C&B Notes

Few and Far Between

Good ideas are rare.  Investors are best served by focusing on areas where they have real insights and competitive advantages, and also by avoiding making decisions simply for the sake of “doing something.”

In the world of institutional investment, which tends to think very, very big, I’ve recently found myself extolling the virtues of small.  I’ve been telling the Giants I work with to think about a set of assets that they understand deeply and to work to shrink the number of decisions they have to make, the number of relationships they have to manage, the number of people they oversee, the number of line items in their portfolio, the number of external managers they use and so on and so forth.  I have two main reasons for thinking these increasingly small thoughts: 1) past academic research says small organizations rock big ones; and 2) present-day evidence tells me that most Giants are woefully under resourced, which means they should be doing less and doing it better.

…a seminal 2004 paper showed that performance is affected in large part because of the diseconomies that go along with large organizations in terms of the bureaucracy.  The authors demonstrated that certain types of “soft information” do not easily find purchase or have sway in the context of a large organization; that the great ideas based on soft information — i.e., the insights you get from boots on the ground — are slow to disseminate among management teams, hindering their ability to make informed decisions on a timely basis.  The punch line is this: Big organizations with lots of people and administration tend to underperform small organizations, especially in illiquid assets, due to hierarchies.

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…I’m suggesting that “thinking small” means Giants should hold a concentrated set of assets that they understand deeply (as opposed to holding many assets they barely understand).  Most Giants are overdiversified in terms of almost every risk I can think of.  Instead, they should focus on opportunities where they can excel and seek to drop those assets where they can’t.  As Warren Buffett has said, “Wide diversification is only required when investors do not understand what they are doing.”