E404: Why This Billionaire Family Office Doesn't Rebalance Its Portfolio | Pincus Family CIO

25:40But those are our controls. And he just keeps it simple. A lot of people listening to this will think this is unnecessarily pedantic or academic conversation about risk. what they fail to realize and i know this because i've interviewed so many cios that have been cios for 20 30 years like larry coachard who is a cio mcgena and he talks about is that a portfolio is only as good as its stress test in the real world meaning he would be at so many institutions and you'd see peers where they would have this perfect portfolio this perfectly optimized portfolio where maybe they're 100 percent equities or 90 percent equities and lo and behold the next crisis comes down they sell everything at the very bottom yeah sometimes via secondaries if it's illiquid so they have to take another in a crisis another 30 discount and lo and behold this two percent alpha that they were squeezing out because they were so risk on the previous decade not only do they lose all that too they're also dipping down so now they have 300 days points of negative alpha so yes on paper this was this perfect portfolio but when you bring human beings in the mix which at least today we have human beings running these portfolios.

26:49It not only did not have an advantage, it actually cost millions and millions of dollars for these clients. It's huge. I mean, I sort of saw that from the endowment world and stuff and peers. You've seen this play out in real. Yeah, I've seen it play out. And I just think that even what I'm referring to, if you actually were to sit down and kind of do the math on, it's pretty conservative ultimately and like what we're, how much unfunded we take. It depends. Everyone has a different lens to look at. I mean, I'm coming from a private equity family who was 100 % private equity not too long ago. We're still like, I guess I said conservative, but we have in a lot of portfolios like 40, 50 % in privates.

27:23But this is how we manage it. It's challenging. I think just the specific on like managing unfunded, you go through times when it's like frustrating to be in these drawdown vehicles. I mean, I've sort of, I would say doing less blind pool drawdown vehicles, even though I feel like I have a good handle on it. I think go back to like 2022. We went through 2021 and it was awesome for everybody. and then 2022 rates rose and the market kind of tanked. Private valuations were really squishy. We had a decent amount of unfunded going into that. I would say we were under impressed by the amount of capital that was actually called.

28:02So in other ways, the GPs were not as bullish or not as aggressive. Yeah, and I can say the same about COVID, actually. But so you know, we do stress test. So how did this play out in 22 when there was a crisis? What did GPs do? 22, I think you just saw like an actual valuation reset. And I think one of the challenges for us as somebody, we were sitting on a good amount of unfunded commitments. It was sort of great because our managers that we had committed to, and this is why you work with like top class managers, they weren't, some of this was like commitments we made that they could have been shoving into the market in 21, right?

28:39As valuations were getting crazy. And so a lot of this - There was some discipline. there was some discipline a lot of it was prudence i'd say the challenge though it's kind of a double-edged sword then comes 22 when in theory everything's on sale you realize there would end up being this like it's sort of why kind of talked about a lot now this sort of bid-ask spread in the private markets that make it's just hard for them to put money to work but for us you know we're looking at this unfunded and we're saying well public markets are kind of attractive right now we probably want to put something to work and we did but like you're still always thinking about this unfunded commitment like you got to be careful if especially as you're going down, let's say you're wrong and you catch a falling knife, you've now put money in and you sort of make your ability to ultimately, if you have a big unfunded commitment, you just make it that much harder to meet those commitments if they do end up calling it.

29:26So you're always, I don't know, one of the things that we've worked on the last few years is finding ways to, again, like being really, really self-aware about our core competency. We don't do a lot of like private direct investing ourselves. So we want to work with great managers, great partnerships, long-term relationships. We want to make commitments to them, but we also want to like control our destiny a little bit more in those situations. We don't want to have too big of a outsource so much of our portfolio allocation to them where they may or may not be able to actually put it to work when that time comes.

29:54And some of that's just like who you're, what strategies you're trying to invest in. I mean, obviously there were specific things that were more or less dislocated in that time period. So it's not an acute problem, but it's just something we've thought a lot about. I think there are ways to, you know, we've probably been doing a little bit more co-investing, maybe making our blind pool commitment a little bit more modest, leaving some kind of room for when and if the time comes, if our capacity is there, we have the dry powder to lean into a specific co-investment. And I don't necessarily mean like specific in the sense that I'm going to re-underwrite the whole thing and judge the manager's work and make our own decision.

30:30But it's really more about where are we in terms of liquidity at the moment that those things come up. And if we think highly of the manager in general, we could use that as a way to size up the exposure. Unfunded management is, like I said, I think that's one of the areas where if you tell me you're a single family office that doesn't have an operating business, you don't have any money coming in. I think this discipline is just huge. If you want to do private investing with really high quality managers. And a big part of that is if you don't have the downside figured out and the downside explicitly discussed and modeled, then you're always coming to every investment almost from two frames.

