The Investor's Consigliere

Asperger Arbitrage

This long profile of Mark Zuckerberg in the New Yorker includes a litany of descriptions that bothered me. Consider the following:

• Zuckerberg is described as "a strange mixture of shy and cocky"
• Zuckerberg is described as "wary and private," someone who doesn't enjoy speaking to the press or speaking in public.
• People complain that Zuckerberg is "a robot"
• Zuckerberg "sometimes talks like an Instant Message--brusque, flat as a dial tone"
• Zuckerberg is called "the poorest rich person I've ever met in my life" by Tyler Winklevoss, because he does not spend money on consumption.

Then, the author contrasts Zuckerberg's insufficiently social and outgoing personality with his status as the creator of a social networking website that is apparently hell-bent on forcing people to divulge private details about their lives. That's called irony I guess.

It seems to me that when someone has traits we sometimes associate with Asperger's (I define that term somewhat more loosely than the clinical definition, in the spirit of Tyler Cowen), and that person is in a position of vulnerability (e.g. a child, or the person you ignore in high school), then those traits are dealt with in a sympathetic way. But when that same cognitive profile produces a billionaire, then those traits are turned on their head: They become unsympathetic, sinister, even evidence of some kind of hypocrisy. 

You often see the same cognitive profile in the world of money management. In fact, there is plenty of evidence to suggest that Asperger traits are found in many of the world's best stockpickers. And truth be told, you often see the same kind of subtle discrimination, especially as the world of hedge funds becomes more institutionalized. I don't think I exaggerate when I say that simple social polish can sometimes mean the difference between managing a $2 billion fund and a $200 million fund, even when the latter is a much better investor.

I think the best venture capitalists and hedge fund manager selectors practice a kind of Asperger arbitrage. Like the kid in high school who was friends with both the jocks and the nerds, he/she can navigate both the world of institutional investors who allocate to VC funds and hedge funds of funds, and also the much different social world of the tech founders and hedge fund managers themselves. The author of the Zuckerberg profile is not one of those people.

Bryan Burrough's Vanity Fair Profile of Marc Dreier

Anyone who co-wrote Barbarians at the Gate belongs in the Business Writers Hall of Fame.  Anyone who wrote Vendetta about Edmond Safra also belongs in the Hall of Fame.  Anyone who wrote The Big Rich about the great Texas wildcatters belongs there too.  Bryan Burrough did all three, which puts him on Mt. Rushmore. 

Now that I've regained my composure:  The November 2009 Vanity Fair features Burrough's extended profile of Marc Dreier, which Dreier cooperated with.  It's a shame Bernard Madoff came along and ruined everything because Marc Dreier's scheme was even more audacious and difficult to imagine.  It's one thing to go after and defraud the naive and the gullible, rich widows and orphans and status-seekers who don't know much about investing, and to do it via a Ponzi scheme, which has an internal logic to it that makes it easier to prolong.  Dreier just "went full con artist", which everyone knows you should never do (start watching at 0:25 and stop at 1:10), and he went after and defrauded the best, stealing from a who's who of hedge funds.  

The obvious question is how someone like Dreier could have stolen so much from people who are so good.  And he stole the most from the best--you're just going to have to trust me when I say this.  Without knowing the details of the scheme in full, all I can say is that if Dreier had had to deal one-on-one with the managers of these hedge funds, rather than with people who reported to them, he would not have had a prayer of success.  It's one of the buried risks of investing in large funds--the founding genius can't oversee everything.

Marc Dreier Profile in New York Magazine, and the Perils of Reputation

Another case study in investor seduction.  Dreier swindled some very sophisticated people.

As far as I can tell, the foundation of Dreier's (short-lived) success as a con artist, the reason he got in the door to see all those hedge funds, was his mere reputation as a high-profile attorney representing high-profile clients. 

Reputation, and its close cousin pedigree, is the largest early filter money manager selectors use when evaluating fund managers.  Simply put: for whom did you work before you started your fund?  It's probably a necessary filter, but every tool in the manager selector's toolbox has its weaknesses.

