I write pompously about an idealised approach to investing that’s impractical for most. Be highly selective. Stay inactive most of the time. Buy big amidst panic. Hold forever. Think absolute, not relative. Ignore short-term. Much as I’d like to take credit for this, the way I invest is almost entirely a function of my context, not my abilities. Had I operated in a different structure and incentive scheme, I’d have invested very differently. I (am lucky to) operate within an atypical context that combines the best of private and public markets.
Public market context is great at the front-end but problematic at the back-end. Like Arjuna’s quiver, manic depressive Mr Market is an inexhaustible source of opportunity. With basic training, one can find good deals most of the time in some corner or the other. Unfortunately, back-end context makes it hard to back up knowledge with action. Investors don’t control timing or quantum of fund-flow, both on the way in and on the way out. As fickle clients get swayed by short-term results, entire system gets distorted to measure and incentivise the same. The impossible task of looking smart over the short-run prevents professionals from performing the possible task of finding sensible investments for the long-run. I’m not acquitting my ilk of professional responsibility for chronic underperformance, but pointing out that context is a part of the problem.
Private equity context is great at the back-end but problematic at the front-end. PE has locked-in, long-term funds that are drawn down over 4-5 years at investor’s discretion. It can’t get better than this to invest only when appropriate. Unfortunately, front-end is Mr Promoter, not Mr Market. Not only is he rational, he’s better informed. Better qualified promoters bargain from a position of strength, as they don’t have to take money on others’ terms. The best don’t need money at all. Amidst panic, market shuts down altogether except for a few deadbeats looking for bail-outs. More generally, there’s no PE market that’s open all the time for all companies. PE is an over-the-counter product that operates one company at a time, for limited time-windows, efficiently intermediated.
My professional context combines a PE back-end with a public-market front-end. I (am lucky to) control quantum and timing of fund-flow and operate with long-term capital. Whether Mr Market offers a decent bargain in a business that I understand and like is the only criteria for investing. This lets me practice and write about a certain way of investing. Had I operated in one of the above contexts, I’d be investing very differently. Had many who operate in a more challenging context operated in mine, they’d do way better (and write better too). The only downside in my context is that if I screw up, I have no excuse. As problems go, that’s as first-world as it gets. I am not implying that context guarantees excellence, as many investors have screwed up despite similar advantages. But without right context, even talented investors face adverse odds.
Our natural tendency is to judge others (but not ourselves) as individuals, without regard to context. And that’s deeply unfair. It’s like timing a runner without considering whether he’s running upslope or downslope. We evaluate business managers without factoring how easy or difficult their industry context is. We judge accents or kids without factoring home environment. It’s not that individual ability or effort doesn’t matter, but that our evaluation doesn’t necessarily isolate that from context.
Often, contextual factors are cleverly hidden. I have seen CEOs with great track records move to a different organization and end up as a pale shadow of their former selves. That’s when I realize that the context created by (understated) promoter is a bigger factor in company’s success. Promoters create a certain context, in terms of values, culture and selective interventions, which isn’t apparent to an outsider. Sometimes, even insiders tune this out to take disproportionate credit. Company context is a messy interplay of internal and external factors, where it’s hard to truly establish how much credit a particular individual deserves.
Back to investing. I have disproportionate respect for fund managers who have stellar long-term track-records despite operating in a sub-optimal context. I know for sure that I’d have done worse in their position, likely way worse. I especially credit the lead person at such funds, as he must have personally absorbed contextual pressures, insulating the team and allowing a DNA of sensible investing to develop. Over the years, earned credibility might make this task easier but it’s always non-trivial. Other parts of financial services also exhibit a similar dynamic. Every sub-category has one or two players who seem immune to short-termism and risk-chasing that plagues the industry. Founders have somehow gone against grain to foster a sound internal context. Unlike mine, their advantage is cultural, not contractual (although, over time, our culture has evolved to reinforce our contextual advantage). I’ve found such advantages to be surprisingly persistent as there’s no one lever available for a competitor to recreate it from a different starting point.
More generally, we’re surrounded by criticism and negativity. It’s increasingly fashionable for armchair commentators to dump on those in difficult real jobs. World has way more Bhogles than Kohlis. I’ve done an unfair share of it myself. In more sober moments, I realize that such cribs are unfair to individuals. Whether in crisis or normal times, contextual pressures determine a large part of what people do, especially those who the buck stops at. Even where we appreciate context, hindsight makes it seem less murky than it was in real-time. Decisions made when multiple narratives were possible can look silly after only one of those played out. Before berating a batsman for turning down a single in final over or a public administrator for not doing everything yesterday, it would be nice to picture their context as they experienced it.
Individuals matter, but are overrated. Context matters more, but is underrated.
PS. I’m back to writing essays on investing after a short break. I hope to publish two a month. I strayed into covid-related number crunching because top-of-mind nature of topic overwhelmed my contextual ignorance. I view that series as an attempt at numeracy rather than insight. In any such digressions, exercise extra caution in trusting the author. Remember, context over individual.