[REPLAY] - Ashby Monk – Innovation in Institutional Portfolios (Capital Allocators, EP.196)

28:03I have the ones I want. I want everybody to know how much it costs to produce return. I want to know what it costs to move the money, hold the money and manage the money. Those are different types of costs and different functions. And we can get to the bottom of all of it. So for the professional institutional investors of the world, you don't get to tell your stakeholders you got free trading because you're on Robinhood. You have to take the next step and get in, understand what like the market impact is and all these different things of your strategy. The other one I would go for is climate risk.

28:40Climate risk is one of these long horizon risks where it's like existential in some cases for portfolios. If you own huge amounts of real estate in Florida or in New Orleans, you should be reporting that. And all I'm looking for is the reporting. If you want to justify that climate change isn't real because that's your belief, go for it. But the reality is until we report this stuff, people can kind of sweep it under the carpet. The other one I think is useful just right now, especially given everything that's happened in the U .S. over the last two years, is diversity and inclusion. Let's just get data on how we are doing as a pension community on investing in people with different backgrounds.

29:26It's a super uncomfortable topic. And I recognize that I've been to my fair share of investment conferences and it's a lot of people that look like me and you, Ted. But like at a certain point, let's just measure it and figure out are the diversity numbers in our portfolios the same as the diversity numbers in our society? I'm not asking to change the weightings. I'm just simply saying, let's figure out if we are reflective of the society that we live in. And if we're not, at least we now understand that we're not, and we can begin to have some pension plans take a meaningful step towards solving that problem.

30:03What have you seen in some of the ones I know were your favorites in terms of how they manage capital, say Australian Super and New Zealand Super? How are they tackling these issues? New Zealand Super is one of the most thoughtful climate investors in the world. They've truly integrated it into their decision -making and they live and breathe that kind of long -term moniker. They're really trying to look out into the distance and understanding how they should be tilting their portfolio to be sustainable. And in fact, I think in the last year, they reached out because they've relaunched their entire climate project.

30:38And so what that tells me is there's no end state. It's like the way we build technology in Silicon Valley. We don't put out a piece of technology and call it done and wash our hands and walk away. The best investors that are thinking about climate are continually renewing their commitment to understanding the consequences of climate and thinking about how they integrate that into their portfolios. And I can tell you that New Zealand Super, despite the fact that you can look in their annual report and you'll learn more about climate investing than anywhere else probably available, they're still back to the drawing board trying to figure that out.

31:17I've got huge respect for that. Australian super and the Australians in general, they're just the future of pensions in the world. They're competing for members and they're competing to survive because the regulator after the Royal Commission was like, we don't need this many super funds. So in a world of like monopolies, Australia is this like beacon where you actually see organizations living with the fear of exit. And that is pushing them to professionalize and mature and begin to integrate these things into their decision making. And oh, by the way, Ted, one of them, REST, Retail Employee Supertrust, was sued by a member for not taking climate change seriously.

32:01And yes, the lawsuit was settled. So I don't know if we actually have a full detail on what the settlement was. But what I can tell you, there is no super fund in Australia now that isn't like, oh my gosh, we need a strategy for managing and integrating this ESG into our decision making, in particular climate. What are you seeing from the Canadian plans? No, I've been doing this for two decades now. And the Canadians were the ultimate professionals in the beginning. Arms length governance, actually double arms length governance structures, truly focused on commercial and fiduciary duty, which is another way of saying they did not get distracted by the politics.

32:48which having done projects in the US, boy, that's a luxury to be able to be in an operating environment. In theory, politics generally doesn't make its way into the Canadian pension plans. And for a long time, the Canadians unfortunately linked the climate discussion to that stakeholder influence over decision -making discussion. And sometimes the senior executives were like, look, this is an issue we're kind of having to deal with, but it's getting in the way of making the performance to meet our objectives. You do remember, Ashby, like our objective is to meet the beneficiary's needs. And it's like, of course, there's a point in the future where climate change harms that ability.

