Three Longs & Three Shorts

Published on: 5th May, 2019

This week’s reads focus on cognitive biases, the fall of the Venture Capitalist behemoth – Kleiner Perkins, Stiglitz’s progressive capitalism, how our gender stereotypes affect women’s role in politics, busting the myth around China’s Belt and Road Initiative and how avoiding stupidity is easier than seeking brilliance.

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1. Long read: You played yourself
Author: Morgan Housel
Source: Collaborative Fund (https://www.collaborativefund.com/blog/you-played-yourself/)

Insightful as ever, Morgan Housel takes us on a tour of the lesser known – but just as deadly – behavioural finance pitfalls (which are less discussed than the better known pitfalls such as anchoring and overconfidence).
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Pluralistic ignorance: “The heart of pluralistic ignorance is having misperceptions about how others in your peer group think. And that’s usually what happens when you have a view about an investment that you assume isn’t held by a large percentage of other investors. Take the Berkshire Hathaway annual meeting, which is coming up next week. It’s 40,000 people, all of whom consider themselves contrarians. People show up at 4 am to wait in line with thousands of other people to tell each other about their lifelong commitment to not following the crowd. Pluralistic ignorance at its finest.”
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Illusory correlation: “Assuming two things are correlated because that correlation seems common sense, even though there’s actually no relationship. Then you only notice times when those two things coincidentally appear next to each other, ignoring all the times they don’t, leading you to believe that the correlation not only exists but is strong.” Eg. changes in GDP growth and stockmarket returns are not correlated and yet most people them to be.
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Rosy prospection and introspection: “Anticipating that something in the future is going to be better than it actually will be, and remembering that event as being better than it actually was. Basically you love all states of time except the present, which never feels better than “just OK.”” So why does this happen? Why do we suffer from this? “Say you anticipate a beach vacation. Imagining yourself laying on the beach in the sun sounds nice. Then you get to the beach and all the umbrellas are taken, you get sunscreen in your eyes, and you step on a piece of coral. After you get home you remember the trip as being wonderful. Why? Partly because the sunscreen is now out of your eyes, and partly because you spent $10,000 on a beach vacation and it hurts to remember it as anything but nice.”
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Levelling and sharpening effects: “Memories of certain parts of an event are retold and sharpened in your mind because they make sense to you, while other parts of an event are kept out because they don’t fit one of your existing mental models, leveling their importance. So memory of big events can become distorted over time, giving more weight to some details – particularly the parts that make good, easy stories – while other details become forgotten and filled in with bits of the sharpened memory. The sharpened memories can take on a life of their own, morphing into false memories as the whole story has to be contorted…”
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Choice supportive errors: “Thinking the outcome of a decision you made is better than it actually was, and downplaying the performance of the option you decided against. A cousin of this is misremembering how and why you did something in a way that justifies your past decisions.” The best example of this in in the Indian market is Eicher Motors. Most people who bought Eicher before the Royal Enfield recovery began bought it because of the Volvo-Eicher JV. In retrospect, few remember that that is why the purchased this multibagger.

2. Long read:  How the Kleiner Perkins Empire Fell
Author: Polina Marinova
Source: Fortune (http://fortune.com/longform/kleiner-perkins-vc-fall/)

Once the home of rockstar VCs such as Vinod Khosla this Fortune article contends that legendary VC firm, Kleiner Perkins, has lost its way and seeks to understand the roots of its malaise. Why did Kleiner fail to spot the potential of hot startups like Robinhood which repeatedly came knocking at its door?
Part of the problem seems to be a war going on inside the firm. ““Growth” investing, with its more developed companies, should be somewhat safer than “venture” investing and would also earn commensurately lower returns. Yet Meeker’s investment team outperformed the venture group overseen by longtime Kleiner leader John Doerr and a rotating ensemble of lesser-known investors who joined and left him over the years. Meeker, not the venture capital investing unit, was landing stakes in the era’s most promising companies, including Slack, DocuSign, Spotify, and Uber, breeding resentment over tension points as old as the investing business: Who gets the credit and, more important, who gets paid.

Worse, a class system developed inside Kleiner, evident to the outside world as well, notably among entrepreneurs mulling accepting Kleiner’s money: Team Meeker was a top-tier operation while the venture unit was B-list at best.”

