One day about ten years ago I came home from work and mentioned to my wife that I’d just joined the Investment Committee at Carnegie Mellon University.
“I thought you hated investment committees,” she said.
“I don’t hate them, I just think they’re totally dysfunctional.”
“So how come you’re on so many of them?”
I took a silent count. I was on eight investment committees. Worse, a little thumbing through my resume disclosed that the CMU Investment Committee was the fiftieth I’d served on in my long and checkered career. It was like waking up after thirty years and realizing you’d been hitting yourself over the head with a hammer all that time.
A sensible person would probably have resigned from his investment committees and gone on to live a long and happy life. Instead, I took it upon myself to improve the investment committee, to make it, that is, a little less dysfunctional. I knew it was probably hopeless – after all, I’d been part of the problem for thirty years – but what the hell.
The first thing I noticed about the investment committee is that it wasn’t really a creature of the investment world at all. In other words, the “investment committee” at a good hedge fund looks and acts very different from the “investment committee” at a college or family.
No, the investment committee at an endowed institution or a wealthy family is really a creature of the world of board governance. Boards have finance committees and nominating committees and investment committees and so on, and the world of board governance assumes that the same principles apply to every committee.(1)
Thus, investment committees tend to suffer from the same diseases as any other board committee, or any committee at all, for that matter. Virtually all investment committees consist of volunteers devoting their time to a board or a family as a philanthropic endeavor, a gesture of friendship or a desire to burnish a professional relationship. Hence, investment committees necessarily operate largely by consensus. No one wants to make waves or offend anyone else. Decisions almost always reflect the lowest common denominator, because to do otherwise would necessarily offend some committee member. (And that member may be the largest financial contributor or the senior family member.) But sound investing requires almost exactly the opposite: counter-intuitive thinking and a willingness to go against the grain of perceived wisdom.
In addition, since the duties of an investment committee are fundamentally different from those of other board committees, it’s important that committee members be chosen with special care. For example, money managers (especially hedge fund managers), stockbrokers and similar “financial” people tend to be unfamiliar with issues like asset allocation and they are also often temperamentally unsuited to the very long-term thinking that defines investment success in the institutional and family contexts.
Successful service on an investment committee requires knowledge so specialized and experience so extensive that it will be a rare board or family that can produce even one or two such people, much less an entire committee-full. This is a point that is usually ill-understood by board chairs, who generally appoint to the investment committee anyone with a generalized background in “finance.” Hence, investment committees typically include accountants, attorneys, bankers, investment bankers, brokers and similar professionals, few of whom are likely to possess the specialized skills and experience required to design, implement and effectively monitor an investment portfolio for a substantial pool of capital.
What experience are we talking about? Well, how about a sound understanding of modern portfolio theory, asset allocation, manager selection, performance monitoring, and a host of other skills that are very narrowly distributed through the population of any governing board? And when families establish investment committees, they tend to follow the institutional model, placing on the committee individuals who are unlikely to possess the appropriate skills.
In short, investment committees tend to fail because the demands on them are fundamentally incompatible with their capabilities. What to do? In my next post I’ll examine some of the efforts boards and families have made to try to make their investment committees less dysfunctional.
(1) For example, if you examine the “good governance” publications at places like AGB (the Association of Governing Boards of Colleges & Universities, http://agb.org/publications) or the Council on Foundations (http://www.cof.org/resources/board-governance), you’ll find no indication that the investment committee is any different from any other board committee.
Next up: The ICOM, Part 2
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Please note that this post is intended to provide interested persons with an insight on the capital markets and is not intended to promote any manager or firm, nor does it intend to advertise their performance. All opinions expressed are those of Gregory Curtis and do not necessarily represent the views of Greycourt & Co., Inc., the wealth management firm with which he is associated. The information in this report is not intended to address the needs of any particular investor.