33:32And it's that realization that I think has taken place in the last three, four, five years inside the Canadian pension plans and turn them from kind of being slow to move in the climate space to being truly innovators. There's like eight plans that came together, commissioned a working group, and they're collaborating on the development and all these new climate risk analytics that they're trying to bake right into their decision making. And that launched in the last 12 months. That's awesome. That's collaboration to facilitate innovation with a long -term view. So I'm pretty pleased with that.

34:09Obviously, we'll see how it all plays out and whether or not it kind of gets baked into the true decision -making. The challenge I have in all this, Ted, most of this stuff is in another zip code. The climate is sitting in the ESG team and the ESG team is not really in the investment team. And when you read the investment memo, there's all the investment risks and then there's the ESG risks. But the reality is the ESG stuff is just pre -financial risk. I'm on the future of finance counsel at the CFA, and it's actually Roger Irwin who instructed me on this. He's like, look, we should just be thinking about ESG as pre -financial risk.

34:46It will become financial if you give it enough time. Why doesn't that sit with the risk teams? Where does that conversation break down? Because it feels like in the last year or two that ESG is top of mind. You're seeing it coming from the CIO into the investment operation and whether that's sort of pre -investment or part of the investment process. It doesn't feel like it's being siloed to the side. Why is that not happening at some of these institutions? This is the great project for the next five years. And this is hopefully a call to action for the academics and researchers and consultants.

35:25It's starting to happen, but the key is that word integration. And the better word is translation. We need to translate ESG into financial speak. Allocators are starting to take ESG seriously. Like we've seen through the recent crisis, ESG does offer some downside protection. That's in the data. ESG offers a chance to really get deep understanding of assets, which hopefully helps you figure out what you want to hold for the long term. But the reality is we have to take that next step and translate ESG into things like discount rates, cash flows, damage projections, insurance costs. And look, I don't want to like toot all the things that I'm doing, but like, as you know, Ted, I've been building a bunch of companies over the last five years, which is sort of a weird thing for an academic to do.

36:23Part of the reason I've been doing that is I came to this realization that we actually just need companies to start this hard work of like translating alternative data and ESG data, which I think is a sub ESG is a subset of alternative data into things investors can easily integrate even into a spreadsheet. I'm a huge hater on spreadsheets normally, but let's just acknowledge where the investors are today. They're modeling stuff in spreadsheets. So we need to give them a number that they can put in their spreadsheets. One of the companies I'm a co -founder of, I'm on the board of, is this company, Future Proof.

36:58We've built hardcore financial economics to project the financial cost of climate change. We can show you the annual property damage across the U .S. and actually now the world out to 2100. We can look at corporates and help you understand in your equity portfolio in dollars and cents terms how climate change is going to affect those corporates. But the key was like building a business that is in the service of that translation function. It's not just like, can we make the climate science better? There's tons of great climate models. What we think the world needs now are climate models that are translated into financial models.

37:39And so that's what we did with Future Proof. What are some of the other tech startups you're involved with these days in line with this whole thesis? Future Proof, I'm on the board. I was a co -founder. It was started on my balcony at Stanford. I've been going two years. The other one that is kind of in this specific thesis would be net purpose. This amazing woman, Sam Duncan, she came out of Leapfrog. She'd been at Goldman Sachs. And she was like, look, there's a problem with the way we measure impact. We've got all these ESG ratings. But the reality is, if you want to change your portfolio, you have to have a sense of how this ESG framework actually drives impact.

38:21How much carbon is being reduced by my investments? How many people are getting vaccinated by my investments? And so net purpose is literally trying to create – it's like ESG, but it's ESG and impact in the sense that all this SDG world could be boiled down into metrics that you could then integrate into a decision making. And that's what net purpose is all about. And then there's all the work I'm doing at Adapar and the work that I'm doing at RCI, which is tangential to that because we're all about helping investors model their future through something I call portfolio navigation. So we were talking in the beginning, we were talking a lot about cash flows and how the investors are using spreadsheets to do all this stuff that's like mission critical, projecting when to rebalance.

