“The loser is the trend chasing, comfort seeking investor. The market doesn’t reward comfort. It rewards discomfort.”
There’s conventional volatility in returns, which introduces a risk of poor investment returns. There’s the asset/liability mismatch, which leads to a risk that we cannot cover our future obligations. And, there’s maverick risk, in which investors choose a different path than their peers, exposing them to criticism, especially when performance suffers. All three risks are hugely important. Yet, we typically focus our analytics on the first of these, simple volatility, and our behavior on the last of these, maverick risk.
“The market tends to be priced in a way that if you want to try to outperform, you have to take a risk of looking like an idiot,” Inker said. To outperform, you have to deviate from your benchmark, and that increases the risk of underperformance and, in the extreme, looking like an idiot and getting fired. As a result, markets exhibit herd-like behavior, which in turn encourages momentum and other self-reinforcing behaviors, such as money flowing into whatever strategy has been doing well, Inker said. That merely ratchets up valuations within better-performing asset classes and sectors, he said, creating a self-fulfilling prophecy.
“The good news is that in the investment business there are very few people who do real asset allocation and actually move money around in an aggressive way,” Inker said. “It’s a tough thing to do and survive. The nice thing about it, and the reason why we do it, is because this means it’s an inefficiency that is not going to get arbitraged away anytime soon.”
…it is the long term investor…who will in practice come in for most criticism, wherever investment funds are managed by committees or boards or banks. For it is the essence of his behaviour that he should be eccentric, unconventional and rash in the eyes of average opinion. If he is successful, that will only confirm the general belief in his rashness; and if in the short run he is unsuccessful, which is very likely, he will not receive much mercy. Worldly wisdom teaches that it is better for reputation to fail conventionally than to succeed unconventionally.
taking these steps is not comfortable. Comfort is rarely rewarded. Investors can move down the path toward this maverick portfolio, careful not to exceed their board’s or their client’s “comfort” threshold. This approach goes against human nature and invites second-guessing whenever it inevitably doesn’t work. Keynes’ oft-cited “reputation” quotation, in its more complete form, bears careful consideration.
1.) If we feel we have had a good year, they agree, regardless of relative performance2.) When we call, asking them to consider adding new capital, they a.) appreciate the call and b.) add new capital
Decisions large and small are off kilter because the looming shadow of benchmark risk overwhelms almost everything else… maybe they should consider a low volatility strategy, even if some “underperformance” in a bull market comes with it, since such a shortfall versus a benchmark is not really a risk that matters relative to other considerations… Many of the benchmarks are, in fact, false ones. I dare say that the S&P 500 is not a natural liability for many individuals or organizations to fund. Nor is some broader market portfolio. These are made-up constructs and should not be the prime guide for decision making. But the business of investing is tied to them, to its detriment and that of its clients (emphasis mine).