptoms or susceptibility to short term thinking and action. Maybe channel a little Letterman Christie. And then we'll be joined in studio finally by our guests to further enrich our understanding. And we're just delighted to have two experts on the subject that have, I guarantee you spent many years much more than Christie and I probably combined thinking about the virtue of long term investing. And those professionals are Sarah Williamson, the CEO of Focusing Capital on the Long Term, or SCLT Global, it's a think tank out of Boston, and Jeff Ruman, senior managing director and one fund strategist at CPP Investments up in Toronto. And we will hold some of our possible solutions. This is the cliffhanger for the last sip to counteract our human nature. We'll do a bit of a blueprint on how to go about protecting against short termism in the last segment. So sounds like quite the plan. I hope you're buckled up and ready and we will get started now. So Christie, I want to turn to you first as we move towards definition work here. How do you think, in both your experience and in all your communities and networks and conversations, how do you think most asset managers or even owners would define long term investing? What would they say typically?
- [11:03]
Kristy Townsend
So this is so hard for me because when done right, your long term view should match whatever your organization is. So if that's an endowment of a university, it's perpetual. If you are a pensioner, it is the life of when you retire and you plan to actually draw on those assets. If it's a pool of capital for a building, it's going to be much more short term than that. So it's difficult for me to be like, oh, there's this one way to define it. But I will say I do think that there's usually a hurdle of this 10 to 20 year mark that a lot of people focus on as this long term aspect. And to me, I don't think that that's correct, particularly if you are actively and properly are using best practices to manage this pool of capital and to really think about how you invest it. I know that's a long winded way of saying it depends, but I've noticed that when done well, you're going to match that to your needs. But typically what happens is we center around performance and it ends up being this 10 to 20 year mark. I've never seen a 50 year return mark on a performance report. For what it's worth, I give you.
- [12:00]
John Bowman
An A plus on that answer. I think that's exactly what I would say if I were asked that question about what I hear, what I would predict the consensus answers are. I think I would Say something like it depends or they'd give a number. I think 10 to 20, by the way, is probably charitable, but I think that's fair. And I think your articulation of that answer is part of the reason for the aforementioned buckling when the storm comes is that I'm not sure we all really know what we're talking about. As I said at the beginning, we all have different definitions. It depends. So I want to say it this way as I talk us through and help us think through the correct definition here, if that's fair. I don't think long term investing is just what you might call the right environment or a set of conditions. So let me explain what I mean by that. So for example, the fact that your liabilities, and this was the type of pool that you alluded to, so the fact that your liabilities are spread out over the long term or minimal and therefore that your liquidity needs at any given time are low, does not necessarily make you long term. It's a helpful condition, but it doesn't assure it. Similarly, if your ips, your investment policy statement, allows for significant locked up, long dated or private capital, that in itself doesn't make you long term. If your board or investment committee claims to give you or actually gives you proper autonomy or independence and you should be thanking your board for that, that in itself doesn't make you long term. I'd also say it's not your allocation. A lot of people will say and confuse the type of assets they own with their mindset or philosophy. So if you have significant private capital locked up, long dated assets, that could certainly be a symptom, probably is a residual that showcases that you are long term in nature. But it's not long term investing per se. So structures can reinforce, but they aren't the defining factor. And then I mentioned Christie's number, which I think a lot of us will parrot. I don't think it's just a proclaimed explicit period that defines the life of your investments. So saying your time horizon for evaluating pro forma investments and measurements is across a full cycle. So 8 to 15 or 10 to 20 versus the 1 to 3 that typically I think defines this industry. That in itself just doesn't make you long term either. So conditions and allocation and time horizon are all important prerequisites for sowing the soil, you might say, allowing long term investing to flourish. But they aren't long term investing themselves. Long term investing itself is what I would argue, remember my choice of the word system. It's when behavior and discipline are aligned So I read a ton of stuff on long termism and most definitions were a bit reductionist variations of what I just listed. But here's the definition that I found that I think was best. It's from a 2017 article from the head of private equity of WTW, the big consultant gentleman by the name of Liang Yin. And he opens the piece by posturing that for any prospective investment opportunity, there are typically two questions that are of most interest to that analyst or portfolio manager. Number one, will this opportunity lead to a positive payoff in the future? Pretty simple. And two, assuming the answer to that first question is yes, when will this positive payoff occur? So again, those two are will this opportunity lead to a positive payoff and if so, when will it occur? Yin then follows importantly with quote for me, the defining characteristic of any long horizon investor is that the decision to invest is based on a high conviction of a positive answer to the first question and has little to do with the answer to the second. So the thesis is in the undervalued nature of the future cash flows and the underlying intrinsic value of the asset. That's where the conviction lies. The long term investor operates under the assumption that prices and values will converge eventually. But predicting the timing of that conversion is extremely difficult and the long term investor is willing to stick it out. We all know that the public markets are far from efficient. We've talked about it on this show at length. Mr. Market is what we've typically called an emotionally unstable patient that in the short term overreacts and ebbs and flows. So to Yin's argument, allowing breathing room for these high conviction investment calls to play out amidst the noise and whim is what truly defines long termism. And he goes on here, as a result, the key competitive edge of long horizon investors involves their skill and their mindset. Long horizon investors can participate in opportunities with uncertain timing regarding their future payoff as long as they have high conviction on the investment proposition itself. Long horizon investing, this is an important disclaimer, is by no means a rigid buy and hold approach. He warns that the length of the holding period is driven by the speed at which price and value converge. It's not predetermined, it's not an arbitrary number. And by the way, the World Economic Forum, I thought, which got a nice silver medal on definitions, in my view, said something similar. They said, quote, investing with the expectation of holding an asset for an indefinite period of time by an investor with the capability to do so. That last phrase is key. Again, thinking About Yin's definition, the capability to hold for a long period of time. The whole point is not the time period explicitly, but it's the fact that the investor is liberated from arbitrary time periods and unhelpful pressure that usually put us on our heels. So, circling back to my conditions and prerequisites, again, I want to stress the ability to be patient on the payoff is heavily dependent on the governance structure and their posture. Your ips, your liquidity needs, your culture and your rhythms and Jeff and Sarah, I'm certain, are going to help us think constructively through this. But I think this definition gets to the heart of the issue. Those are enabling forces. But long term investing is about the patience to wait for price and value to converge. So thoughts on that definition, Kristie? Is that a fair framing rubric for the rest of our discussion?
- [17:55]
Kristy Townsend
I think it's great actually. No notes.
- [17:58]
John Bowman
Wow.
- [17:58]
Kristy Townsend
I've been sitting here listening and shaking my head at this point. I think it's a great way to frame it. I like that.
- [18:04]
John Bowman
Wow, you are so much more agreeable after Isaac. I'm shocked. Nothing to add, nothing to slightly edit. All right, well, we'll get back to you. I expect the spicy Christie to come out a little bit later.
- [18:15]
Kristy Townsend
I was about to say I'm trying to hold back the spice for a little bit.