39:13you want to do a fund commitment and you need your analyst to go away and figure out, well, what are my unfunded commitments? And I need this now so I can figure out how much to commit. And then based on my set of exposures, what are the likely outcomes in terms of capital calls in the future based on different scenarios? Like all this stuff was living in spreadsheets. And so we wanted, before Adapar, I was co -founder and president of this little company, RCI, and we built this toolkit over four years called Navigator. The analogy I would do is like, before we think about navigating in your portfolio, let me like walk you through what changed in personal navigation.

39:54And then I'm gonna bring that into the world of investing. In personal navigation, like when I grew up, we had these paper maps in our cars, trying to get from A to B was like playing battleship. You would like figure out the city and the key and then it would give you a grid and you'd put your finger on there. And the green and the red lines, that wasn't traffic and no traffic, that was highway and freeway. This was like a literal paper -based world. And that's only 20 years ago. And so what happened? Well, three key things happened to personal navigation. We got GPS on our phones. So now we know where we are all the time.

40:33We're able to define our destination very tightly and with math. Google indexed the world of opportunities for us. So if we know where we are and we know we want to go to a restaurant in San Francisco, Google can help us figure that out to the very precise point. And we also then know the paths between here and there. And all this has been possible thanks to the rise of obviously GPS, but it's really this alternative data world, ESG, alternative data. Remember the E is environmental. So like traffic on a road, you might think of as environmental data. Waze, which is another way of driving, is kind of the social behavior of traffic.

41:15How do traffic jams prosecute across urban environments? Well, it's because you have gawkers and agent -based models will tell you how traffic jams work. Just put it to the side and say the whole world of personal navigation has been completely upended by data models. and this incredibly elegant device, the phone. And what we were thinking at RCI was like, what the heck do we need to build this simple of a framework, not like having 40 Excel spreadsheets, but an elegant framework for helping a chief investment officer understand the best paths to take in order to meet their goals and get to their destination.

41:58Well, you need same things. You need GPS. So in our context in investing, it's like, where's the portfolio today? We need granular, unified data. Going back to that Canadian pension plan, we need to know where we are to know where we're going. We need to know the routes and we need to know the goals. And if we have the routes, goals, and location, then we can begin to optimize. Our vision at RCI and with the Navigator software was ultimately to support this intelligent, data -driven decision -making among asset allocators, multi -asset allocators, that was like aligned specifically with their tailored and unique goals.

42:41Where are you? Where's your portfolio? Everybody's different. And what is your destination? That's also different. And so guess what? The advice we give you on which roads to take to go between where your portfolio is and where it needs to go should also be unique. And it should be stress tests to certain scenarios that are relevant to you. And we built all that in software. It took us four years. We built it inside some of the pension funds you've already mentioned. I called in some favors at Australian Super and CBUS and Coal Pension Trust and a few others. And we worked with them hand in glove to make sure that we could build these projection tools.

43:21And we did it. And in fact, with this system, we were able to help some of our customers change their strategy, change the amount of cash they're holding, change the diversification they require because they weren't worried about capital calls that were too big. And then the part that we learned, especially coming through COVID, was it's incredibly hard to do the GPS part. We had nailed the modeling, the forward -looking, deterministic models that allow you to get this view. We could do all the private equity fee structures. We could do all of the liquidity gates and hedge funds. All of this is modeled down in a very granular basis.

44:04What was really hard to do was to get all the data unified, to get it into the system. It could take six months. It's like when you said at Yale, we had all this data. It's a huge lift to get this stuff out of the custodians, out of the general partners, out of the hedge funds, and get a true sense of where your portfolio is in real time. And that's where the partnership with Adapar came. Because Adapar, I guess I'm biased at this point, but even before we joined forces with Adapar at the end of last year, they were like the ultimate leader in data aggregation, analytics, and reporting. There's hundreds and hundreds of engineers, incredibly ambitious team trying to solve this data aggregation analytics and reporting problem, which is another way of saying they are building the satellites and the cell towers for your portfolio to do GPS.