31:06One is the upside and one is the downside. But if you have this pool of capital where you're safe no matter what, then you could play offense in the areas that you need to play offense. For example, it's not good to go into venture capital and judge every manager based on how many losses they have on their portfolio. Oftentimes, the top decile funds actually have higher loss rate but higher returns. So being conservative and thinking about the downside is not only good governance, it also allows you to play much more aggressively in other parts of your portfolio. Yeah, absolutely. And we think a lot about, like I mentioned, the deflation hedging allocation that we have.

31:38I mean, it's really obviously, I think the title is meant to be very explicit about what it's meant to do. But it provides something that you could use as an offensive tool in the right time frame, which we've done. But yeah, I mean, and then the flip side, though, is that being able to lean in and be offensive, you still need to think about pacing in general. Like it's hard sometimes to make some things come to look really attractive. But when you're making these commitments, you can't just you got to think about what's coming down next year and think about, OK, I really love this manager. They raised two years ago, more than likely back in the market this year and next year.

32:15So you have all of this map going on of like this pacing sort of game plan. And we're always thinking a lot about that. And this goes back to what I said, like the overall complexity of these portfolios is actually quite great. You have to sort of, any given point in time, like thinking like what is the right commitment to this or that that's here now in front of me, thinking about my conviction and what it is, what's coming down the road that I also have high conviction in, where I'm at relative to these other drawdown things. So that's stuff that we've worked hard at over the years. I mean, I think we've got a good system in place, but that's the challenge.

32:48Specifically, as it relates to venture capital, it's another thing that CIOs that have been in the seat for 20, 30 years, they talk about the number one thing is pacing. Some of the best vintages over the last 40, 50 years have been the exact year after everybody stopped deploying to the asset class because they thought venture was over and all these memes. But there's a very rational reason for that. Why? Because the best returns are not in a vacuum. They're when on entry level, on average, valuations are low. on the exit level, they're very high. So if you have after a bull run, you have a market that's not very hot, those entry levels are going to be lower.

33:24And then you hope 10 years later, they'll be higher than those initial bear entry points. And all the things I'm talking about with zeroing in on the right dollar amounts. And we it's also with the point of making just like the last comment I made about being careful about what might be what's coming next year, we try to make sure that we're being evenly deploying across time periods. We don't want to make it for whatever a reason we could do 50 next this year, but that would mean that we have to do 10 next year. Like we're trying to avoid that. This recency bias, these behavioral biases, I'm always shocked by how the most high IQ people make these errors.

33:57The most recent one was the Mac seven. Everybody was talking about, well, why even invest in venture capital? Because you could have just invested the last five years in the Mac seven as if that was the idea five years ago, but retroactively. And now you look at today, the MAG7 has not done really well, but people have this recency bias, even very high IQ, very sophisticated investors don't realize how much of a recency bias they're applying to their portfolios. That's the biggest challenge, I think. I mean, that's like sums up a lot of challenges with managing portfolios for a third part, like for clients and trying to help them think through.

34:31And also while holding yourself accountable i think i sort of see both arguments i see there's obviously like we'll see if the cues can keep doing what they've been doing but it is true to be fair if you look back over the last 10 years i mean we what i just described to you is pretty complicated and i'm telling principle that like hey we've got a significant portion of your portfolio sort of earmarked for like future commitments so like if you want if you call me to do something like let's just say you have a change of heart about your life plan, like top, it's not going to work, right? We're not really facing that.

35:05But I think in general, like you're dealing with a lot of complexity. And that also comes down to like team size. How do you just doing the analytics that I just referred to? I mean, that's not something that at least at the moment, you can just fire off your agent to go deal with. So there's a team involved and relationship management on going out and pounding the pavement and finding all of that. Having those calls and updates and trying to make those views. I mean, it's work. It's right to push back for some people. Like, why am I dealing with all the illiquidity? I mean, venture, I think we're in this moment where obviously a lot of venture has done quite well, but there's a lot of stuff in between that's, I'd say, middling at the moment.

35:40Your generic private equity, I think is in terms of illiquidity, you're kind of having the, you deal with the same issues. And I think it's right for an owner, asset owner to say, I could have, why am I paying you and dealing with all this when I could have done that. It's one of the tough things about investing in general. Cliff Asnos, founder and CIO of AQR, talked to me about how he's always, regardless of the product and regardless of the year, he's being on some way psychologically benchmarked against S &P 500. And half the time, it's actually unfair to him. And half the times it's too generous to him.