The second problem appears to be superstar VC John Doerr’s fondness for renewable energy projects. “The firm’s ablest investor for two decades, though his name wasn’t on the letterhead, was John Doerr. A former Intel salesman, Doerr joined Kleiner in 1980 and over time became its de facto leader. Doerr scored a string of hits—Netscape, Amazon, and Google—becoming an active and forceful board member at the tech industry’s most exciting companies. He also was a prominent cheerleader for Silicon Valley in the age of the Internet.

Doerr was so powerful, in fact, that he was able to pivot Kleiner’s entire thrust away from the Internet and toward his latest passion project: renewable energy companies he believed would be the next important wave of tech investing. Doerr was a prominent Democratic fundraiser and pal of former Vice President Al Gore, whom Doerr made a ­Kleiner partner. Between 2004 and 2009, the firm had invested $630 million across 54 “clean tech” companies, and 12 of its 22 partners spent some or all of their time on so-called green investments. The firm’s heart may have been in the right place, but its investments flopped.”
The third challenge seems to be a loss of talent as smart VC left Kleiner since they felt they could not get the top job. “Vinod Khosla, another Sun cofounder and the closest Doerr had to an investing peer, jumped ship in 2004 to set up his own shop, a formidable power on Sand Hill Road today.

Kleiner also became known as a firm full of highly pedigreed young investors who stayed for a number of years but left without being given a shot at ascending to the top ranks. Many constitute the next generation of leadership in the venture capital world—but not at Kleiner. Steve Anderson, for example, did a four-year stint in the early 2000s. He went out on his own and later became the first investor in Instagram, which sold itself to Facebook for $1 billion. Aileen Lee, famous for coining the expression “unicorn” for the once-rare billion-dollar startup, now runs Cowboy Ventures.”
All of this seems to have lead to a full blown succession planning challenge. “Doerr set out in 2014 to solve the early-stage leadership problem by trying to buy another firm. He approached Chamath Palihapitiya, an outspoken former Facebook executive who was the driving force behind Social Capital…Talks eventually broke down, however, over how much control Palihapitiya…would have over all of Kleiner….Doerr continued his hunt for new talent. He…found it at the same place Doerr tried before, Social Capital, by recruiting another cofounder, Mamoon Hamid, to head up early-stage investing. Hamid, who had led Social Capital’s investment in Slack, joined Kleiner in 2017, a year after Doerr became chairman, a role that connotes something like emeritus status at a venture firm. Doerr presented Hamid as the new leader of Kleiner—a move that would put the newcomer in conflict with Meeker, who already was providing plenty of leadership of her own.”
This battle culminated in Meeker quitting in September 2018 with her team to set up her own shop. So now with the glory years behind them a small group of Kleiner partners are trying to rebuild the firm’s reputation.

3.   Long read: Progressive Capitalism Is Not an Oxymoron
Author: Joseph E. Stiglitz
Source: NY Times (https://www.nytimes.com/2019/04/19/opinion/sunday/progressive-capitalism.html)

A brilliantly articulated and constructive piece from the Nobel winning economist Joseph Stiglitz, in conversation with Andrew Ross Sorkin, about the much discussed global “rise in inequality”. Stiglitz blames how in the name of free markets, the world economic order has brewed inequities not just among individuals but also among corporates. Indeed, these inequities have resulted in political inequalities furthering the problem. However, Stiglitz offers progressive capitalism as a solution out of this rut – a social contract where the role of the state is reinstated with respect making regulations that encourage competition that can balance out the powers between corporates and workers, politicians and voters, the rich and the poor.

“Despite the lowest unemployment rates since the late 1960s, the American economy is failing its citizens. Some 90 percent have seen their incomes stagnate or decline in the past 30 years. This is not surprising, given that the United States has the highest level of inequality among the advanced countries and one of the lowest levels of opportunity — with the fortunes of young Americans more dependent on the income and education of their parents than elsewhere. But things don’t have to be that way. There is an alternative: progressive capitalism. Progressive capitalism is not an oxymoron; we can indeed channel the power of the market to serve society.