44:58And so when we joined forces, it was like, all right, there's the GPS. We've got Google Map functionality of the routing and the destination. And the hope here is that we're going to build this entire portfolio navigation toolkit for investors. And coming back to this notion of ESG, once you have that portfolio navigation that's tailored to you, then you can start to do things like constrain your portfolio based on different themes. I care about sustainability. And so I'm going to build a portfolio map that aligns with that sustainability goal. I need to get to the same destination and you know where I am, but show me a route that aligns with that sustainability goal.

45:44That's the same as saying, I want to avoid toll roads. I want to go and drive on a scenic route to San Francisco. We should have that. It's not that hard. We're literally not putting people on Mars with this. This is like, it's a coordination problem. We're not filing tons of patents. It's a software problem and a data aggregation problem and a process problem. You come through a lot of these organizations that are at that leading edge of innovation. They're trying to do the right thing. And then I know we had talked about you did work with a certain state. And for the heck of it, let's just call it the state of Pennsylvania.

46:21And it sounds like that one didn't go quite as well. So I'd love to hear the story of your involvement and what happens when one of these things goes awry. Yeah, that was a hard one. And as a rule, Ted, you probably don't want your pension ever under investigation by the FBI. From what I read in the news is where they are now. But I'll need to be a little bit careful. I was the consultant, and I'm sure there's NDAs out the wazoo, and certain people are listening to this holding the NDAs right now. The report is public, and so you can see the difficult things we wrote and the positive things we wrote.

47:01And, you know, I was even grilled as part of the commission and you can go watch the video. But what I can say is this. I was surprised going into that project. One, my sense in it was that all of the actors actually, like we talked about earlier, the reason for non -transparency is that these actors feel like they want to be able to pursue the goals that meet the needs of the system. and they don't trust the other parties to allow them to do it. I think that was what was kind of happening here. I didn't meet anybody that I was like, wow, you're dodgy. Like everybody's great. Everybody's mission driven.

47:45Everybody wants to do the right thing. The problem is the environment is incredibly political. I don't mean partisan. I mean politics. And so the way that people are making decisions, Even the way that I was allowed to conduct interviews of the staff at some of these plans was completely devoid of trust. My interview at one of those organizations was me sitting in a room with 40 people, and every single person had to say what they were going to say to me in front of the other 40 people. So you can imagine how candid that was or lack thereof. It was a strange project. But in the end, I give those guys credit, especially former treasurer Torcella, for saying, look, we're a state plan.

48:40We have a difficult bogey that we have to hit in order to meet our pension obligations. And we want to do what's needed. And they brought me in and they launched a pension commission. and they like, once again, I would say here we are talking about them and they're under investigation by the FBI. But part of me is like, there was a palpable sense that they wanted to improve. And so I'm not saying they're good guys, but I'm saying, and maybe they are good guys, but I am saying that like, it's interesting to me how like we do create these disincentives for being the good guy. So for those people who are probably not inclined to go read the transcript of what you said in public, what was the worst or most surprising thing that you found that you've already said in public?

49:28Yeah, the performance wasn't what I actually expected it to be. After meeting with them, I was actually quite impressed with their portfolio construction and the way they thought about investing. And when we got done with all of the analysis on a risk -adjusted basis, it was much worse than I thought. And then there was a sense for me that this was a governance challenge and that because the board struggled to understand the complexity of the portfolio that was being built by the team, that the team could get ahead of the board in terms of its investing. And so it's not surprising, but it's like all these organizations need boards of directors that can hold the staff accountable, that understand derivatives contracts and how they're priced and what the tail risks are for certain different assets.

50:20It didn't jump out at me in that context that there was a bunch of people on the board that had that knowledge and skill to hold them accountable. And this project didn't start out as a governance project. It started out as a question, should they go passive or should they keep being active? And the project ended quite clearly as a project on governance. All right. I want to ask you a couple of closing questions. Before that, though, would love an update on Long Game. Yeah. So Long Game, we are personal finance application to try to help young, but really all Americans save more money. So the thesis is young people, Americans are having trouble saving money for a bunch of things, but especially retirement.