- [18:19]
John Bowman
Okay, well, we will wait for that. So we've got our working definition in mind. Let's talk a little bit about my second piece of my segment, the benefits of this philosophy of true long term investing. Let me first just say that long termism is a core tenet or pillar of many large and small investors writ large. I mean, this is to my point on marketing invisible language. This is why we wanted to do this episode as it's unclear whether in most of these cases is it lip service or is it true patience? Again, channeling our definition of waiting for price and value convergence. I suspect that nearly every organization makes claims towards a long term focus somehow, and we're simply trying to draw some distinction between intention, perhaps even good intention, and action. So one of the very best pieces I've ever read on long term investing was written by Bradley Jones, who was at the IMF at the time that he wrote this. He's now with the Reserve bank of Australia. The piece was called Institutionalizing Countercyclical Investment A Framework for Long Term Asset Owners and for the more loyal or perhaps crazy of you decanters that listen to several episodes he appeared. I think it was episode three on our governance topic last season. But Joan touches on this contradiction of intent and reality. He says, quote, the ability to invest long term is often considered an advantage ex ante, but asset owners often do not have an effective set of processes in place to help them realize this aim in real time. And he quotes a recent survey from, you might call him the Yoda of pension governance Keith Ambek Shear that concluded that asset owners believe conceptually and aspirationally that long horizon investing is a valuable activity for, by the way, both society and their own fund. However, he says there is a significant gap between aspiration and reality to be bridged. So just a few examples of some of the more authentic, at least I think and well articulated claims of long termism and see if you can pick up on some of the traces of our definition that thread through these definitions. So perhaps the shining global star of asset owners, New Zealand super lists four endowments or key investment advantages, I.e. that set them apart from other organizations operational independence, sovereign status, governance and Long term Horizon. Their website states as a long term investor we can exercise more control over the fund's capital than investors with shorter term horizons. We have the luxury of being able to pick our investment horizon and are less likely to need to sell assets in response to short term falls in market value. Future Fund lists their principal comparative advantages as our reputation, our access to high caliber external managers, our focus on total portfolio outcomes. By the way, yet another commercial for last season's episode on total portfolio approach with CIO of Future Fund Ben Samele. Check that one out. They also list our single client purpose and the fact that we are long term investors as it quotes allows us to look through short term volatility and be patient taking positions. Emphasis will be mine we expect will pay off over the long term. Calpers largest public pension plan in the us. This long term time horizon is part of their investment beliefs as it allows them to take advantage of asset classes and trends that materialize more slowly. Longtermism is probably most crisply articulated in CPP investments. So again there was no surprise given their investment beliefs or accident that we invited Jeff on for this episode. They've probably got the most thorough definition of why they think this is an advantage. They say quote on the CPP site Long term investing can provide opportunities for greater rewards, greater certainty of assets and predictability of cash flows. Allow truly long term investors such as CPP to resist the pressures of short term market events, persist with soundly conceived strategies and await the reward. Boards of Patient Investing and even Kaya association has a section in our investment beliefs entitled long termism that states that investors are unable to consistently time the capital markets and therefore should take on a patient long term multi cycle horizon that centers on specific client outcomes and liabilities. So I think in all these examples, and you could go on, you certainly can, I think sniff traces and breadcrumbs that rhyme with our definition here. The poise and endurance to wait for your conviction to come to fruition. So why are they committed to this? Because I think most of those were authentic variations versus intent. What are the advantages of truly waiting out price and value convergence. And I want to submit you six reasons why long term investing leads to more optimal investment outcomes. Okay, so number one and we'll move through these fairly quickly with one exception and I'll explain why. So number one opens up the investment opportunity set allowing you to pursue broader risk premia exposure. So Kaya just for example started over 20 years ago to at the time help equip professionals to understand the hinterlands and the frontier nature of alternatives, which were mostly hedge funds at the time. But let's be honest, in 2024 alternatives are mainstream. We spent a lot of time on this show discussing the structural trend towards staying private longer or forever. And the reality today is that much of the global economy is only accessed through long term investment structures that don't mark to market every day and don't offer moment by moment liquidity. So accessing any part of the capital structure, equity or debt of the large majority of the world's companies must come by definition through private investment structures. Real assets just to move on from companies like real estate infrastructure, natural resources are also often and perhaps best accessed in the private markets. Creative unconstrained public equity strategies against hedge funds that offer lower correlation with the market, perhaps even countercyclical cash flows. They're often packaged in long term locked up facilities. So you simply can't construct a very diversified global portfolio if there is an expectation of return outcomes against a market benchmark every quarter or year. As the opportunity set will be capped at these shorter term highly liquid options, these private assets should be closed off. They should be off limits to short term horizon investors. So long term investing widens the aperture to a much larger menu of investing options. That's number one. Second, it allows you to exploit countercyclical or dislocated markets in times of market stress. So Andrew Ang, some say the father of factor investing and now head of factor investing at BlackRock, once said, quote, pro cyclical return chasing has been labeled as the premier vice of investors. I love that language. So our human nature, our muscle memory, our psychological wiring are towards a herd mentality. That is just the reality of how our DNA works. And back to Bradley Jones. He has something to say about that. He found that based upon an analysis of representative portfolios, it was 24 trillion US across a range of asset owners, central banks, pension funds, insurers, endowments, et cetera, portfolio changes. He went back and looked at trades and reallocation of their capital pool. They typically appear pro cyclical. So Ang's vice of pro cyclical behavior seemed to show up in Jones's data as well. So we tend to resort to myopic thinking and you could say become the worst of ourselves at the very worst times. I think we all know this. The ability to fight against the grain appear unconventional in the face of overwhelming pressure from irrational markets. Your own inner voices and your investment committee or board is extremely difficult. But it can pay off handsomely. This is not just about grandiose market time he calls, but rather freedom and liberation to pursue the other side of the trade for undervalued assets. When most investors are succumbing to this disorienting pressure of various kinds, you're running into the burning building when everyone else, as is said, is running out. That was two countercyclical investing, number three. And this is the one I want to camp out just a little bit longer. Forgive me. Number three, Long term investing allows you to pursue creative partnerships to optimize capital allocation and minimize costs. I think, as I've just hinted, this is the most interesting of all, so bear with me. True long term investing. Let's just examine this a little bit. It allows you to expand the typical binary decision of investment management that most CIOs face, which is effectively for said asset class or said strategy. Should I insource this or outsource this? Is it the typical Canadian model or university endowment model. And long term investing allows a smorgasbord of options in between. And by the way, smorgasbord was on my mind. Kristie, have you ever played catchphrase? That hot potato word game? Last night I got smoked by my kids and my wife. My wife gets something like coffee and I get smorgasbord. How do you even give a hint about smorgasbord? But it did benefit me. I'm using it in this episode. So long term investing allows for a smorgasbord of options in between. Simply insource and outsource. And these can take the form of joint ventures between asset owners, permanent capital investments from asset owners into asset managers, establishment of wholly owned GPs by asset owners, and of course a proliferation of direct and co investments in funds or even individual assets. I believe I mentioned this book in prior episodes, but Ashby Monk's Reframing Finances, I think the authoritative piece on this and was somewhat prophetic frankly when he and his co authors wrote it in 2017. He called this model of creative partnerships the collaborative model, which is actually explicit language that CalSTRS picked up and adopted into their strategic plan and several subsequent investments in JVS that they've publicly announced. But really all this means is a wide spectrum of partnerships that take more ownership and responsibility. These can be alliances, syndicates, platforms. Ashby calls it the great re intermediating of the investment value chain that allows you to avoid toll collecting layers of the workflow, all these intermediaries. It can alleviate frictions in the process, it can rebalance the power and fee asymmetry, and it allows you to access hard to find sources of enterprise value creation and alpha generation that maybe the typical manager menu does not. We could spend a whole episode on this and by the way, we're actually considering one on what I would call the modern asset owner. But in the meantime I just want to give you a few examples to bring this to life. These to me again are just intellectually fascinating. These are pulled from news sources. Ashby's book, as I mentioned, Another great read by the way, where a couple of these were sparked is Patient Capital by Josh Lerner and Victoria Iveschina. These are two Harvard experts you probably recognize in private capital. But a few examples so Molly Murphy, one of the most innovative investors in the country and CIO of Orange County's pension system, seeded a brand new VC platform, Collective Global, alongside of Rail Pen and San Jose's retirement system. TIA Creft made a minority investment in an agricultural investment firm named Westchester because they wanted to gain access to idiosyncratic talent and relationships in a very niche and complicated asset class, agriculture Real land and eventually parlayed that investment into a standalone LLC and brought in co investors from BCI, Swedish pension fund AP2 and CDPQ from Montreal CPP Investments. Again a guest that's coming up struck a joint venture with an Indian conglomerate to facilitate direct commercial real estate investment in major metro areas across the Indian country. In 2012 due to the limited infrastructure funds available to them and the difficulty in massive direct investment program facilitation, Pension Denmark seated Copenhagen Infrastructure Partners which consisted of some of the very best infrastructure investors they were previously from a GP called Dong Energy. However when they set this up there was much more favorable fees and shared upside and control for Pension Denmark. So again, just a few examples and this type of ingenuity to the structural arrangement of asset management is really the future in my opinion. These are very different than simply hiring and firing gps in a typical endowment model. And as you might imagine this concrete it cures and it hardens in these types of partnerships. So this is very challenging to reverse. You need to be committed for the long run and this is not for everybody for the faint hearted or the short term among you, but I think it's very very interesting. So just finishing off. As I said I wanted to spend a few more minutes there but number four Long termism Mitigates Agency risk and Misaligned Objectives let's be honest, the investment management value chain is rife with layers and players, actors and influencers at the top of the food chain with the ultimate fiduciary responsibility is that asset owner. And that can be an individual investor, high net worth investor, or it can be an institutional pool of capital managed on behalf of designated beneficiaries. But then participating in that activity set are asset managers, consultants, placement agents, service providers. All of these supporting facilities can be valuable and even cost beneficial through economies of scale. But the ultimate objective and incentives we have to realize are simply different than the asset owner. And this is where agency conflicts and misalignment happen. Payoff structures, triggers and timeline of earnouts are almost always shorter and transactional in these other cases. This doesn't make them wrong or evil by any means, but we do need to realize that they are playing simply a different game and asset owners cannot be deluded to actively or passively assume. Their duty to clients is shared or delegated to these other intermediaries or even partners. Long termism allows the asset owner to both pursue alternative engines of asset management that some of the examples we just described in the last point, but even in a traditional manager selection process be much more discerning about partners whose strategy, incentives and values most align with with their fiduciary duty and the makeup of their organization. Fifth, long term ism influences better corporate governance. Kristi and I were having a little bit of a debate off air about just this, so I'll be curious as to her input. The ability to invest confidently in these longer dated privately held assets insulates the portfolio company executives, or a real estate management company, or a power plant operator or a port authority from the day to day machinations of the public market merry go round and the media gyrations. So rather than manage the perceptions of the public shareholders and the scrutiny around quarterly earnings estimates that as Josh Lerner says, quote, pressure management to often do the wrong thing, governance can focus on unlocking multi cycle enterprise value creation through revitalization plans, reallocation of resources, hiring of new talent, heavy R and D spending that of course in a public market might spook the investors. This takes a certain type of investor and firm that is collectively comfortable with less frequent information and lack of market feedback, long gestation periods. But in the end I'm convinced, as many are, that this is simply a more pure and superior form of governance. And then finally, Long termism Number six supports the real economy through productive patient capital Sarah, I'm sure will talk about this. She speaks eloquently about how long termism supports the real economy. But the ultimate purpose of capital markets is to facilitate the allocation of capital to, you might call the most financially and socially productive uses. And while many financial assets offer healthy synthetic participation in the underlying real economy, long term investors have the opportunity to take more direct ownership and influence over the actual building blocks of a healthily functioning society. Economic and social infrastructure such as power and water plants, hospitals, university facilities, roads, railways, airports, harbors. These are the operating system and backbone of both commerce, but more importantly human quality of life. And think of future opportunities that all of us talk about these days from stages and read on the media. Artificial intelligence, data center infrastructure, digitized logistics and supply systems, biotech, space exploration, clean alternative energy. These are systems that will need engagement, intellect and patience for financial payoff. So efficiently distributing both financial and human capital across the investment industry, it catalyzes innovation, it cultivates societal wealth, and it raises the integrity and quality of human flourishing. So you can call this the double bottom line or values investing, but the reality is is that multi generational commitment to these types of projects can both yield significant financial outcomes as well as social good. And that's just simply not available to short term traders or rent seekers in your traditional financial services environment. So those are my six virtues of long term investing. I am going to stop there Christie, and I can't wait to hear both your response and the Letterman channeling that you have prepared for.