36:11And he says that he oftentimes tell LPs like, yeah, that was good. But it wasn't as relatively as good as last year, which I actually lost a little money and it was actually very relatively good. And you kind of have to have your mind in two different worlds. One is on a relative basis and one is just against S &P 500 or QQQ or other index. That goes back. I think the families that do the greatest over a long period of time have like a very strong governance structure. And the right framework. Yeah. And it's easier said than done. I mean, a lot of families in particular don't necessarily have the came from Cambridge endowment.

36:45And I think some of the, there's a lot of things that were great about that path for me, but like seeing like true governance in action and trying to apply that at a family as part of what I have been trying to do. But that said, a family also has an advantage of being nimble and you don't want to overdo. There's some bureaucracy and box checking in those processes. And so it's definitely finding the sweet spot. The endowment model, going back to that, like, I don't love setting targets and making the benchmark the way that the endowment model traditionally does it. We've gotten rid of that, but still needing a framework where you have an honest, transparent way of quantifying what expectations are with your client is just, I think, incredibly important.

37:28Because, yeah, I mean, I think unless you do that, then you're always toggling between absolute and relative judgment. You have to have a benchmark. So another way, asset allocations and frameworks can be weak because they're fragile and they're somewhat arbitrary. But the only thing worse than that is not having any framework, which is even more weaker and more fragile. And then you're just at the behest of whoever's yelling at the investment committee or whatever. somebody met another wealth manager at the gym and they told themselves so not having a framework is actually even worse totally i mean we have frameworks for a lot of different layers of what we do the more you can be transparent as a team and document things of the best of your thinking that continues to evolve of course but i just think being on the same page and this is the advantage of good thoughtful families i mean you have a very small group of people that are making the decisions.

38:22And if you do it well, you could kind of be, you're at the same time being very disciplined about what you're doing because you've fought these things through, prepared mind, all that stuff. But you can make it happen quickly if the opportunity comes. You started your career at Cambridge and you were exposed to some of the world-class family offices in the world. What are some of your learnings from those family offices? well i'd say cambridge wasn't just family offices it was a broad mix of institutional allocators so college endowments pensions actually in a wide range i think that was just really illuminating just sort of appreciating the breadth of the landscape and like how capital market this whole system kind of functions cambridge was my first job out of school but you know i think like hedge funds and private equity is all very sexy and people understand that but like where does that money come from like what is it trying to accomplish i think that was you know just fascinating to get that big lay of the land and like what is everyone's incentives i think just like sort of developing an appreciation for like you might think this or that investment doesn't make sense but for somebody it actually does and i think just like they wouldn't have done it yeah and also just the structure it may look silly for one type of investor but another investor it's like what they need for because their balance sheet has something.

39:38So I just think like a little bit of like, just that really, really broad exposure to both the allocators themselves, and then all the different ways that you could invest that money through funds and other things. They were just playing a big role in this part, but just the governance of that in those frameworks is, I think, really important. I think by definition, if they're working with Cambridge, I think they took it seriously. But I think now I sort of see families that maybe haven't taken that more rigorous approach, and they're shooting from the hip and they do a bunch of private deals and oh gosh now we're actually out of money going back to lack of structure being a problem you've spent a lot of times talking about criticisms of different models but in cambridge you saw some of the most world-class both family offices and institutional investors what are one or two best practices that you learned from them this goes back maybe to more challenging to maybe when like the endowment model started is just that like rigor around finding best in class managers it's just gotten harder there's just so many more funds out there and i think that really think hard as an investor about what your edge is and how you can monitor certain types of strategies and i even take that to heart in a meaningful way even for us i think we have to be honest about our value add in these certain situations and so just like you know a lot of people like we utilize some passive strategies one in particular we the bigger one that we lean on we actually do ourselves which is a separate conversation but part of that is is kind of coming to terms with like some of the challenges of underwriting certain types of active strategies and how challenging it could be to genuinely stay on top of certain developments that matter and relative to the alpha potential that's there's a line there we continue to do a lot of the private stuff that i was just alluding to but i think that's where like and part of the reason we do the passive it kind of goes back to like how we were talking about the risk portion of our portfolio is set aside part of the beauty of the passive portfolio is because they can become effectively on autopilot and now we can really spend our time where it matters and that's like where the the true underwriting really really matters and like i think that just the number of reps you have and the pattern recognition like obviously cambridge has it and other you know pipette agreed offices have it but if you don't be honest about that or hire somebody who does because I think it's you see a lot of poorly managed funds get funded it's all the time you mentioned being honest as an LP about what your edge is what is the edge for Pincus Capital Management I think duration is a big one I think that's like simple and I think we're it's behavioral I think we genuinely actually long-term versus saying that you're long-term yeah and I think everybody says says that I think we've structured a way that I genuinely believe that we are and we've proven that through track experience.