51:05And they struggle to engage in their finances. They find it scary, daunting. And so Lindsay Holden and I started a company, I guess probably five years ago, to try to make this process of saving money fun and build, sounds cute, but build games around it. And our thinking and our thinking remains that this is the next phase of behavioral finance and what we think of as the nudges of personal finance. We are going the next step, which is to bring a bunch of extrinsic motivators, games, variable rewards, into the toolkit to push positive financial behavior. And we are doing great. I mean, we're now working with a series of banks to help them with their customers.

51:54The pivot along the way was to say our IP is in engaging young people in their finances, acquiring savers at much lower cost than all these other banks, and getting them to save money and then do positive things in their personal financial world. And so we started working with banks and we have a whole series of banks that we're working with now. We're in 50 states and we're continuing to fight the good fight of pushing young people to get on top of their finances and pulling all the levers we can to do so. You can still win a million bucks on Thursday if your numbers come up just for doing the right thing.

52:35All right, Ash, what's your favorite hobby or activity outside of work and family? I think it's probably for me, especially in this COVID world, the garden. I've been stuck here in Los Gatos, California with my family. And we have a little bit of space because we live up the hill. And I've been planting trees. You can order trees, they get delivered. I think I've planted 60 trees in my backyard and front yard and everywhere I can find a tree. It's probably like driving my neighbors crazy at this point. And you'll show up at my house in 30 years and you'd be like, what the hell was going on here?

53:09But it's kept me sane by getting out and digging holes. What's your most important daily habit? We've gotten in a routine with our kids, my wife and I, every day at dinnertime, we all have to go around and say the two things we're grateful for. There's so much pain and anxiety and insanity in our day -to -day existence that flexing this muscle every day of being grateful has actually been awesome. First off, it just inspires interesting little conversations around the table when you hear what your kids are actually grateful for. But it's also like a nice exercise to go back and remind yourself that you have cool stuff going on, even when your companies are almost failing and you're fighting for their lives and the world is kind of melting down around you.

53:53What's your biggest pet peeve? Bad listeners. It happens to me where I sense people are just waiting for my mouth to stop moving so they can do their next point. And I just can't stand that. I think it, especially in the world of venture capital and entrepreneurs, where like everybody says their story so many times because they're obligated to, it can actually just lead to like one robot talking to another robot rather than human conversations. I love to like try to disrupt the flow of somebody's spiel. And so that's the way I'll do it. All right. Which two people have had the biggest impact on your professional life?

54:34Yeah, this is a good one. The two for me that I picked are Jagdeep Bashir and Elliot Donnelly. So Jagdeep, I think I met him in 2010 and he just didn't see me as an academic. I think he saw me as like something else. And so he gave me the confidence that my ideas weren't just ideas and that we could actually build stuff around them. and I became an advisor at AIMCO and we did cool projects. I have a couple of photos from back then where like the first time he flew me up to Edmonton, which by the way, was where I was born, flew me up there. We had this whiteboard and we like literally whiteboarded, I don't know, three or four like wild projects that we wanted to work on together.

55:16And we recently went back to that whiteboard and we did them all. It's like this amazing thing that I was sitting here in academia thinking deep thoughts. And he was like, why don't you do these deep thoughts? And so I'll be really grateful to him forever for breaking me out of that and giving me that confidence. So how about Elliot? He convinced me that I could build companies. The classic thing for academics is they become advisors or they're on some scholarship board. And he's like, look what you've been doing with all these pension plans and sovereign funds. What I was doing with the pension plans and sovereign fund was trying to create role models that other people would replicate.

55:53But that's dicey. You're in the world of government and pension funds, leadership changes, and the big idea that you've been working on for two years gets shut down. That's happened to me. And so he's like, there are these companies that you have ideas for, let's build them. Let me help you build one. And he co -founded a company with me and we built it up. And it was like the most freeing thing because it wasn't a wild success, but it was enough success. and it just gave me the confidence that I could go out and do those kinds of things. And I actually never backfilled my time at Stanford. I had taken leave at Stanford half time to go do that stuff with Jeg Deep and then go do more consulting.