- [34:35]
Kristy Townsend
I think that they're great, particularly as you were working your way through the six, I was thinking through some of the interesting ways I've seen longer term focused investors how this ends up translating into their portfolios. And one of the ones that came to mind weirdly was that so many public pensions actually have built the buildings in which they sit. So where their teams sit they have built that giant commercial real estate building and now they rent it out. And I did not realize how common that was until I started talking to pensions. So it's this ability to invest in long term real estate and it benefits your organization and it benefits your community and you make money off of it. So it's I don't want to call it a triple bottom line because I don't like the jargony part of it. But it is this interesting way in which a lot of institutions have thought about their long term use of capital. So beyond that we've stopped John's really thoughtful and prepared remarks and now we're going to turn to what I hope won't end up being middle aged investor shaking her fist at the sky kind of thing. But I do want to start with something fun John alluded to and that's either we can call it Letterman or Linoesque, but also Jeff Foxworthy did a similar thing of you might be a short termist if and some of the ones that I came up with and that John came up with include things like if your board is heavily involved in manager selection beyond introductions and or discussions, might be short term focused. If you're influenced by the other LPs in the fund, definitely a short term focus. If you give any deference whatsoever to your gut or to anybody else's gut, you're probably looking at a short term investing scenario. If your internal team meetings are based on quarterly returns or comparisons quarter to quarter, definitely a marker of short termism. If your compensation is Primarily based on 1, 3 or 5 year performance versus either a sector based benchmark or your peers within a universe, probably pretty short term focused. If your board meets frequently say monthly to quarterly primarily to talk about performance, definitely going to start focusing more in the short term and also building on that. If you call impromptu meetings on news, likely very short term focused. And then these last two are my favorites. If you've been holding a large cash position waiting for markets to correct, definitely short term focused. And if you obsess over financial news or have Fox Financial Markets or what's the other big one? Is it cnbc? CNBC in the background throughout the day as you're investing, definitely going to bring in your short term focus. And I say all of those things to say that I have been at organizations where some of these things have happened and obviously no organization is perfect. Obviously many of you who have been listening to us For a while. You know that I cut my teeth at Cambridge late 08, so I tend to be more of a purist when it comes to long termism because my teeth cutting time period early investing days was with these long dated institutions that had perpetual timelines that were multi generational family wealth that was building up to this certain kind of portfolio, which is amazing. But beyond that I also had a really amazing mentor who I worked with at an organization post business school who was incredibly gifted at blending the traditional long term mindset with the realities of market risk and trading and what's going on around you. So that's deeply influenced how I think and I don't think that that's made me less long termistic in terms of my thinking, but it does make me more mindful and aware of what is actually long term thinking and what is I'm taking a short term tactical bet that I need to be very mindful of and very deliberate of, if you will. So to John's point, we all definitely talk a big game about our long view, but that translates into an actual investment program or an investment portfolio in many different ways, depending on if you're an endowment, if you're a pension, or even if it's your personal wealth or your 401k. So I think anytime somebody tries to tell you, oh, think for the long term, just recognize that that long term is going to be something that either as a leader of an organization you need to work to define with your constituents or that you as the asset owner need to define within yourself with any agents that you work with. So in this case I will continue season two sounding like a broken record and say that the absolute best things you can do to ensure a long term mindset are going to happen and the best processes you put in place are going to be put in before you invest a single dollar. So that's understanding the ultimate purposes of the assets and tying that need to the investment and spending goals of either your organization or you as an individual. It's creating the governance structure or the practices and processes in place to support that time horizon of the needed assets and the goals, and then building the investments around what assets you have to and what you can healthily do within that timeframe you're given, and then beyond that, having deep periodic technical conversations either with yourself for your own individual assets or with your organization or board at an organization about why each of those goals and processes and procedures are in place so that when they come up, so that when market headwinds come up or we have problems that it's much easier to follow those processes procedures and maintain that eye on the longer term goal because everybody remembers why those things are in place. An example of this that I'll touch on later is in rebalancing and how easy it is to put it in the ips, but how difficult it is to actually maintain that discipline in an October of 08 or in a March of 2020 situation. So I will say that this includes your due diligence process and just making sure that your due diligence evaluation includes investment philosophy and whether or not a manager's philosophy is actually long term and if it's not, if that actually fits into your longer term portfolio and then just making sure your incentives are aligned. Because I think that there's a lot of things, and again, I'll touch on this later, where we have compensation structures in place that are accepted and we've anchored to them and I don't necessarily think that they are the best alignment of incentives at times, but obviously that'll be my opinion and we'll go into that when we get there. Again, I think the most important thing you could do from a governance perspective, particularly within an organization, is to center your meetings around, not performance discussions, but around again, what are your goals as an organization, what are the objectives, what is the strategy you put in place and then the performance comes in and when you're evaluating whether or not your strategy is kind of jiving with your longer term goals. So it's not a oh my gosh, the portfolio performed this relative to this, it's the portfolio performed this relative to whatever benchmark was there. Does that mean we should have done X, Y, Z different? Is this something that we actually need to change or do we have a longer term vision as to why this asset is here? So we're going to continue to hold it and I think that that breeds a longer term discussion versus a jumping between managers or jumping between active and passive. And another thing I want to caveat with is I do want to note that in some cases we differentiated between long termism and long term investing. And I want to make sure that we do continue to try to break those things apart. Because there are a lot of times where a long term investment approach is not necessarily what you want. Say for example, if you're a retiree or if you have a liquidity pool, for example, that's going to be used short term or it's a drawdown fund. I mean obviously you are going to want to invest in more short term assets, but with the long term goal of investing in that building or investing in that capital asset, or making sure that you're retired, it's within the broader long term picture. So you can still again have short term assets within that broader long term picture and you can do it within the broader portfolio as well, as John mentioned earlier. So I think it's all in how you execute and it's making sure that you're matching your investment decision and your investment portfolio to the uses of the assets and then managing that nearer term risk. And it's not just short termism necessarily. So then think about portfolio construction. So revisiting investment philosophy and that there's three main levers that you can pull when you're developing a portfolio and that's obviously asset allocation, security selection and market timing. And pretty obviously and well known within that when you're developing your strategic asset allocation, it's typically going to be that main driver of your long term thinking. The asset allocation component is to be clear. But I will say that increasingly I've noticed investors are actually using security selection through practices like thematic investing to also express a long term view within their portfolio. And I don't think that that diminishes their street cred as long term investors. And I think another way that you can maintain that cred, even within a long termism perspective, is to think when you're thinking about tactically positioning your portfolio, that you're only doing it to take advantage of massive dislocations that you've already discussed. So while that might be market timing component, it's within a broader context of of risk that you have already discussed that you might take on should it present itself. So it's deep value. But from a market timing perspective, if you will, particularly as the world gets increasingly memeified and trades on news, I don't think you should have a long term view on stock memification or including that in your strategic portfolio. I will say that there's a lot of volatility that happens around these kind of weird events. And so just being mindful of what is an actual market dislocation and what is yolo, what are they rocket ship to the moon style investing and just have a real understanding of which is which and where you're taking risk in that regard. So beyond that I will say some things that I know investors grapple with because I grappled with, and this is me more shaking my fist at the sky as I alluded to before, is that it is really important to remember that investing is an active endeavor and you should be revisiting all of the components of your portfolio regularly. I think this idea of setting it and forgetting it is good in the sense of not checking it every day and not basing it on news and not treating it like a gamified pool of assets, if you will, I think is important. But also revisiting your rationale, revisiting your strategic asset allocation periodically revisiting the whys of why you're doing things, I think is incredibly important to maintain that focus on long term. And I think all too often as we sit in meetings with boards, I think the easiest common denominator to go to as John, I know you mentioned this and I know I've heard it from other people, is that performance element. So at the very least, if you're going to talk about performance, you're just going to want to really focus on as long a term a picture as you can. Get everyone focused on and tying it back to your goals so that again, you don't get focused in this weird political. I'm having to structure my portfolio and move it around based off of again, the whims of somebody's gut or the concerns that everything's overvalued, et cetera. So I think that that's a big one. And then also the idea of rebalancing versus what is a sea change, and I can't necessarily answer that for an investor, that's something that you're going to have to, I don't want to say do your own research for, because that's such a meme now, but that's something that you're really going to have to understand within you. So I think about, for example, I was in an organization managing capital during March of 2020, and there are literally times where it feels like you're catching a falling knife and you're like, wow, this is a lot of career risk that I'm taking on if I'm wrong. But at the same time, our deep value managers, Amazon, was hitting their value screens. And at that point I'm like, there's no way in a world at that point we didn't know, but we're going to be sitting at home for a long period of time that Amazon is going to be a devalue company. So it's really understanding the rationale for rebalancing and remembering that if you have built this really great strategic asset allocation and you have good managers and you've done the proper due diligence, that rebalancing should really be a no brainer within that. So it should be something that should be discussed. The magnitude of it maybe, or getting everybody comfortable with the plan that was originally put in place. But ultimately you're going to do it because you know that your program is properly structured for this long term view. And within that rebalancing is a major component. Another big one, like I said, is compensation. I think it's funny that we've all anchored to 2 and 20 plus expenses. I'm not going to touch too much on that because I know that it can be a sensitive topic, but it is understanding that sometimes we have anchored to these specific compensation things and just actually recognizing that that may not align with your institution or it may just be a conversation that you have with either the GP or the LP to say, hey, let's have a discussion about this. And there have been organizations lately who have built completely new compensation structures that better align the incentives of both parties. Just by looking at, we have tethered or anchored again to this one model when there's no reason for that. And speaking of anchoring to models that aren't necessarily ingrained in the world or that ones that we should think about different. Actually, I want to start by saying, John, you wrote, and I think it was in our TPA paper that a fish doesn't know it's in water. And I think one of the biggest fish and water scenarios that I've often encountered investing is this idea of shareholder primacy or the idea that a business's sole function is to maximize profits for shareholders. I personally think that that is one of the largest markers of a short term investor. Again, that's my opinion in the sense that it's not this core tenet of capitalism. It doesn't have to be that way. It's literally emanates from a paper that Milton Friedman wrote in the 1970s and it was actually featured in the New York Times. We can link it in the show notes that you could go read for yourself. But that was where the whole idea of maximizing profits for shareholders came from. It was never embedded in capitalism. And while I have a tremendous amount of respect for Milton Friedman, he never ran a company, he said in AC which I think academia is very valuable to us. But this whole idea of a company should only be for its shareholders when taken to its ridiculous degree, you end up with a monopoly that pays nobody where only a few people at the top benefit. And I don't think that that's necessarily the society that we as asset owners or that we as investors necessarily wanted to build. So while I do think that rewarding shareholders for risk is incredibly important, I do not personally think that that is at the expense of everybody else. And beyond that, this is probably where I get my spiciest. One of the things that I struggled with in recent years is this idea of if you are a fiduciary on behalf of an organization and you're looking through your portfolio, are you also using that shareholder maximization or that profit maximization model and investing in ways that are maybe counterproductive to your ultimate constituent? And by that I mean if you are, I'm obviously not calling anybody out because I don't know real examples of this. But like for example, if you are an organization that helps people fund their retirement and you are investing in private equity groups that are aggregating senior citizens living and you're making them more expensive and less effective, then I have to wonder if ultimately, yes, you are making returns by reducing costs and aggregating up these portfolios. But I would argue that that doesn't necessarily help your constituent. I think another great example of this are organizations that are buying residential real estate. And there's a lot of them and there is a place for that in your portfolio. But if you're then mixing that with an organization where they're using data to basically help landlords collude in a way and raise rents by a lot in these markets, you have to ask yourself if ultimately you're trying to help people again fund their retirement, or if you're helping disadvantaged communities, are your investments really aligning with that? And I'm not saying that they have to or they don't. Obviously that's going to be a personal decision that you as a fiduciary make and then work with your board to express within the portfolio because ultimately it's about your mission and your constituents. But that is one thing that I personally have grappled with as an investor. And just making sure that that as shareholder primacy has so frequently degraded the whole concept of stakeholder alignment. Just making sure that within that I am choosing investments that truly do help the end user in any decision that I make. Obviously I would make in conjunction with the board. This is not esg, this is genuinely making sure that your assets align with your mission. So with that spicy comment, I will pause and get off my soapbox.