I hope to expand on this in a later post, but in the context of this one I'll note three of the weaknesses of the reputation filter:

The first is obviously that a good pedigree, in the wrong hands, can be wielded as a tool of seduction, of con artistry. 

The second is that reputations rise and fall, and the fall is often swift.  Warren Buffett famously said that it takes a lifetime to build a reputation and five minutes to ruin it.  Somebody has to be sitting at the other end of the table during the five minutes, and you don't want it to be you.

The third is that for all its importance, the reputation filter is a commodity, and so adds little value to the manager selection process.  I know where you used to work and how much your old boss loves you, but so does everyone else.  

Cialdini on Madoff

An essay on Madoff, by the master of the psychology of persuasion himself, Dr. Robert Cialdini.

Bernard Madoff Plea Statement

Via Reuters.

Bernard Madoff: Case Study of a Seducer

Two more Madoff profiles, one in New York Magazine, one in Vanity Fair.  Naturally they focus not on the technical aspects of his fraud but on how he maneuvered among and affected Society (not to be confused with "society").

Bit by bit, little details emerge about Madoff's seduction tactics, which worked remarkably well on a group of people you would have thought was not vulnerable to it.  Either he was extremely good at the art of con, or his victims were more gullible than I thought, or a little of both.  Most people concentrate on the latter, but don't discount the former. 

(What makes it even more amazing is that, unless I'm missing something, his taxable investors didn't earn all that much more investing with him than they would have in municipal bonds.  The idea that Madoff "made people rich," as the VF article in particular states, doesn't seem plausible.  Per the NY article his returns averaged 12% a year, which as I understand his trading strategy would have been taxed near the top marginal income tax rate.  For most of his NY investors that's about 50%, so their net returns after tax were not that much more than what they could have earned in NY munis.  But there's no country club for people who invest in NY munis.)

Seduction--in the non-sexual sense of persuasion based on something other than the pure merits of something--is not taught in school, and it's a highly undervalued part of investment manager selection.  It's a dark art, but I think it's ultimately amoral, not immoral.  Legitimate investment managers, especially those looking to raise money, should probably study Madoff's methods.  Unfortunately, they work. 

Not on me though . . .

 

The Continuing Danger of the Young Money Manager

One of the few consolations of the terrible last year in markets is that very soon we won't have to hear some version of the following from older money managers:

"These young hedge fund managers, some of them only started shaving yesterday.  They've never lived through a bear market like I have so what the hell do they know about investing?"

True in a sense, but be careful.  First, the veteran can lose money just as easily as the rookie. 

Second, and more perniciously, just because a young money manager has been humbled does not mean he now shares your thinking about risk.  And in a few years' time, when young hedge fund managers are back raising money for new funds, and they boldly advertise "I've learned my lesson," don't be so quick to believe them.  The game of institutional investment management (especially for family offices) is largely about the Old and the Rich entrusting their capital to the Young and the Poor.  But as every older person, no matter how wealthy, knows, the young will always be richer in the one thing that matters most--time.  It's perfectly rational for a younger person to take more financial risks because if things don't work out he can always start over.  Charlie Munger, who today preaches jeremiads against debt, was in his youth a highly leveraged real estate developer.  Even Warren Buffett borrowed money to invest when he was younger.

Stephen Greenspan: Fooled by Ponzi (and Madoff)

Stephen Greenspan is a professor of psychology and an expert on human gullibility who was nonetheless one of the victims of Bernard Madoff.  In this article from skeptic.com, a version of which also appeared in the WSJ this weekend, he describes what happened.

More on Marc Dreier

Via the NYT.

Bernard Madoff

Via Bloomberg (here too) and elsewhere.  It's not just the size of the con, but also the size and prestige of those who were conned.

Bravo to Jim Vos of Aksia LLC, Harry Markopolos, Brad Alford of Alpha Capital, James Hedges and others, for upholding the good name of investors in investors.

Update--much more here:

The New York Times:  Here and here and here and here and here.

Charles Gasparino

Reuters

The Wall Street Journal

The Financial Times

London's The Times and The Independent

The AP