42:25The team itself has been doing there. You've shown a consistent behavior of thinking long-term with your partners. And as a team, we've had the same team for many years now. We're slowly adding to it, but my principal and I are incredibly close. The relationship itself, I think, has compounding benefits to it. Investment decisions, we've proven through some of the case studies we've mentioned now around what we did or didn't do in these periods of stress. Relationships with GPs that we've worked with for a long period of time. And I think just structurally, like the actual like, and this is hard to see from the outside, but like the way that the trusts are set up and this is a nuance some people probably don't appreciate when you see someone that's super wealthy just because they got, like I said, a big balance sheet, a big trust with a big number on it.

43:08They might not have access to this or that. I mean, it might be set up. We have a lot of money that's set in trusts for a future generation that isn't even born yet. There's this guy, Cal Duport, that has this concept of like slow productivity, I think he calls it, where like it's a very different question. Like if I honestly, if I, how you prioritize your day, if I said, go back to the cliff, your challenge is to outperform next year versus your challenge is to outperform over 10 years. Like how would you prioritize? Like what is the most important thing? Different optimizations you would make.

43:35Yeah. Like what should you do today? Literally, if you were really like, it's harder to like actually execute that day to day. Then I think a lot about this, which is if you truly believe things like relationships are compounding, it's one of these other things that people say, people say, I'm a long-term investor. and they say, I believe in the compounding of relationships. I've never met anyone in finance that does not believe in the compounding of relationships. But if you actually take it to heart and you actually believe in it, you end up doing very different behaviors. And I'll give you an example that just happened to me.

44:05I had investment banker reach out to me on a deal I could probably make a couple million dollars on. Serious money. A couple million dollars to me is serious money. And then at the same time, I had Danielle Pauly from Oak Tree, previous guest and a friend of mine And she wanted to meet up after dinner just to talk business. And I decided to go with Daniel Poli, which is quite interesting because I don't foresee any short-term business with her. And there may not even be short-term business. But I saw that as such a valuable and compounding relationship. And the opportunity cost of that was real.

44:40Whether that deal would have come together or not, who knows. But there was true opportunity cost felt today at the potential compounding of a relationship in the future. and making that trade-off is not easy. That's a great example. I mean, I think another one that, as you were speaking, kind of came to mind and thinking about like opportunity costs. Like one of my more prouder ones that we did in recent history, like we've talked about COVID. Every allocator, the moment the market was really crashing, got called by maybe Oak Tree. But all of the credit shops raised these like opportunistic, like put money in kind of vehicles, right?

45:19which are compelling because they all charted out this the nice chart like if the gfc spreads widened by this much and that was obviously kind of temporary and look how much money you make once they compress and i think as a because of our long-term orientation we look at that and we're like that's probably true like i believe that like that's a pretty good investment and i think there's a lot of like reasons why the lower downside this is credit that would be like a very nice like quick juicy i don't know 20 30 ir like assuming it all plays out but then it in a year or two immediately let's say you pull the par you get cashed out at par that's a taxable gain and then we've got to redeploy that and what will obviously be a better environment and higher valuations or we could just do like the more boring thing and buy the spy and i don't believe it's going to snap back like that.

46:14I mean, this is in the moment, right? It's not going to get like your immediate trading at 60 % on the dollar to 100 or whatever. But if you play it out over a few years, over the, to say, make the equal, look at the same two-year timeframe, maybe you've got a 10 or 20 % IRR. But then at the end of that period, you still own something that's growing and that will continue to compound long-term. So that's what we did. We ended up like, it was just very good exercise for us to like, at the moment, there was so much stuff like that you could invest in and do it felt like if you were willing to put risk on like all manner of things where people were saying like this is the thing you should do to make a lot of money immediately and we just we thought about that but then it was so clarifying just to say like we're gonna keep it simple like this is how we compound long term we did plow a bunch of money into a mix of like managers we like and and like etfs and so that was a huge i mean for us going And then 21, I mentioned like the equity rally that ensued was huge.