- [49:12]
John Bowman
Spicy. Christie is back. I love it. We have offended Freedmen lovers and CNBC watchers. This is how we roll. No, I think those were important things to say. And I appreciate it. I'm going to have some things to say on governance and due diligence, which you alluded to. Compensation which you alluded to. All of that is in our question list for Jeff and Sarah as well. And they are waiting in studio. So as much as I'd like to continue this conversation, Christie, I think we should bring those experts in. This is a perfect time to move to Jeff and Sarah. But first we're going to check in with Dave Donahue, head of US Wealth Management Alternatives over at Franklin Templeton on what he sees as the biggest trends going on in the industry and how they're responding. So stay tuned for this exciting and special halftime. Well, welcome back to the first halftime of season two and I'm just delighted to be joined by Dave Donahue, head of US Wealth Management Alternatives for Franklin Templeton. Dave, thanks so much for joining us.
- [50:13]
C
John, thanks for having us. Great to be back for season two and congrats to Kyle for all the great work you're doing. We're proud to be a part of this.
- [50:20]
John Bowman
Well, Franklin Templeton is a big friend. We are extremely grateful that you are a partner and a title sponsor of this great show. So thank you again and good to spend some time with you. As you know, Dave, in the first season we talked to senior leaders of each of your asset class areas within alternatives. And I thought what we should do on this first halftime of season two is open back up that app aperture a little bit and give you an opportunity to tell us a little bit about some of the structural trends and industry forces you guys are watching and what's changed in the last 12 months.
- [50:52]
C
It's a great question, John. I would frame it as the industry trends that have gone on for the last five to seven years continue to have tailwinds at their back. If anything, they are accelerating. And to me, the biggest industry trend is what I would refer to as a manufacturing revolution, the product innovation and the technology innovation that is allowing GPS and alternative asset managers to take asset classes that historically were delivered in illiquid 8, 10, 12 year lockup funds, funds that had a high level of accreditation on them, meaning it restricted the amount of people that could use them. Funds that had high minimums to invest. And what we're seeing is this massive evolution and adoption not just in the US but around the world of what we refer to as semi liquid or perpetual alternative and private market products. That to me is the biggest trend in the space right now. And those products are doing a handful of things. They are broadening access points. Often they have a lower accreditation standard for the type of client to invest. They are broadening not just from an accreditation standpoint, but from a minimums you have to invest, broadening people's ability to use them strategically as a part of portfolio construction. And then the other thing they are doing is they are giving investors the opportunity to do things you could not do in a illiquid lockup fund like dollar cost averaging the way in or subject to certain limits, redeem capital at set frequency points.
- [52:20]
John Bowman
Well, certainly we see the acceleration too and proliferation of that manufacturing process around the world as well and are responding as you know and have done some work with Franklin Templeton. So maybe turning that question of okay, we agree with that acceleration. Back to you Dave, as you sit back at Franklin Templeton and watch this flywheel keep spinning faster and faster and access and interest voraciously continuing to multiply. How are you guys responding from both an education and a product standpoint to this explosion in interest?
- [52:51]
C
I want to start with education because from our firm's perspective that's always been paramount. If you think about the history of this organization, 80 year old firm, that the foundation of what we've done for decades working with advisors, working with bankers, working with RIAs has been not just to bring them product, but importantly to help them understand when, where, why, how to use said product. And that hallmark of consultative selling and consultative relationship management that we've had for decades on the traditional side, we've brought to the alternative arena. So we have a terrific alternative education platform built by a gentleman I know, you know well, Tony, David, Al and we're really, really proud of that. It's won some industry awards and we're excited to see our clients, most importantly using it to help make better decisions from a product perspective. Like many other alternative asset managers or GPs, we are very focused on developing products into the semi liquid or perpetual space. And I'll speak to our criteria for building a product in that area and this is strategically important to us. The first step is regardless of the asset class, whether it's real estate, private credit, private equity, where we have built product in semi liquid and perpetual wrappers across all of those asset classes. The first step is studying and evaluating if we take what we've done for decades in institutional illiquid 10 year ish lockup funds and we put it into a semi liquid wrapper where you have to let money in and out more frequently, where your leverage constraints depending on the asset class may be different, where you have to update pricing in many cases more frequently, if we feel in any way, shape or form that bringing that capability into a semi liquid wrapper dilutes the core of what has made our managers, we think, really strong risk adjusted return managers for a long period of time, we're not going to do it. Once we get past that hurdle and make the decision that we can build with maintaining the core investment integrity we've had for decades in illiquid funds, a semi liquid or perpetual fund, we think a lot about what I call the operational alpha. What is the vehicle structure we should put this in that makes it as easy to use as possible for clients subject to not tripping. Rule number one, dilution of the investment integrity. And then the second part of that is how do we look at our product build, working with our biggest partners and looking at what others in the industry have built and differentiate ourselves? So I'd say for me those are two things. I'm very passionate about our firm, our CEO, top down, very passionate about doing this and doing it the right way.
- [55:19]
John Bowman
John well, it certainly seems like you have echoed the rest of the industry in the first question on shifting up a few gears and we're excited to see what some of those conditions and that great set of workflow and decision trees result in manifest in as far as products coming from Franklin Templeton. And Dave, it is such a pleasure always to check in with you and hear the latest on what's going on in the industry and at Franklin Templeton. And once again, thanks for being a part of this and joining us for a few minutes.
- [55:45]
C
Pleasure on my end. John, congrats. Good luck on season two and thank you for having me.
- [55:51]
John Bowman
Well, welcome back to this first episode of season two. And as promised, we are now joined in studio by Sarah Williamson, CEO of Focusing Capital on the Long Term or fclt, and Jeff Rubin, Senior Managing director and one fund strategist for CPP Investments. Welcome to Capital Decanted.
- [56:13]
D
Thanks for having us.
- [56:14]
E
Thanks so much for having us in.
- [56:16]
John Bowman
You bet. We've been looking forward to this and we wanted to open season two with a topic that was a little bit different. Unlike many of our episodes. Sarah and Jeff, you might know as we prep for this, longtermism at the surface is not inherently controversial. It would be difficult to find anyone, for example, that would consciously argue that they are all for short termism. For example, it'd be kind of like admitting that you like to eat unhealthily, that that is the way that you like to live your life. No one thinks, or at least says that out loud in the intro. We actually likened longtermism to motherhood and apple pie. It's become almost invisible jargon across the industry without any ballast any longer because we all say it and we're not exactly sure what we mean when we say it. So this episode is not really about debating the merits or not of an approach or strategy, which is our normal type of episode. But we felt strongly capital decant and needed to do this episode because just like diets, very few of us can maintain that discipline in the face of temptation and anxiety and what you might call crowd hysteria. So it's that systemic industry hypocrisy, you might say, in resorting to really poor muscle memory that we wanted to examine and diagnose and treat. That we need your help with today. Sarah and Jeff. So as two leaders focused on the subject, and I know, frankly having devoted a lot of your career to thinking through this system wide behavioral crisis, you might call it it, we're really excited to discuss this with you guys, to bring it to life a bit more deeply. So, Sarah, I want to start with you, if you don't mind. I want you to bring us back. This is pre Covid. This is almost 10 years ago now. You're sitting at Wellington. You've been a partner there for I believe, over two decades at that point, and I presume you got a call from somewhere. I would Suspect the founders, McKinsey and CPP Investments, were involved in some form. But what were the circumstances in which those two, and eventually that consortium was a bit larger, that they looked at the capital markets with conviction and they said, you know what? We really need a dedicated think tank that's focused on thought leadership and we want you, Sarah, to lead this. What was that insight and why did you decide to join?