56:32And then ultimately, it was like Elliot that was like, don't do consulting, build companies. And so that's kind of how I end up with RCI and Future Proof and Long Game and Purpose and all these things that I'm working on. I can kind of tie back to Elliot's influence. So what's the biggest mistake that you made and what did you learn from it? We've talked a lot about how hard innovation is today and the challenges that investors face. And for me, I think the biggest mistake I made was really pushing hard on friends and I guess you'd call them clients to innovate without having helped them get the proper innovation infrastructure in place.

57:12Innovation is super hard. There's failure. And by the way, you cannot innovate without failure. The two are inextricably linked. It's like saying we want to be efficient and innovative at the same time. They're opposites. Innovation is failure and learning how to manage failure. And so if you're going to have failure in these organizations, you need to create the proper structure. It means moving away from the herd. It means making your staff profoundly uncomfortable. Many of them have had these jobs for decades. They don't want to do something new. Board members need to be like brought on the journey because you're going to deviate from a benchmark.

57:49And so innovation to me, I don't want to say this too loudly because I want to have innovators, but let this be a warning. It's like one of the few paths to getting fired because you really are deviating. And so if I had to go back again, I think I've done probably 12 major consulting projects in my life from Mongolia to Sweden to Oakland. I would like really start with an understanding of do you have the cultural incentive structures, etc. to do the innovative projects we're talking about because I don't want you to get fired. Literally. I've seen articles written. I've seen people lose their jobs.

58:29And often I fear it's tied back to some of these innovative projects that I've been a part of. What teaching from your parents has most stayed with you? Yeah. So that one would be just giving without thinking about what you get in return. It served me well. They call it paying it forward. But my parents were incredibly generous, not necessarily wealthy, but generous, often giving time, giving things without sort of ever having a handout. And maybe that's what parents do. That mentality of like, what can I do? And it just really stuck with me. And I've tried to bring it into my professional career.

59:05And I think it's served me incredibly well because there's just a lot of people that have invited me into their ecosystem because I added value to that ecosystem without asking for some immediate compensation. You're building that relational capital by doing that in the same way that you build human capital by going to school and studying. Paying it forward, providing value without defining the value that you're extracting. That's how you build relational capital. And I think that's where I've been really lucky to have a lot of it. All right, Ash, last one. What life lesson have you learned that you wish you knew a lot earlier in your life?

59:45This is what I'm trying to do for my kids. Life is incredibly painful. And at least it has been for me. It may look like it's been fun, but it's like a whole series of, do you have the capacity to do the work required? and I feel like through rowing in college and then cycling in Europe, and then lately I've been doing these like epic long swims, I've kind of figured out how to get my head right with suffering and pain. And obviously like there's healthy suffering and I'm not saying everybody, you should just run into brick walls. I'm not saying that, but like doing the work and understanding that the work flows through into some outcome, that's the recipe for success.

1:00:27I keep pushing my kids to do these sports that are not instant gratification sports. That's like running, swimming, rowing, hiking, where it's like every single time you go out, your brain is like, stop. And they have to push through it. For me, I have that stop thing happen like four times a day. You're building a company right now called Capital Allocators. How often do you feel stop? It's constant. And so like when you're building stuff from scratch and there's failure all around you And people are constantly telling you you can't do it and that you're going to fail. And yet you preserve the kind of focus and persevere.

1:01:03That to me goes back to like what I learned in rowing and cycling and now swimming. Just keep doing the work. Have confidence in yourself. Ash is great as always. Thanks so much, man. Thank you so much for having me. It's great as always. Congrats again on this amazing podcast you've built. It's a great resource for me personally. Thanks, Paul. thanks for listening to this episode i hope you found a nugget or two to take away and apply in your investing and your life if you'd like what you heard please tell a friend and maybe even write a review on itunes you'll help others discover the show and i thank you for it have a good one and see you next time