Patience in the Time of Least-Worsts

Yesterday, I caught myself chain-drinking Diet Cokes again. With about ten ounces left in my Double Big Gulp, I’d start waltzing over to the 7-11 on Lytton. By the time I got through the door, it’d be time to reload.

Maybe it was the caffeine, but back in the office after my third trip – cumulatively $2.97 lighter in one kind of liquidity, but 192 ounces heavier in the other – I started freaking out. After all, there are a lot of chemicals in Diet Coke. Would my habit end with a baseball size tumor in my head? I am the lab rat.

I once talked to my pal Ross about my Diet Coke problem. He’s a legit M.D. (as in Medical Doctor) and he went on a riff about caffeine addiction. He then talked about the psychological issues that caused me to chug DC. Cliché that I am, I drink up in times of stress.

And what stressful times we live in! You can’t take a meeting nowadays without hearing tales of struggling portfolio companies. And some of these companies need serious cash infusions to stay alive. Good money after bad? Bad money after good? Who knows? Either way, people are spending a lot of time facing dilution and worrying about company mortality.

And then, there’s the constant stream of managers asking for amendments to their documents allowing them to do crazy stuff like borrow money so they can buy Elbonian sovereign debt (don’t worry about UBTI or style drift, lad, we’re being opportunistic!).

Now, LPs want to be supportive, but only to a point. And for some LPs, GPs are getting perilously close to crossing a line. And some of those LPs are starting to talk about pitching out every last one of their seemingly-hapless managers. Or at least refocusing their portfolios on something that’s hot. Like secondaries. Or distressed. Or distressed secondaries. Or secondary distress.

Now I’m not against being nimble, but we’ve gotta guard against being rash. After all, rashness is the curse of the public market investor. In charitable moments, I like to think that we private market investors are more patient, more thoughtful. At less sanguine times, I’m glad that the PE fund structure keeps us from being too quick on the trigger, like those wacky personal investors.

Which leads me to my all-time favorite bit of research: there’s a great Morningstar study that recounts the experience of mutual fund investors over a five year period beginning at the end of 1989. Over that time, the S&P returned 12.22% per annum over the period (ahhh, the good old days!). And, in the same period, a group of funds Morningstar examined returned 12.01% (on a time-weighted basis). Fair ’nuff. But the kicker was that the actual investors in those funds only achieved a 2.02% dollar weighted annual return from the funds. That’s over a thousand basis points of leakage (!) due largely to market timing. There’s a lesson there about chasing performance.

But wait a second: it’s not just the personal investors who are buying high and selling low. I mean, look at commitments to VC about a decade ago, or to megabuyouts a couple of years back. I guess it’s just human nature to chase the shiny new penny (and to take comfort in the fact that other people are doing it alongside you).

Sometimes, too, people fixate on running from something, instead of what they’re running to. We’ve all had anywhere-but-here moments – they’re particularly common nowadays – but it’s important to resist the whip-saw. After all, our managers didn’t collectively take a buffoon pill during late-2008. Of course, we may have missed potential land mines in our diligence, or perhaps the stress of funky markets has exposed previously-unseen flaws. But we loved all our GPs once, and we loved them for good reasons.

And every now and again, we need a little reminder of those reasons. So when I find my conviction a-flaggin’, I’ll pull open the bottom drawer and re-read some old investment memos. That’s a great way to pull yourself back from the ledge.

In a time when people want to do something (anything!) to feel like they’re in control of uncontrollable events, it might be worth taking a moment to reflect on the admonition that Truman’s Secretary of State, Dean Acheson, directed at staffers who were getting over-excited during the early days of the Cold War: “don’t just do something, stand there!” Since, just as we were in those days, we’re living in a time of least-worsts, maybe now, as in those days, patience will end up being a critical element of the road out of this mess.

This post originally appeared on Chris’ Super LP blog.