- [58:19]
D
Thanks, John. So to start with, let's go back to what you said about how hard it is to be long term. I think that part of the impetus for this was everybody says I'm long term, but the other guy is putting pressure on me to be short term. So back in about now, 15 years ago or so, Dominic Barton, who at the time was a global managing partner at McKinsey, had written an article for the Harvard Business Review basically decrying the problems of quarterly capitalism. And in talking about the fact that we were really underwhelming in our performance because of this quarterly cycle. And then Mark Wiseman, who at the time ran CPP Investments, said, well, actually part of the problem here is the investor. So it's not just the company. It's the company and the investor and the interaction thereof. So those two and then the three other founders were Clary Fink at BlackRock, Andrew Liveris, who at the time ran Dow Chemical, and Cyrus Mistry, who at the time ran Tata, all got together around this idea of can we have a global cross value chain as we call it, conversation. So not just the investors talking to the investors or the companies talking to the companies, but talking to each other about how do we really, really make capital do what it's supposed to do. So as you all know, what capital is supposed to do is that there are real people out there saving for their retirement or saving to send their kids to school or whatever it is. And those savers need to have a long term return. And that's one end of the spectrum. Typically those go maybe to an asset owner because it's their pension plan, to an asset manager. They get invested in a company and then that company does things that affect the real economy. They hire people, they invent something, they develop a product, expand their business business. And what happens is the capital markets, the asset owners, the asset managers and the companies are really the ones that are the actors in it. But the people who benefit or don't benefit are the savers in the communities. And we clearly saw that impact in the global financial crisis. So this group got together and were very motivated around this issue of how can we really change this because it's in everybody's best interest. It's not a trade off mindset. It's more like you said before, a discipline and how do you get it done mindset. And then they had a conference in 2015. They got a lot of other people excited about it and they went out looking for somebody to lead this. I had worked at McKinsey in the past before I was at Wellington and I knew Dom and one way or the other they ended up calling me and I said, oh, I've got some ideas for people who could do this. And eventually they said, no, no, really, really, we mean you. And I understood this problem so deeply in my soul, if you will, which is I've seen it it so many times and I've seen the problems that it can cause and the opportunities missed because people are short term that eventually I decided to walk out of Wellington and lead it myself, much to the surprise of some of my partners.
- [61:09]
Kristy Townsend
Well then Jeff, building on that, you've got a really succinct and pragmatic way to define true long termism. Can you repeat that? Acid test for our listeners and provide some context as to why this is an important driving rubric.
- [61:20]
E
Sure. And let me just also say I'm really happy that you guys are taking a look at this topic and the way we are. I think this notion of horizon and long horizon for investors, it needs to go beyond the platitudes. I think you can never get enough motherhood. But apple pie, there's probably limits to it. And I think our ability to really dig in here and understand what this means and what Horizon genuinely means for the success of investors over time, I think is really important. And it was important at the time that Sarah just brought up in terms of the standing up of FCLT Global and what that means in terms of bringing together asset owners and corporates in a way that gets really serious around Horizon. We've done some of that work internally here, and we are of the view that an investor's horizon is the length of time that they can stay committed to a strategy despite adverse but unanticipated investment outcomes or changes in their organizational circumstances. The amount of time that you can stay, you can maintain your investment posture without getting knocked down. And that kind of horizon is going to depend on a huge number of factors internal to the organization and external to the world. But investors that are unable to maintain commitment to a strategy, a strategy that is going to have anticipated ups and downs, we know as risk takers, not every strategy is going to perform exactly as expected. But if it is performing within reasonable bounds of expectation, is that something that is going to challenge your ability to stay in that strategy, or do you face the condition where you might get stopped out? I think the shorter the horizon over which you can maintain that investment posture, the shorter your horizon. And as an investor and the implications for the ways in which we invest, I think are profound. That's our approach to thinking about investment horizon.
- [63:05]
John Bowman
I really like that, Jeff, and I've heard you say that on stages previously. And what you're distinguishing is it's not just a period of time in isolation, which is the platitude element. And it's not just procedures and policies that you have on paper, which are some of the guardrails and apparatus, but it's how these things come together and what is the track record of how you behave and how do you operate when all these natural and inevitable pressures start coming, some inside your own head, some from the market and some from your organization. And Sarah, as you think about those pressures that Jeff just alluded to that push us towards or tempt us towards Getting stopped out or knocked down, as Jeff said. Actually when we drop this episode, very conveniently, FCLT Global is going to be dropping a new piece of seminal research that you're calling the Gold Standard. And you, as you've just described, not only had that original wonderful consortium of world class organizations up and down the value chain cross disciplinary, as you said, but you talk to them all the time and you've got access through your objective platform and your ultimate purpose to have unadulterated dialogue with almost every party and actor across this wonderful industry. So you dropped this piece of work today called the Gold Standard that charts the best practices, you might say. Those are my words. Perhaps you'd say it differently of building what I'd call long term DNA as Jeff described, into the roots of the organization. Can you just give us a high level overview of what you found?
- [64:34]
D
We've been, as you said, conducting this research for close to 10 years. We have over 70 members, we talk to all sorts of people around the world. And the question that comes up a lot is what is long term? And usually people think they're going to get an answer like 5 years or 10 years or something like that, but that's not actually long term. I like Jeff's description. When do you get the keys taken off of you? The way I think about it. So what does it really mean to be long term and what are the characteristics or the hallmarks of a long term organization? And we have come up with a list of things that is not a compliance exercise, it's much more a look in the mirror and ask yourselves, are we really long term? One for companies, one for asset owners, one for asset managers. They're quite different from each other. But the main things that we really think about that drive long term behavior are governance. Will your board stand behind you when there's a bump? If not, you're not going to be able to take that long term. What are the incentives? People generally do, what their incentives encourage them to do. So if they're encouraged to really strive for short term performance, not long term performance, they'll do that. And how does engagement work? How do you engage between companies and investors? What are the metrics? So the FCLT Gold Standard is based on our library of work, third party academics, NGOs and so on. And really importantly, the experiences of our members who as you said, will tell us things behind closed doors that they won't always say on a stage. So we have developed this to share as a reference point. So I'll just give you A couple of examples and some of these, the other pushback we get sometimes is oh, but I can't control this. So these are not necessarily things that one individual or one organization can control, but they're pretty hard if you don't have them. So. So for an asset owner, for example, our first question is, is your organization formally separated from the political cycles of the governing institution? Now, we know that politicians are short term in general and that they zig and zag. If you have a, quote, long term asset owner who has to change political stripes every two years or four years or whatever the structure is in the country that you're talking about. About, yeah, that's not going to work. So the Canadians actually have done a very good job of setting up structures to make sure that they're at arm's length. So those are the questions that we really want to ask people about. Do they have independent investment professionals on their board? Again, some people do, some people don't. It's a hallmark of being longer term. The last one I'll mention is does your board delegate asset manager selection decisions to the staff? If the board is running duty contests and picking managers, I'm going to bet you that they're not a long term organization because those people will change their mind. So we're not looking for things that are in a textbook or something you can write down. But really, what's the secret sauce for being a long term organization? And what do we see that long term asset owners in this example do that a lot of much more short term people don't do and that therefore they get thrown around a bit more and they buy high, sell low, buy high, sell low, which we know is a bad investment strategy.
- [67:42]
John Bowman
Jeff, I want to tease this out a little bit more, maybe tying together your definition with some of Sarah's best practices in this new checklist. That just sounds tremendously valuable, really rich new tool. So I really encourage all investors to check that out. Again, that's dropped today. We'll have that in the show notes. But Jeff, CPP has not only been a forerunner and very vocal about long termism, but you're also very self reflective. You write about this all the time. Time. You're constantly doing a diagnosis check on how well are you guys doing this. And I've heard you talk about or distinguish, maybe I should say the verb and the noun, as you like to call it, long term investments versus long term investing. What do you think of when you say that? And what are the impediments that distinguish one versus the other.