47:11And a lot of that stuff we still own. Like that's those, it's nothing sexy, but it's just ETF shares. And speaking of compounding, that's the financial compound. It's a great example. Yeah. Also, there's the relationship compounding. You probably got that trade from 20 different entities given your seat. And you weren't judging these relationships just in time or who brought you the bread spreadsheet is who had built the relationship with you over a decade. True. And I think part of that is like I said, you can't maintain relationships with everyone and we take our gp relationships very seriously right is that the thought experiment you shouldn't invest in a gp if you're not willing to spend time over the next 10 20 years i think that's a great one great great narrative and maybe even great investments but not compounding meaning they might have invested in the right company returned you a three four x but maybe it was just a time and place and maybe it's not somebody that you want to build a long-term relationship with it's your classic like life's too short and i want to enjoy people I work with stuff I definitely apply that and I think look there's just some number where my ability to maintain those relationships taps out yeah and so we it's a good example like the random one-off deal that comes that itself looks pretty cool if it's gonna require like a a new relationship I gotta really think hard about what that do I have the bandwidth to like who are you gonna cut be a good partner I mean adventure that's the hardest thing adventure you want to have a diversified portfolio you want to be able to be proactive if call invest opportunities come up and things like that but you have to be mindful it takes a lot of work to build that and be like that to manage that relationship i think it's a dilbert principle 150 people relationships we could manage i'm trying to push it with the podcast but it's hard to beat that number as a human being so that's personal and business kind of things personal yeah yeah and so that means that if you yeah i think it's important going back to compounding and power laws like there's a subset of that you really need to spend a lot of time with i think a lot about that stuff if you could go back to 2009 when you had just started your career and you could give yourself one piece of timeless advice what would that be it took me a long time to be like really good at saying no i think i think there's like uh saying no to meetings meetings yeah juicy opportunities like kind of back to what we were just saying like there's a deal junkie aspect to it when you first starting out in this business i think there's part of this is probably just the way it has to go to develop your own taste and all that is a great place to work is it out i mean one reason why it was such a great place for me in the moment in career i mean obviously it's just like a fantastic institution and everyone raising money wants to talk to you and i do think there's a part of that like take advantage of that go out and see as much and learn as much and i did but i think at some point you have to transition to now developing and honing the mental models that allow you to filter things i think that took me a while to like get good at and really comfortable with and maybe just even like the politeness or lack thereof of how to manage just an inbox that's constantly flowing with like good people wanting you to like help them like that kind of is like both the enjoyable part of the business is like genuinely working with what i think mostly are like very high quality people smart people with like you can't do it all so how do you develop the sort of conviction to like lean in where you should and like literally just say no quickly to the things you don't it took me a while to like develop that skill um it's i don't know if it would be something that i could have done in 2009 or 10 because i think you just have to like practice and like learn what good is but i think i wish i had done earlier there's a paradox because in order to be a great investor and managers you need to be able to have high eq be able to understand people be able to pick where you're going to have these long-term relationships, but also requires you to almost have an opposite side to that and not care about the 99 out of 100 people that you meet if you really take it to brass tacks.

51:03So you have to have both this ability to deeply empathize and understand people while also being extremely focused on who you want to spend time with. Well said. And I think one other thing, I mean, we're not the biggest allocator out there. So we're not the type of institution where some manager with tons of excess capacity is going to move things around to like always fit us in so you have to pick your battles well the big battles but also like there are situations like that where we're in like we've got i have to figure out how to manage that and try to like one of the value adds to my clients i think is that we've weaseled our way into certain things and that's not something i can really rely on or like always going to happen but it's yeah it's i think figuring out how to find that whatever it is that eq how you how do you say no when it matters, but figure out when to lean in when it does matter.

51:50And maybe like punch above your weight in terms of prestige that just a little family, we're not a charitable institution that obviously everyone would want to have the logo on there, the deck where they show their LPs. Like I don't think that family offices typically have that. You don't have an unlimited free option with every GP, you have to earn it. The way that I look at it is in order for me to be present and to be emotionally available, to have time and resources for the relationships that I care about and that I choose to engage with, I must make the sacrifice of being picky on the front end, and it's of service to my relationships.

52:26I totally agree, and I guess I think one thing that has been pleasantly surprising to me is just life has gone on. If you do it well on the know, or at least, even if it's not thoughtful, but it's convicted and fast, meaning you don't necessarily have to spend a lot of time trying to articulate some reason, I think people respect that. And I think that I've had situations where I've said, whether it's people I've hired, people I've invested in, we obviously do fire managers. I'm pretty proud of like in some of those cases, the relationship has been maintained and come back around or had a second bite or whatever.

53:02So that's something I think about. Scott, this has been an absolute masterclass. Thanks so much for jumping on.