In the 1980s, Ronald Reagan’s regulatory “reforms,” which reduced the ability of government to curb the excesses of the market, were sold as great energizers of the economy. But just the opposite happened: Growth slowed, and weirder still, this happened in the innovation capital of the world. The sugar rush produced by President Trump’s largess to corporations in the 2017 tax law didn’t deal with any of these long-run problems, and is already fading. Growth is expected to be a little under 2 percent next year. This is where we’ve descended to, but not where we have to stay. A progressive capitalism based on an understanding of what gives rise to growth and societal well-being gives us a way out of this quagmire and a way up for our living standards. Standards of living began to improve in the late 18th century for two reasons: the development of science (we learned how to learn about nature and used that knowledge to increase productivity and longevity) and developments in social organization (as a society, we learned how to work together, through institutions like the rule of law, and democracies with checks and balances). Key to both were systems of assessing and verifying the truth. The real and long-lasting danger of the Trump presidency is the risk it poses to these pillars of our economy and society, its attack on the very idea of knowledge and expertise, and its hostility to institutions that help us discover and assess the truth.

There is a broader social compact that allows a society to work and prosper together, and that, too, has been fraying. America created the first truly middle-class society; now, a middle-class life is increasingly out of reach for its citizens. America arrived at this sorry state of affairs because we forgot that the true source of the wealth of a nation is the creativity and innovation of its people. One can get rich either by adding to the nation’s economic pie or by grabbing a larger share of the pie by exploiting others — abusing, for instance, market power or informational advantages. We confused the hard work of wealth creation with wealth-grabbing (or, as economists call it, rent-seeking), and too many of our talented young people followed the siren call of getting rich quickly. Beginning with the Reagan era, economic policy played a key role in this dystopia: Just as forces of globalization and technological change were contributing to growing inequality, we adopted policies that worsened societal inequities. Even as economic theories like information economics (dealing with the ever-present situation where information is imperfect), behavioral economics and game theory arose to explain why markets on their own are often not efficient, fair, stable or seemingly rational, we relied more on markets and scaled back social protections.

The result is an economy with more exploitation — whether it’s abusive practices in the financial sector or the technology sector using our own data to take advantage of us at the cost of our privacy. The weakening of antitrust enforcement, and the failure of regulation to keep up with changes in our economy and the innovations in creating and leveraging market power, meant that markets became more concentrated and less competitive. Politics has played a big role in the increase in corporate rent-seeking and the accompanying inequality. Markets don’t exist in a vacuum; they have to be structured by rules and regulations, and those rules and regulations must be enforced…..If we don’t change course matters will likely grow worse, as machines (artificial intelligence and robots) replace an increasing fraction of routine labor, including many of the jobs of the several million Americans making their living by driving. The prescription follows from the diagnosis: It begins by recognizing the vital role that the state plays in making markets serve society. We need regulations that ensure strong competition without abusive exploitation, realigning the relationship between corporations and the workers they employ and the customers they are supposed to serve. We must be as resolute in combating market power as the corporate sector is in increasing it……………………… As an economist, I am always asked: Can we afford to provide this middle-class life for most, let alone all, Americans? Somehow, we did when we were a much poorer country in the years after World War II. In our politics, in our labor-market participation, and in our health we are already paying the price for our failures.

The neoliberal fantasy that unfettered markets will deliver prosperity to everyone should be put to rest. It is as fatally flawed as the notion after the fall of the Iron Curtain that we were seeing “the end of history” and that we would all soon be liberal democracies with capitalist economies.
Most important, our exploitive capitalism has shaped who we are as individuals and as a society. The rampant dishonesty we’ve seen from Wells Fargo and Volkswagen or from members of the Sackler family as they promoted drugs they knew were addictive — this is what is to be expected in a society that lauds the pursuit of profits as leading, to quote Adam Smith, “as if by an invisible hand,” to the well-being of society, with no regard to whether those profits derive from exploitation or wealth creation.