- [68:26]
E
So I think that's an area that we found useful to distinguish because confusing the two can be problematic in terms of plotting out your actual investment strategies and approaches. There are certain investments, the noun, as you say, that have characteristics or hallmarks that folks would typically include in the long horizon context. They're investments in which we are looking to reveal value instead of price. They're investments in which we anticipate the development or build out of a value creation thesis over very long horizons from which the investor is going to accrue value as opposed to taking advantage of any short term dislocations in the market, things of that nature. I think those can be important elements of a long term investment strategy, but not exclusively so. And when we started doing our work on long horizon, we actually started by thinking about how can we introduce more long horizon investments into our portfolio. But where we ended was how can we act as a more effective long horizon investor? How can we do the investing part? The verb? And what we discovered is a lot of the things that Sarah just listed are actually the key to being able to retain an investment posture in which you have the opportunity, but not the obligation to maintain your posture through cycles over time and in the face of whatever volatility might arise. That's real long horizon investing, and that can be applied to the long horizon investments that we just talked about, but it applies equally well to investments that might not have those characteristics. In fact, we don't even think that hold period or investment horizon is as big a driver of being a long horizon investor than the ability to maintain a strategy that effectively and persistently invests in those investments over horizons that can transcend cycles in which you are not getting stopped out. The list of items that Sarah laid out there, I think is a terrific list, and we add a few additional items to that one. I think at the top of our list is the quality and substance of governance. So I think Sarah very much shares that view that you've laid out. But we also look at things like the nature of funding and the liability structure. There are some organizations that just have a very different construct within which they're going to fund their investment strategies, and that's going to have implications for their ability to stay committed in strategies over time. And in the face of some of that uncertainty, the resiliency of the liquidity position similarly is going to be a driver of one's ability to maintain posture. Sarah, you talked a little bit about performance evaluation, including the horizon over which performance is assessed in comparison with peers. We think that can have a big impact on investor horizon. There's regulatory and reporting requirements, reputational considerations, principal agent divergence within the organization. It's one thing to talk about an overall organization's investment horizon, but as you start to take a look at the individuals, the people that make up that institution, they might have horizons or tastes for staying in strategies that start to differ from where the institution is. We take a look at the rigor of the ex ante investment thesis and the expectations around that. That the better job you do in setting up your strategy in advance with very clear understanding of the drawdowns or poor outcomes that you might face over time, the better job you can do to steel yourself for when they in fact arrive and make sure that you can stay within that strategy, which is performing poorly but not inconsistently with what you had anticipated at the beginning. Behavioral biases There's a whole long list that we think will have implications for horizons and things like staff turnover and organizational culture. It's a long list and when we reflected on that list, one thing we realized is when we previously suggested that we have an endowed advantage of a long horizon, we were granted this long horizon. We can use that to our advantage. I think we revisited that belief coming out of this work. We have an opportunity to be a long horizon investor. An opportunity that I think think exceeds that of many other investors for whom that long laundry list of challenges might be more apparent. If you are an investor that faces quarterly redemptions. If you're an investor in a multi strat hedge fund that has very tight risk limits and stop out limits, I don't even think you have an option to be a long horizon investor. We have the ability to be a long horizon investor, but we have to do a lot of things that we just talked about in order to convert on that possibility. I would say that a long horizon is earned, not capable. Given you can be in a circumstance and construct where you have an ability to do that. But there's a lot you have to proactively do and do right in order to set yourself up for that longer horizon and the benefits associated with that that I think we're going to be talking about here in a few minutes.
- [73:04]
John Bowman
I know Christy, you've got a follow up, but I think that's so well said. The last couple answers both of you guys have articulated, at least to me it's likened to the way we talk about culture. At least those of us that have maybe been around a minute minute when we think about culture, because it's not the loose sight on the wall that has our cultural values. Nor is it even what we rate in the performance evaluation. As far as behavior, those things can help. They can be reinforcing. But ultimately the cultural experts talk about the norms and values or the unwritten rules behavior. How do you act when no one's looking? And similar to I love Sarah's definition because I'm now training my fifth child to dry when is it that I pull the keys away from her? Or when is it that you're stopped out? These are real behavioral patterns that you can pick up. So I think it's a really interesting parallel. But Christie, I'll pass it back to you.
- [73:54]
Kristy Townsend
I was just going to say I think it's really funny to start that this whole time I've had to remember that I'm not on mute because I wanted to be like preach to both of you because just really great points and things that obviously we agree with as an association but also on a personal level as an investor, it is an active endeavor even when it's done passively if done wealth. So Jeff, I'd like to actually double click on some of your comments and just feel you out. What are the benefits? Both the tangible returns, focused benefits and the intangible benefits of building that long term philosophy to investing the verb.
- [74:25]
E
So if you take a look at some of the literature that's out there, some folks have done some really interesting stuff in terms of what is the benefit? What's the value of a long investment horizon? I think Tim Hodgson did a paper a few years back where he looked at a number of different mechanisms by which long horizon investors can generate incremental returns. He came up with an estimate of 150 bps, for example, over time. I don't think we've done anything with that precision, but a lot of the elements that are suggested can help drive superior investment performance for longer horizon investors include things like the benefit from reduced turnover and transaction costs, the ability to exploit mean reversion, avoiding forced sales opportunistically purchasing from those who are forced to be sellers, active ownership, illiquidity, premia, thematic investment, and a few more. Of all of those we actually think mean reversion and the presence of mean reversion is probably the most powerful long horizon investors in the way that we've been talking about to the extent strategies and performance of strategies tends to revert, we think are terrifically well positioned to benefit from their horizon. It hasn't escaped our notice that trend following and momentum investing is on the rise in many of the markets in which we participate. And I think at some level that can be a challenge to long horizon investors. Investors. So I think that's something to keep an eye on. But I think by and large I think those benefits to some degree accrue. But I think you're also asking Christy a question around culture and orientation and where some of the benefits of being a long horizon investor arise there. And I think for us what's been most profound is in two different areas that long horizon orientation. One is the quality of our partnerships with external firms. Maintaining a long horizon and a commitment to strategies means you can more effectively maintain a commitment to your partners and that allows those relationships to transcend from purely transactional to more strategic. And I think in a number of different areas we have developed partnerships with really high quality external investors that we've done the careful work and can confirm that that's been a big driver of our performance over time is the performance that we are accruing from these heightened long term relationships and the advantage deal flow and the advantage exposure we have from those partnerships. So I think that is one area. A second area is the success of our global offices, global footprint. We have offices around the world and I think the success of the teams that we've put in there, the presence they have in those marketplaces would be radically different if there was a presumption that we weren't there to stay and that we weren't there. With an eye towards a deep commitment and ability to maintain our presence through cycles and to continue on with our investment thesis through those ups and downs. I think that's been a big place overall. I think we have a culture here that by virtue of our aspiration to constantly maintain that long horizon, I think has created a culture that allows people to connect more readily with our very long horizon mandate and purpose to support the Canada pension plan and its contributors and beneficiaries over very long horizons. It's given us a culture that is, I think, more consistent with who we are are as an organization and the types of investment strategies we're choosing to pursue.
- [77:38]
Kristy Townsend
I can appreciate that and I think it's a great reason why so many of us do claim to be long term or at least be focused in the long term. But Sarah, you actually alluded to this a few minutes ago. The structures around compensation are typically where the rubber meets the road. I think, for example, Charlie Munger was it, who said that. Show me the incentives and I'll show you the behavior. There really is that Tie to compensation and outcome. So what seems to work specifically for changing behavior and mindset when it comes to that compensation component? It.
- [78:04]
D
We've looked at this from a number of different angles and compensation is critical. And long term is an outcome of a lot of things we've talked about. Jeff's talked about culture is an outcome of a lot of things. We think both of those are influenced heavily by incentives and that as you said, the rubber meets the road in terms of incentives. So if we think about, let's start with companies, we have looked at this a lot. We've published a paper about a year ago called the CEO Shareholder. And you can look at it lots of different ways. But the bottom line, and we've built on this in our gold standard, is that the long term companies tend to have compensation for their CEO's equity compensation that is locked up for at least five years, including after they leave the firm. So that would be post departure for retirement or termination. Change of control is a little bit harder. But the question is, are you building a company for your term or are you building it for the long term? Are you being paid to build a company or are you being paid to get the CEO job? So I think that having that. And if you think about a family, a family owner or a founder, their stock may or may not be legally locked up, but it sort of is. If your name is on the door, you can't usually sell the stock. So having that executive compensation locked up for long periods of time, including after people leave, is, we think, a critical lever if we turn to the investor side. To me, there are really three big questions. The first is are investment staff accountable for fund performance for at least five years? So are we looking at a five year number? Now obviously there are different investment styles, so this can be an average. But in general, Jeff was talking about cycles. Cycles come and go. Five years, you get away from some of the momentum and you really come through a cycle. So we think performance over five years is critical. We think it's also critical that portfolio managers eat their own cooking so they have meaningful fund ownership in the funds that they manage. And that really creates alignment and again with that long term holding period. And the third, which we think is really important, is that the compensation of client relationship or business development staff in an organization is actually aligned with the long term client return returns. Because as we all know, asset size is often the enemy of performance. Not in every investment style, but in many, many investment styles. So if the incentive of the client relationship or business development people is simply to build assets rather than worry about the outcome of their clients, then that usually leads to selling what's been hot, which often rolls over. So that we think is the really important part of these things. And as we know in most investment management firms it's very common to compensate people on 1, 3, 5 year performance and some multiple of assets. So it's usually some combination algorithm that combines those two that really leans into asset gathering unless the funds are capped. So that we think builds in a short term mindset because we know that people tend to invest in things that have just performed well, even the best investors. It's really hard to go the other way. It's a bit of human nature. So we think that that long term performance, having your own skin in the game and importantly the business side as well, being aligned with how the client does or the LP does, depending on the structure, is what makes the difference.
- [81:33]
John Bowman
Well, I know when I was hanging out with you in Boston years ago, towards the beginning of my career, Sarah, we swam in quarter by quarter quartile rankings. That's what we looked at. It was our report card star staring at us and you imagine the emotions, highs and lows and it created behavior that was aligned with those incentives in that report card. So I think you make some really good points. Jeff. One of the other pillars that both Sarah and you mentioned has been governance. I almost struggled to ask you this because in 1997 the Canadian Parliament handed you a gift which was a really great separation of duties and independence and autonomy. So CPP to some extent, I'm sure there's improvements you would make if you you were king for a day. But the reality is you guys are in much better shape than most folks listening when they think about governance and potential stop out pressure to use your words. So if you put yourself in the shoes of most CIOs and most investors or most asset managers, what are some of those governance pillars and philosophy? Process separation of duties that you would recommend help create proper long term thinking.
