The untimely passing of David Swensen has led to a lot of self reflection in the world of asset allocators and alternative investment professionals. Swensen pioneered an investing method that moved beyond traditional stocks and bonds, and into more exotic alternative investments and real assets. In a previous article, we highlighted the three pillars of David Swensen’s method of investing, as summarized in the Economist. John Authers of Bloomberg recently added to the voluminous commentary around his death.
Although the endowment method has been covered extensively in books, articles, and webinars, few imitators have been as successful at achieving the level of returns achieved by Swensen. As Authers notes:
But it’s still necessary to understand a little more about the man’s legacy. None of his imitators have managed to perform as well, even though many are just as clever as he was, and enjoyed comparably big inbuilt advantages. Why did Swensen apply his own model so much better than the many brilliant asset allocators who have followed him?
Authers posits that he enjoyed first mover advantage. When he started allocating to hedge funds and private equity funds, they were exploiting truly unique market anomalies that no one else had noticed. Over time more and more funds entered the space, and the returns were arbitraged away. Moreover, more and more opportunistic and unscrupulous people entered the industry. Meanwhile, the early successful funds closed to new investors. Late adopters were left with a difficult problem of filtering a less stellar opportunity set.
Yet there was more Swensen’s success than just the first mover advantage. Quoting from the article:
This is important to note because there is some revisionism afoot. He showed that it was possible to make a lot of money in alternative assets; many alternative asset managers showed that it was possible to get very rich by feeding the appetite for their product that Yale had created. Hence there are attempts to blame Swensen for the growth of “2-and-20” hedge funds, after a decade in which their business model has looked ever worse.
That is more than a little unfair. What follows is my attempt to summarize and synthesize what might be called the “soft skills” that allowed Swensen to make the Yale model work so well for so long.
Everybody has their own interpretation of what made Swensen succesful. Here are the key tenets that Authers identified:
- Know your comparative advantage
- Be the best client you can be
- Be a Coach
- Be a scout
- Don’t just take what’s on offer
- Minimize turnover
- Treat your bosses well(and choose your bosses if you can)
- Groom successors
- Risk control, risk control, risk control
Perhaps the last item is the most underrated. Indeed all of the other tenets of Swensen’s method were joined under the discipline of risk control. He had deeply studied academic literature on risk management, and this allowed him to be comfortable making contrarian long term bets.