4.      Short read: Political good girls are losing the battle
Author: Anne-Marie Slaughter
Source: Financial Times (https://www.ft.com/content/fe6954ca-6690-11e9-b809-6f0d2f5705f6)

This FT article explains how our gender stereotypes influence women to think about the most appropriate course of action in a given circumstance. “Research has shown that girls are commonly praised for being “good” — whether that means sitting quietly, following instructions or excelling academically. Boys, on the other hand, do worse in school and better in life. They are typically rewarded for breaking the rules — think disruptive innovation — and for aiming to win at all costs.”
The article goes on to give examples from contemporary politics of good girls. “Theresa May, British prime minister, is the ultimate political good girl, surrounded by bad boys who have repeatedly put their personal ambitions ahead of the fate of their country and knocked each other out in the process.”

“Surveying the field of candidates for the 2020 US election, we see much the same dynamic. Of the 20-odd current runners, six are women. Four of them — senators Kirsten Gillibrand, Kamala Harris, Amy Klobuchar and Elizabeth Warren — have followed the traditional playbook that requires a candidate to serve as a senator or governor before jumping into the presidential fray. They are also all in their 50s and 60s, having accumulated the necessary experience to dare try for the top job.

The men in the field…include…Pete Buttigieg is mayor of South Bend, Indiana. At 37, he has rocketed on to the national stage with an appealing CV and some great speeches. Seth Moulton, the latest congressman to enter the race, has been in politics for only five years…Good girls all — following the rules that many of their male competitors are either gleefully ignoring or upending. They were undoubtedly all very good in school and many of us admire their talent and their grit. But conscientiously following the script, even when it gets the job done, never seems to merit an A when it is the public doing the grading.”

5. Short read: China’s ‘Debt Diplomacy’ Is a Misnomer. Call It ‘Crony Diplomacy.’
Author: Mark Akpaninyie
Source: The Diplomat (https://thediplomat.com/2019/03/chinas-debt-diplomacy-is-a-misnomer-call-it-crony-diplomacy/)
Short read: The Belt and Road is about domestic interest groups, not development
Source: Andrew Batson’s Blog (https://andrewbatson.com/2019/05/02/the-belt-and-road-is-about-domestic-interest-groups-not-development/)

Twin pieces with the latter cross-referencing the former, together summarising the point that China’s Belt and Road Initiative is less of a conspiring move on the part of the Chinese Government to colonise large parts of emerging Asia and Africa as contemplated by several commentators including our own Brahma Chellaney than a case of a simple extension of crony capitalism that has flourished within China through its development of local infrastructure and now.

“Some small countries “take on loans like it’s a drug addiction and then get trapped in debt servitude,” opined the influential Indian strategist Brahma Chellaney. “It’s clearly part of China’s geostrategic vision.” Through debt diplomacy, China exerts bilateral influence by bankrupting partner nations with unsustainable debt and then demanding steep concessions as part of the debt relief – or so the thinking goes.

…As China continues its global infrastructure financing push across the developing world, allegations of debt diplomacy keep arising. Upon taking office in May 2018, Malaysian Prime Minister Mahathir Mohamad suspended a host of Chinese-funded infrastructure projects, asserting that his country could not support the unprecedented level of debt and charging China with implementing a new version of colonialism. Ethiopia has also experienced debt concerns over Chinese-built projects: Repayment on its $4 billion railway linking capital Addis Ababa with neighboring Djibouti has been extended by 20 years over concerns of debt distress. Fears of unsustainable Chinese lending in Zambia led critics to allege that China will take control over key state assets due to the Zambia’s indebtedness. Most recently, in October, Pakistan sought a bailout due to its balance of payment crisis, partly stemming from its debts to China for infrastructure projects assumed under the $62 billion China-Pakistan Economic Corridor. In each of these cases, debt diplomacy has been used to define China’s engagement abroad.

However, little evidence actually suggests that Beijing coordinates a unified strategy to lure the developing world into unsustainable debt.

Instead of a state-led strategy, Chinese firms — motivated by profit and abetted by a toxic combination of bureaucratic disorganization, incompetence, and negligence at the state level — have exploited poor nations, which are dependent on cheap, and sometimes bad, loans. These companies, knowingly or unknowingly, persuade countries to pursue projects where benefits to the firms far outpace the benefits of the host nation. Asymmetric information or deception may even misrepresent the feasibility or sustainability of pursued projects. What is worse, governments sign onto nonconcessional loans that accrue high interest rates or carry onerous terms that disadvantage already vulnerable countries.