- [82:40]
E
So following on the point that you all were just talking about this point around attribution and quarterly assessment of performance, you might immediately conclude that the best governance is absent governance or very very light touch governance. And they're not around to pick apart your results quarter to quarter or even year to year. We won't say absentee governance, but they are less engaged with the ongoing results. And I think that's essentially the wrong answer. I think you want presentation really deeply present governance, but governance that is focused on the elements and drivers of your chosen strategy governance that deeply understands and appreciates how that strategy might actually play out over time. I think perhaps one of the important tenets of great governance is the no surprises maxim of just making sure that everyone understands and appreciates that we are engaged in investing for which outcomes are always uncertain. There's always going to be risk, but you can equip your governance with a better understanding and appreciation for what it's going to look like, what it's going to feel like. How many of us have run scenario analyses where we take a look at downside scenarios or drawdowns and everyone sits around the table and nods and asks good questions about the mechanics of the model that generated, but is that really helping people anticipate what it's going to feel like, what pressure they're going to be getting from other stakeholders or from the pressure when those outturns arise? The better job you can do with a very present governance to make sure that they are equipped to understand and appreciate the true nature of the strategy you're running. The more likely they will be there to support that strategy when those outturns actually arise. I think that is a really important part of that governance in terms of the decomposition of accountabilities and results. I think it would be a missed opportunity not to bring this back to our total portfolio approach conversation from a few months ago. And I think the organizations that in which the board and the investors are effectively jointly accountable and responsible for the entirety of the investment portfolio, I think are ones where they can effectively stay on top of the longer term considerations of the strategy. With a governance construct in which the board approves a longer term strategic asset allocation and management is responsible just for shorter term performance against that policy portfolio or a benchmark representing that policy portfolio, I think that can serve to undermine a bit management's focus on the longer horizon and management's ability to invest in those ways. I think those are a couple of the elements of how governance can be set up to facilitate long horizon. I think the last thing I would add on this is as you pointed out, we benefit from a terrific legislative construct here at CPP Investments and that gives us the opportunity to pursue long horizon posture. But not all organizations do. And I think everything we're talking about here is reasonably aspirational for many of these institutions to try to stretch their horizon over time using a lot of the devices we talked about, but it might not be possible, given the governance construct to do so. To an extreme degree, I think worse than being a short horizon investor is convincing yourself you are a long horizon investor when you're not. Because then you'll pursue strategies that rely upon that consistency, that rely upon that commitment through cycles. And if that commitment's not there, you will get stopped out at exactly the wrong time. So there's a bit of know thyself when it comes to governance, I think. Understand what works to stretch the horizon, work really hard to do so, but then at the end of the day, take a clear eyed view as to exactly where you are and make sure your strategies are tuned to the genuine horizon that you actually have.
- [86:20]
Kristy Townsend
That's a really great point. And actually to that end, Sarah, are there any examples that you can think of of maybe asset managers or own in this space that are doing something unique or really well that you can share as examples since not everybody has that great situation that CPP Investments does?
- [86:34]
D
Yeah, not everybody has the best situation, but I think almost everybody can improve their situation from where they are. So if we think about the asset managers, let's start on that side. If you are a large index manager, you don't have the ability to sell the stock. That's the most basic ability for most managers is to walk away. They don't have that ability. But a tool that they do have is votes and a lot of votes. So how do you use votes in a very different way than maybe somebody who can walk away? If you're a private equity manager, you have the ability to hire and fire the CEO. A public equity manager does not have that ability. So how do you make that a long term decision? So the way I think about it is on the asset management side, there's no right or wrong way to manage money. But everybody's got tools that they can use and everybody can use those tools to be longer. So I do think some of the big index managers have tried to push the markets to be longer term with their votes. I think some of the big active managers who do this well, my old firm included, tend to explain to companies that they're here for the long term and they don't really care how many widgets they made this quarter. What they really care is what is their long term roadmap, what does that look like? Where are they going? That conversation with companies actually has a huge impact on those companies. And even people who trade in a more short term way. People ask me sometimes about the high frequency traders or the market makers and what are they doing. And I said, well really they don't bother me that much as long as they don't talk to the CEOs and computers don't typically talk to the CEOs because what really matters is how does this translate to the real economy. So it's just no, if your stock is perhaps more volatile because people are moving it around, you just have to ignore that. But it shouldn't translate to the real economy. If I think about the asset owner side, the examples that come to mind most easily for me, somebody like GIC in Singapore talks about and really has a 20 year time horizon. They actually give incentives on a 20 year time horizon. Not all of them of course, but there are not many people who really talk about 20 years. And we've even done some work that shows you, you that as behaviorally funny as this sounds, putting the long term number first changes the way people think. So in other words, the mind anchors on the first number. So if you put the quarter number and then one year, three year, five year tenure, which is very common by the way, not required by any regulator in the world, then people anchor on that first number that they see. If you do it the other way, you start with a 10 year number, say you anchor on that. So those are the little things that people can do. So I think there are some that do long term. The US Endowments as a general rule have been very long term. Something that I have done for a very long time is serve on investment committees of universities or colleges where I went to school. And I think what the universities, the good ones have done well is understand how much drawdown they can really take. So I was on an investment committee during the financial crisis and the question of course is when do we actually jeopardize our mission? So it's not about the numbers, it's when do we have to get rid of students or faculty or something that we're not going to recover from. That's a risk that you really almost can't take. But if it's volatility or if it's a future addition, you can't. So how do the best ones really tie the management of the money with the mission of the money? So what is the mission of the money? And then the last one that I on the asset owner side I would say is I think the Australians as a general rule have done a very good job. So John, you asked Jeff if you were king for the day a few minutes ago. If I were queen for the day, I would turn the US Retirement system into the Australian superannuation system. Because what they have done so well is rather than the US 401 mindset which leads to a demand for liquidity and therefore a short term mindset. They have enabled retail individuals to invest for the long run and they've been able to therefore buy their structures, invest in infrastructure, heavily invest in private equity, invest in other things that typically those more short term constrained investors cannot do. And that has led to over the last 25 years a fundamental increase in the well being of the retirees in that country. So again it translates to the real outcomes for savers, which is what matters at the end of the day. So those are a few examples around the world. I think it's really just thinking about out what's the money for and how close can we get to matching that and what tools do we have at our disposal to take one step longer term, one more step longer term. Not everybody can't be CPP investments, but everybody can get a little better.
- [91:28]
E
Sarah, it's interesting that example on the Australians. Don't they seem to just do things better than us in all areas, the pension funds being one. But even they are struggling with something right now, which I'm sure you've had conversations with them about, which is some regulation that's been put in place to encourage encourage consolidation in that industry and has done so by setting up a peer performance evaluation which is almost existential for some of those funds. If you underperform your peers for a very short period of time, that can be a problem for your ongoing ability. That has really worked to compress horizons. Those organizations cannot stay on their investment strategy if they have two, three bad years of performance in a row. They might literally get folded into an another superannuation fund. So it's interesting even there challenges and impediments to maintaining that genuinely long horizon.
- [92:18]
D
That's absolutely true. And there is just one more minute of background on that system. The way that system works for people who aren't familiar with it is that it is not an employer centered system like it is in many countries. It is an individual centered system. So the individual has an account which they maintain throughout their lifetime even if they change jobs and so on. And therefore they can choose which fund manages that so they can move their money. And to Jeff's point, the regulator has been very tough on both fees but also comparisons. So there is this worry that people will get too short term on those. It's still a lot better than almost every other country's system.
- [92:59]
John Bowman
So the Latin American affores I think have also struggled with this walk across the street risk that is somewhat counterproductive to at least their existential statement of being long term. So I think it is a difficult difficulty. Real quickly, Sarah, we didn't get to talk about, and I know I've heard you talk very eloquently before we finish here, maybe briefly on long termism as a dependency or an accelerated towards real economy benefit. We've talked a lot about the investing outcomes which has to be the primacy of any fiduciary. I understand. So I'm not talking double bottom line that are equating but there is real economy benefits to sticking with this type of stuff longer and being patient. How would you describe those benefits?
- [93:43]
D
So I think that there are benefits to sticking with companies that have a strong strategy, just like an investor sticking with a good strategy through some bumps. Now the discipline, just as we were talking about with the Australians of the competitive market is very strong and we are huge believers that competition is a good thing. So just to be clear, when we talk about long termism, it isn't, isn't set it and forget it. What we think about as long term is having a long term objective, a long term roadmap and then being agile. When market conditions change because guess what, they always will, there will be something that happens. And when we think about short termism, it is not reaching a milestone on the way to that long term plan, but it's something that deviates. So the most classic example is I'm going to miss my earnings this quarter and therefore I'm going to cut, cut R and D or training or marketing. And guess what, you do that a couple of times and then you don't have innovation or the best people or a strong brand. So there are things that take you off of that long term objective. Those are the things that cause trouble. So the best long term companies really have that sense of why are they adding value to society because that's what they get paid for for. And to your point as well, they're thinking about how they may get paid or have to pay in the future. So to an economist we call these externalities. How do you build in future externalities that may be internalized. So the classic example would be a carbon price. If in the future we are going to pay for carbon, which is a pretty tough bet to assume we're going to pay zero for carbon forever. I'll take that bet with anybody. How do you bake that into your process today so that you make smart capital allocation decisions today that pay off in the future? And that's what a future oriented long term firm does rather than just worrying about getting on that quarterly treadmill.
- [95:44]
John Bowman
Jeff, I want to give you the last word. Sarah just made mention of the world changes. One of the great myths that I think we should also debunk, just like great governance is not absentee governance, is that long termism is not blind buy and hold with unsophisticated, intellectually non curious investors. I think sometimes that can be confusing. So how does everything we've talked about over the last 15 minutes or so coexist with the ability for your investment team and your board to shift and dynamically adjust and take advantage of structural changes at those inflection points that are so important?
