I have been invited to speak to the finance students at the Zarb School of Business at Hofstra University. The engagement is sponsored by GARP, the Global Association of Risk Managers. I’m very grateful to the Pinnacle client who asked me if I would be interested in speaking as well as Ahmet Karagozoglu, Ph.D., and Associate Professor at the School of Finance, who actually extended the formal invitation to speak to his class. This isn’t the first time I’ve been asked to guest lecture to finance students at the MBA level. Professors Russ Wermers and Sarah Kroncke were kind enough to have me speak to their finance students last year at the Smith School of Business at the University of Maryland. Then as now, I am eager to discuss portfolio construction with such fine young students whose knowledge of the financial markets is for the most part shaped by the text books they have read, whatever “color” their excellent professors have added to the story, and I presume whatever experience they have trading their personal on-line accounts. For the record, Professor Kroncke’s students at Maryland actually get to manage real money in the Mayer and Senbet Funds set up by the University Endowment.
While my topic for the lecture is “Managing Portfolio Risk in Natural Disasters, A Playbook for Black Swan Events,” it seems to me that the additional message that I want to share with these students includes an overview of the basic structure of institutional portfolios and how that is likely to impact their future employment. While we manage close to $1 billion in assets nowadays at Pinnacle, the fact is that the assets belong to our individual clients in accounts that are custodied by third parties. The accounts are transparent and liquid. This structure defines what strategies we utilize to maximize returns and minimize risk for our clients. Many of the Hofstra students that I will meet are likely to be employed by bank proprietary trading desks, hedge funds, mutual funds and private equity firms that don’t have similar constraints for portfolio construction. Risk management in these investment communities is based on a different set of rules about how to manage volatility. They will be working at firms that manage huge amounts of capital in pooled accounts that have long-term lockups that don’t allow investors to withdraw their capital for years, and that are completely opaque in the sense that clients can’t see the securities in the fund until the quarterly or annual report. Thus they will be afforded the opportunity to implement all kinds of strategies without the harsh spotlight of clients seeing every trade.
I think I might share the basic rules that we have learned about risk management at Pinnacle, including the potential pitfalls of quantitative investing. I am convinced that the tactical strategies we employ for our clients are so fundamentally sound that they are worth sharing, even if by Wall Street standards they might seem overly simplistic. Evaluating the business cycle, investor psychology, and intrinsic value to find value opportunities is critical to earning excess returns. Avoiding excess leverage, excess derivative usage, and large concentrated stock positions also is critical to avoiding true “Black Swan” events. It might not be sexy, but I’m looking forward to engaging the finance students at Hofstra in a discussion about how to invest in strategies that don’t blow up and have a high probability of creating long-term value for their clients. I can’t wait.