What Motivates Long-Term Investing?
What’s the key to multi-generational invesing? I think ‘ownership’ may be an important factor.
I’ve been of the mind that private sector investors are generally shorter term than public sector investors. And it’s simple to see why: a vehicle sponsored by an individual is going to operate according to an individual’s discount rate, while a vehicle sponsored by a government is going to operate according to a government’s discount rate. In theory, the government will consider longer-term factors than its private cousin (if only because the government will go on existing long after the individual has perished).
But the theory breaks down in practice for a variety of reasons. First, while governments may be long-term, the politicians that run governments are not. This is one of the failings of democracy; it’s challenging to deal with intractable problems outside of a given election cycle. In addition, while public pensions or sovereign funds may have inter-generational time horizons, the people that staff these organizations do not. As such, long-term investors often struggle to live up to their moniker.
In order to counter these factors, public funds are often set up with governance procedures that limit the short-term influence of politicians. And, perhaps more importantly, these funds also tend to devise compensation structures that extend the time horizon of their staff (as much as is feasible and possible). For the more sophisticated funds, this may mean establishing long-term incentive plans (LTIPs) that smooth performance compensation over time (e.g. five years). This may also include capping upside compensation to prevent employees from over-reaching. Whatever the case, there are a variety of ways to try to align an individual’s short-term interests with the long-term interests of pensions and sovereigns.
But where all of these public incentives fall short — and where the private sector may actually have a leg up — is on the issue of ownership. By granting an individual some ownership rights over a certain asset, you, in effect, provide that individual with an opportunity to hold that asset for life (and even bequeath that asset on to future generations). Without going into all of the theory here, let’s just agree that ownership is a powerful private sector ‘time-extender’ that is often deployed in non-financial industries through equity stakes, partnerships, or stock options. The idea is really simple: Give employees a stake in the long-term growth and sustainability of the organization so that the individuals will act in the best interests of the company. (There are problems with stock options due to the fact that they reward company-wide rather than individual performance, but I can go into that offline if anybody is interested.)
Anyway, I then started to wonder if there was a way to synthetically provide public sector pension and sovereign fund employees with some notion of ‘ownership’ that could extend their own time horizon for decades. One obvious way is seeding new subsidiaries and then giving staff a small ownership stake in the separate vehicle. While effective, it’s not a scalable solution for the entire organization. So I started thinking about some form of ‘notional ownership credits’ whereby the credits increase in value over time along with the total value of the fund’s assets? It could even be a specific portfolio’s assets. In other words, what if public pension and sovereign fund employees were paid with derivative-like assets that tracked the value of the fund’s portfolio and could be redeemed when the employees wanted? There would be plenty of challenges associated with such a policy (i.e. calculating the liability from outstanding credits), but at least people would be tied to the long-term growth of the fund. And that might drive them to think about the pension’s health in 10 or even 20 years from now. That’s the value of ownership.