The Country HOA and other Control Stories
August 9, 2019·1 comment·In Brief
A gated community in rural Texas has an ornamental gate with unmonitored bypass routes that open during business hours. Yet residents treat it as meaningful security. The same impulse shapes how investors cling to portfolio structures they know don't work. The human need to believe we have control overrides what the evidence actually shows.
- The gate serves no functional purpose. Alternative routes exist. Monitoring is inconsistent. Yet someone will stop their truck to block a stranger, convinced their vigilance matters. The mechanism doesn't secure anything, but the belief in it feels real.
- This same pattern repeats in institutional investing. Long/short equity offered the story of flexibility and control despite consistent underperformance. Asset allocators rotated between classification schemes not because they changed markets, but because they wanted levers to pull during recent winners.
- We actively seek evidence to confirm what we want to believe. When a structure gives us the sense of control, paltry confirming data becomes irresistible. We ignore that everyone is terrible at making the decisions these stories promise we can make better.
- The approval happens anyway. Firms with robust due diligence shove products into buckets they know don't fit because the flexibility story matters more than the model. The due diligence process itself becomes ornamental.
- This matters because we're not choosing between real and fake control. We're choosing between believing we have it and accepting we don't. Once you want to believe the story, you will always find evidence it's true.
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Comments
Several years back - “Go Anywhere” bond funds were popular (management companies were bringing them and wire-houses were approving them). On Rusty’s list, I see a “Go Anywhere” bond fund hitting #1 and #2 perfectly and scraping #3.
The problem large firms with robust due diligence processes had was not with the funds, but finding a way to fit them into their assets allocation models to get approval (the FAs wanted them and the committees - they can only buck the FAs, who make the money, so many times - wanted to approve them).
Since the FAs wanted them, the asset allocation and risk committees found a way and shoved them into an alt or opportunist bucket - or similar gimmick - even knowing that most FAs would use them more broadly for their clients’ fixed income exposure, which, owing to the wide variety of investments in the funds, didn’t really meet the asset allocation model’s fixed income bucket’s requirements.
So, one, “Go Anywhere” funds are “Control Stories.” But also - and maybe more interesting / revealing - how “Go Anywhere” funds got approved shows how firms’ oh-so-important “due diligence” processes and “asset allocation” models are like the gates at Rusty’s parents’ HOA - effectively, firms’ due diligence processes and asset allocation models are just more Control Stories.
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