This practice does not trap recipient countries into taking on unsustainable debt. Instead, it allows Chinese companies to profit from often crooked deals building much-needed infrastructure in some of the world’s poorest countries, exploiting the undersupply of financing and these countries’ appetite for infrastructure projects. Forget debt diplomacy – call it crony diplomacy.
From Andrew Batson’s piece

“It’s become increasingly clear that the “debt-trap diplomacy” meme started by Indian commentator Brahma Chellaney is not an accurate description of how the Belt and Road actually operates, despite the fervent embrace of this idea by China hawks. Basically, China is not actually organized enough to come up with such a clever and nefarious plan, and there is no evidence that there is a deliberate strategy to trap other countries in debt. A detailed examination of debt transactions by Rhodium Group also found that in many cases borrowers were able to get China to write off or renegotiate their loans.

The flaw in the debt-trap diplomacy theory, and with many other analyses, is that it mistakes the Belt and Road for a for a “highly centralized and coordinated” initiative. In reality, it is more of a slogan attached to the decentralized actions of state-owned enterprises and banks.
The Belt and Road is really the expansion of a specific part of China’s domestic political economy to the rest of the world. That is the nexus between state-owned contractors and state-owned banks, which formed in the domestic infrastructure building spree construction that began after the 2008 global financial crisis (and has not yet ended).

Local governments discovered they could borrow basically without limit to fund infrastructure projects, and despite many predictions of doom, those debts have not yet collapsed. The lesson China has learned is that debt is free and that Western criticisms of excessive infrastructure investment are nonsense, so there is never any downside to borrowing to build more infrastructure. China’s infrastructure-building complex, facing diminishing returns domestically, is now applying that lesson to the whole world.
In Belt and Road projects, foreign countries simply take the place of Chinese local governments in this model (those who detect a neo-imperial vibe around the Belt and Road are, in this sense, onto something). Even the players are the same. In the 1990s, China Development Bank helped invent the local-government financing vehicle structure that underpinned the massive domestic infrastructure boom. Now, China Development Bank is one of the biggest lenders for overseas construction projects.”

6. Short read: Avoiding Stupidity is Easier than Seeking Brilliance
Author: Farnam Street
Source: Farnam Street (https://fs.blog/2014/06/avoiding-stupidity/)

Farnam Street’s reiteration of its 2014 blog about a concept that we encounter everyday in our interactions with prospective clients. Most of us are enamoured with the hunt for undiscovered value or the big thematic plays that can go onto become multi-baggers when portfolio after portfolio we find that the more successful ones are less about these multi-baggers than about avoiding the duds and the frauds. This piece drives home the point using the amateur tennis analogy elaborated in Charles Ellis’ award winning article The Loser’s Game. The piece has nuggets from Charles Ellis, Benjamin Graham and a gem from Charlie Munger to finish off.

“In his 1975 essay, The Loser’s Game, Charles Ellis calls professional tennis a “Winner’s Game.” While there is some degree of skill and luck involved, the game is generally determined by the actions of the winner.
Amateur tennis is an entirely different game. Not in how it is played or the rules but, rather, in how it’s won. Long and powerful rallies are generally a thing of the past. Mistakes are frequent. Balls are constantly hit into nets or out of bounds. Double faults are nearly as common as faults.

The amateur duffer seldom beats his opponent, but he beats himself all the time. The victor in this game of tennis gets a higher score than the opponent, but he gets that higher score because his opponent is losing even more points.
….The point is that most of us are amateurs but we refuse to believe it.

This is a problem because we’re often playing the game of the professionals. What we should do in this case, when we’re the amateur, is to invert the problem. Rather than trying to win, we should avoid losing.

This was a point Charlie Munger, the billionaire business partner of Warren Buffett, made a long time ago.
In a letter to Wesco Shareholders, where he was at the time Chairman (and found in the excellent Damn Right!: Behind the Scenes with Berkshire Hathaway Billionaire Charlie Munger), Munger writes: Wesco continues to try more to profit from always remembering the obvious than from grasping the esoteric….It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent. There must be some wisdom in the folk saying, `It’s the strong swimmers who drown.”’

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