of the Endowment Model
July 20, 2010
How can this happen?
If I did not know the investment consulting field better, I would suspect that this book is a hoax, like the so-called Sokal Affair in which a physics professor named Alan Sokal submitted to an academic journal of social science an article titled, “Transgressing the Boundaries: Towards a Transformative Hermeneutics of Quantum Gravity,” to see if it would get published, even though it was deliberate nonsense. (It was published; Leibowitz, Bova, and Hammond do use the word “quantum” in one of their sections – that’s when my suspicions that the book might be a hoax rose to their highest level.)
While it’s probable the authors had a good laugh amongst themselves over beers, from time to time, about the stilted language in the book, I’m sure they actually expect it to be taken seriously by readers, and I’m afraid that readers will take it seriously.
How can this happen? The authors are distinguished in the field, and the book is endorsed in blurbs by 14 other people who are also distinguished in the field.
But we already know, at last, thanks to the financial meltdown, how an entire industry – specifically the financial industry – can thoroughly delude itself, while composed of distinguished experts.
If one of the recommended alternative asset classes with a large positive alpha had been “CDOs,” the whole enterprise would have been exposed for the jargon-and-pseudomathematics-encrusted self-delusion that it is. But the publication date of the book is 2010, so of course no CDOs would appear.
Two alternative explanations present themselves for this book:
- The authors are making an earnest effort to serve fund administrators who are desperate for an objective way to make decisions, offering them a model that is admittedly flawed but still the best they have.
- The authors are engaged in a tacit conspiracy with fund administrators and money managers to create a fog of technical language to obscure the fact that they are scraping golden mega-crumbs in large fees off of hundreds of billions of dollars of institutional funds, on the pretense of providing expertise to enhance the funds’ returns.
The odd thing is that both of these interpretations can be correct at the same time. It’s quite possible for consultants to believe they’re doing the best they can – however unscientific and flawed – for their clients, the fund administrators; and yet at the same time what they do has the effect of draining the funds over which the administrators have charge, to provide very handsome compensations for the club of fund administrators, consultants, and managers. If the incremental fees charged for this “expertise” were only a half percent of assets, this would represent an 11% drain on assets over 25 years and 21% over 50 years.
Here we have the classical principal-agent problem in action. Agents who claim expertise and speak in arcane tongues of their own making pull the wool over the eyes of the principals, who don’t realize that they’re being had, and who are too widely-dispersed and unorganized to do anything about it.
Remember, the publication date of this book is 2010, not a pre-crisis 2006 or even 2007, before it became widely known that the mathematical models of the financial industry were bunk.
This book shows that the bunk continues apace on its own momentum, unabated.
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