- [96:24]
E
I think Sarah just laid out the case for us is long horizon should not be a crutch for sustaining deficient investment strategies and deficient strategies of any type. I think we need to be really thoughtful around the evidence that we're getting on strategies, acknowledging that as you say, conditions change and the world changes and strategies that are forged in the best possible beliefs and assumptions might over time start to degrade and genuinely degrade, not just volatility, but actually building evidence that the investment thesis itself is playing out. And the ability to adjust our strategies and adjust our portfolios for those emerging conditions, I think doesn't run counter to being a long horizon investor. I think it can be very supportive of organizations that can very effectively establish their strategies with real genuine commitment to stay in those in the face of expected volatility. When we talk about things like tactically shifting the portfolio for organizations that believe they have edge and advantage in doing doing that and can effectively shift the risk profile of their portfolio in the face of changing conditions, having a long horizon I think is vital to the success of those kinds of strategies. The organization that is going to lose its commitment to those strategies in the face of some bad outturns would be cautioned against getting into them in the first place because those are exactly the types of strategies that can show significant volatility over shorter periods. Even if we believe we have a longer term advantage. I think that approach to thinking about the role of long horizon strategies in the portfolio and also picking your spots within your organization, your investment strategies, to where you are genuinely going to draw upon horizon, where you might do so to a lesser degree, I think that's really important as well as we think about how we make sure we are really leaning in in the spots within our portfolio that can draw upon the edge of longer horizon so that they are positioned for that kind of longer term success. Even if the Rest of the portfolio portfolio might be subject to more frequent change or revision if that's the right thing for us to do. Given all of that evidence.
- [98:29]
John Bowman
I think that's really well said. You made mention of our tpa, our total Portfolio approach paper that CPP Investments was kind enough to be a co author and I know a mutual friend of Sarah and Jeff and all of us is of course Future Fund and Ben Simile. And interestingly, when we had him on the pod, he talked about the fact, perhaps counterintuitive, to again debunk these myths altogether together, that their board is engaged as ever, if not more engaged because they're long term, that they've conditioned the conversations in the boardroom to talk about the structural changes that are constantly going on. If you walked in, you might think this is a multi strat hedge fund. I mean, they're talking about constant tectonic shifts and where the world's going and threats and risks. And that is energizing to the team because they also know that they've got space and discipline and elbow room not to be stopped out. So that's maybe a bit of a best in class example that I thought was really brought to life very well by Ben. So we're going to need to stop there listeners. Sarah and Jeff, that was an outstanding conversation. We are extremely grateful for you helping us and sharpening our thinking on what long termism truly is and what it's not. And we are just grateful that you spent some time on the Capital Decanted show. Stay tuned folks for the Last Sip. We'll see you in a minute. All right, welcome back to the Last Sip. What an episode. Jeff and Sarah, as I suspected, were just outstanding. Really helpful. I loved. Well, I probably shouldn't go first, but let me just say as a teaser to handing off to you, Christy, I love Sarah's and Jeff's, but particularly Sarah's definition of when are the keys going to get taken from you? I think it's colloquial, but I think it's such a good capture of the reality. How long can you hold an asset until you get stopped out for whatever reason, which is Jeff's that you asked about, I think was also good. So I think very much we're similar to the yin definition that I offered earlier in the episode. So what were your big takeaways and aha moments?
- [100:23]
Kristy Townsend
Again, I had no notes from their definitions, but one of my favorites was actually, I don't wanna say it wasn't a throwaway point cause we talked about it quite a bit. But I liked the delineation of it. There is a difference between long term investing and long term investments and how it is interesting because there are even in private equity, for example, like follow on fundraises where there can be a little bit of financialization sometimes to make the previous fund look good that you can see some of these short termism viewpoints that express themselves in long term assets. That's not long termism and again that is a very small subset that happens pretty infrequently now. But I liked the delineation again of the noun versus the verb of long term investing and I think it was Jeff who made that. I really enjoyed that.
- [101:05]
John Bowman
Absolutely. So I promised based upon on what I teased some of the clarity that Christie provided in hers. And then of course that great conversation with Jeff that I was going to hold back and Sarah was going to hold back. Some suggestions, some recommendations, a blueprint for building durability of longtermism into your process. I think as both you said Christie, and as Jeff and Sarah said, this cannot be for everyone and not everyone starts with these endowments, particularly longtermisms. So you're talking about taking baby steps and moving the needle just a little bit and just a step by step process. So just four quick things that I think we've touched on that are a bit of a roadmap, you might say. So governance maybe the most important. Josh Lerner said this is the first line of defense against poor investment decision making. Keith Ambach Shear, in a very famous study, found that 0.66 of performance drag is based on poor governance. What's the major culprit of this governance drag? Well, it's of course behavior here. It's how we act and how we behave when things get unsettling. Jeremy Grantham, just the last quote I'm going to read had just such a good quote on this, who I think is one of the best investors ever. But he says the central truth of the investment business is that investment behavior is driven by career risk. The prime directive is first and last, keep your job to do this. He explained that you must never ever be wrong on your own. To prevent this calamity, professional investors pay ruthless attention to what other investors are doing, doing. So the great majority go with the flow, either completely or partially. This creates hurting momentum which drives prices far above or far below fair price. Career risk and the resulting hurting it creates are likely to always dominate investing. So what is it that your board is either fanning that flame or helping to extinguish that flame so you can operate effectively and rationally. Ashby Monk talks about the sure path to getting fired in public pension innovate, be original. So you got to be really careful. And Brad Jones again, his argument as far as blueprint for creating a better board and governance culture is to ensure you've got experienced and properly trained trustees if they are not investment professionals, he argues and suggests minimum accreditation standards for fiduciaries to ensure levels of literacy for all these important roles. At a minimum, he argues, even if they're not properly trained, trained to at least try to shed appointed members that have conflicts of interests, political motivations, self dealing temptations, that would be a start. So governance is number one. Number two, the tool set that you're using has to reinforce it. So your investment policy statement, your investment beliefs, I quoted a bunch of them. The meeting frequency which Christie talked about. How often are you meeting and what are you talking about? Do you really need to meet that often? Due diligence, Christie suggested is important. The types of questions you're asking asking Ask the GP what their sell philosophy is and ask them to explain a few case studies as to why they sold certain things that will expose real philosophy regardless of what the nice little loose sight says about what they think they believe. What happens when they sell Third long term benchmarks goes without saying. They should be simple, they should be very few. Focus it on an absolute return risk premia based benchmark versus many of these public market cap anchor benchmarks that are self fulfilling profits, prophecy of pro cyclical hurting behavior and of course they should be long term many years and then finally compensation structures. I'll never forget I was in the office in Boston of MFS and meeting with the prior CEO Michael Roberge and he showed me a client report that they bring and they condition clients to think the same way that their investment team thinks. So they flip the typical way that we read from left to right. So typically you've got the shortest on the left which is the way our eyes are trained. We read that first the longest time horizon on the right and immediately you see red on the left. The clients never even get to the 5, the 10 the since inception number. They flip that so since inception 105 and only to the far right if you even get there. And they condition folks not to spend a lot of time on that is the shorter term. And they also pay their analysts, they put their money where their mouth is quite literally. They pay their analysts, their portfolio managers on multi year rolling periods. You're not going to get fired or get a big bonus bonus if you have one great year. So MFS is really a poster child that so just a few thoughts as I've real time digested much of what was said. I don't know if you have any further reinforcements or disagreements on that blueprint.
- [105:24]
Kristy Townsend
Christie, I actually love particularly and I've never done this before to be clear in a performance report that I have taken before, a board is putting that long term number first and then going increasingly short term. There have been times that I have dropped quarterly altogether and gone straight to the one year. But again, that's one of those weird things that we get anchored to that we saw it once and we thought okay, this is how investors or fiduciaries want to see it. And ultimately again, to your point, it completely flips our brain. It almost fries us in short circuits. Any longer term conversation we could possibly have, particularly when you have an October of 08 or a March of 2020 or 1999 when you have these scenarios, it's just so hard to stay focused on the long term when you see a lot of red. So if I came away with nothing else, that was probably my number one going forward as I think about it as an investor or in the future maybe as a fiduciary again, making sure to put that longer term number first, assuming that the organization wants to be long term focused.
- [106:17]
John Bowman
I thought that was so original and pretty profound. So really good stuff. All right listeners, fun final question. Seems pretty obvious since we've just had this long break and I would be shocked if I don't know what the answer is that's coming. But Kristi, what was the highlight of your summer?
- [106:33]
Kristy Townsend
Grandy was in the hospital and it was after very long and difficult labor. But looking over at my 10 year old standing next to her stepdad holding our beautiful baby was just highlight of the summer 1000%. So what about yours?
- [106:46]
John Bowman
I know what you mean. I went through that five times. So we have six kids. So five existing toddlers held the newborn and there is nothing, there is nothing more iconic or special in that moment. So I'm with you there. I think. As you know I had a big birthday, one of those big fat fugly birthdays this year my wife and I disappeared to Napa. You might be shocked given the title and passion in this podcast. We spent 10 days, my oldest and his wife were there for the first few and then we were just the two of us for the last five. It was just amazing, went way too quickly. But what a wonderful way to spend your third 30th birthday. Let's put it that way.
- [107:24]
Kristy Townsend
The big ugly 30s. I get it.
- [107:26]
John Bowman
Well, decanters, thanks for hanging with us on episode one. We're really pumped. As we said a number of times for season to. I hope that we are getting better and serving you more effectively and you're finding this valuable. We love your feedback. Stay with us. Send us your comments, send us your ideas. And once again, we just thank you for your patronage and your listening. Talk soon.