"Principal-agent conflicts in asset management lead to perverse incentives where an investor will actively try to avoid path risks to preserve a sense of return stability.
A cynic following the incentives may notice a fiduciary's preference for private assets that are less volatile simply because their marks are stale. This is like avoiding bloodwork because you don’t want to find out your cholesterol is too high.
Of course the slow-to-mark investments are still volatile. The fundamentals of the private business are correlated with the public market volatility. A private fund that is slow to mark its assets down is not going to let you redeem at the optimistic mark. This costs you the opportunity to sell the private shares and rebalance into heavily discounted public markets.
A less cynical framing of such investors is they are giving up liquidity because it will behaviorally “save them from their own fearful trading”. We would frame this as “selling the option to rebalance at zero”.
Path blindness has innocent causes as well. You may hear some investors argue in favor of individual bonds instead of a bond fund. They worry that bond fund prices move around and have no real expiration, so when interest rates rise your losses are somehow more real. But if you buy a bond and hold it to maturity you can put your head in the sand, and never lose.
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"Principal-agent conflicts in asset management lead to perverse incentives where an investor will actively try to avoid path risks to preserve a sense of return stability.
A cynic following the incentives may notice a fiduciary's preference for private assets that are less volatile simply because their marks are stale. This is like avoiding bloodwork because you don’t want to find out your cholesterol is too high.
Of course the slow-to-mark investments are still volatile. The fundamentals of the private business are correlated with the public market volatility. A private fund that is slow to mark its assets down is not going to let you redeem at the optimistic mark. This costs you the opportunity to sell the private shares and rebalance into heavily discounted public markets.
A less cynical framing of such investors is they are giving up liquidity because it will behaviorally “save them from their own fearful trading”. We would frame this as “selling the option to rebalance at zero”.
Path blindness has innocent causes as well. You may hear some investors argue in favor of individual bonds instead of a bond fund. They worry that bond fund prices move around and have no real expiration, so when interest rates rise your losses are somehow more real. But if you buy a bond and hold it to maturity you can put your head in the sand, and never lose.
This is a misunderstanding."