Introduction for The Technologized Investor

INTRODUCTION

A Need for Heroes

There seems to be something fundamental in human nature that makes us love superheroes. We’ve been imagining, idolizing, and celebrating them for millennia. The ancient Greeks revered Perseus, Achilles, and Heracles.¹ Ancient Sumerians exalted the heroism of Enkidu. Cú Chulainn is lionized in Celtic tradition. Maori lore venerates Maui. Norse mythology features far too many super-beings to mention. And Hollywood mints multiple blockbuster movies every year that feed our fascination with superheroes and their extraordinary powers.

But it’s more than superpowers that gives superheroes their enduring, widespread allure. Superheroes are inspiring because they fix major problems that no one else can, which frequently entails saving the world. In most instances, superheroes possess their superpowers before facing these challenges. Some recently popular superheroes, however, break this pattern. They actively build special powers in response to the crises they tackle. And they use advanced technology to do so (think Iron Man and Batman). They transform from being mere mortals into superhumans by technologizing.

The world currently needs more real-life versions of these technologized superheroes to solve some of its otherwise intractable problems. An expanding wealth gap between the rich and poor threatens socioeconomic disruption. A shortage of modernized, reliable infrastructure depresses the quality of life for billions of people worldwide, even in many first-world countries. Climate change and environmental degradation—fueled by unsustainable production, transportation, and disposal practices—threaten the viability of many (human and nonhuman) communities in both the developed and developing world. And demographic shifts are making it increasingly hard for governments to help citizens who are elderly, unhealthy, or underprivileged.

Despite their diverse causes, each of these existential threats to humankind’s health and happiness could be mitigated by the availability and responsible deployment of more long-term funding. However, with banks constrained by new regulations and governments tightening budgets, the remaining organizations that could be delivering the vast majority of that funding—the world’s long-term asset owners, for example, public pension funds, sovereign wealth funds, endowments, and foundations—are deprived of the resources they need to do so. This may come as a surprise, as one might naturally question: “Don’t these organizations together manage around $100 trillion in investable capital? Surely, that’s sufficient to resolve the aforementioned problems and still have plenty of dough leftover!”²

Sadly, that’s not so. And, problematically, the organizations appointed to invest that capital aren’t allowed to tap enough of it to grow it, or their organizations, to the extent needed to solve these problems. That is, long-term asset owners (also called institutional investors, and hereafter, “Investors”) aren’t presently set up such that their investment and operating activities properly align with their long-term time horizons—even though some of the planet’s gravest challenges would be closer to being solved if they were!

Instead, most Investors are held captive by their own context. Investors are disadvantaged by the exploitative ecosystem that has cropped up around them and is riddled with intermediaries who charge extortionate fees, distort risks, and chronically deliver flimsy results. Investors are also disadvantaged by their own governance structures, which are often imposed on them by sponsoring entities that are highly politicized (e.g., unions, local governments) but not necessarily fluent in finance. And Investors are disadvantaged by being starved of the resources to innovate and adapt to a world that’s ever changing in all domains—not just in finance. Shockingly, these disadvantages persist despite the fact that Investors are the very anchor of our capitalist system.

To overcome these disadvantages, Investors need to become technological marvels. They need superhero-like technology that can help them understand their liabilities, their assets, their people, and their progress toward success. This book is a “flight manual” for Investors interested in becoming technologically empowered superheroes capable of delivering high risk-adjusted returns while also solving major global problems.³ A few intrepid Investors—in Canada, the Netherlands, Australia, and elsewhere—have already begun this transformation. Others are only pondering their metamorphosis or have yet to even realize the possibility. Yet we believe they all can technologize.

Our central thesis is that all Investors can utterly transform their capability sets by adopting advanced technology and making it integral to how they manage innovation, data, and knowledge. But such superpowers can’t be gained by simply ‘bolting on’ advanced technology to their existing resources and processes. Instead, Investors must reorient themselves around new technologies. Reorientation won’t necessarily be easy. It’ll require changing mindsets, priorities, and cultures. Nonetheless, Investors must succeed in making this transition: failure is far too costly, and no one else will be coming to the rescue. To succeed, however, Investors must bypass their weaknesses.

All superheroes have weaknesses. Some are mundane (exposed heels, haircuts, asbestos, and low batteries). Others are exotic (kryptonite, adamantium, electromagnetic pulses, and Muramasa Blades). We’ve already mentioned how present context is a weakness for most Investors. Yet context-generated disadvantages really only feed Investors’ chief weakness: the lure of short-termism. Short-termism devastates Investors by trapping them in an unwinnable game that blocks them from innovating, and therefore impedes their long-term success.⁴ Focusing on short horizons also prevents them from using their greatest strength: the fact that they can adopt long-term views and ownership positions in assets in ways that no other financial entities can.

But Investors have other native advantages beyond just long horizons. Some Investors have an edge due to geography (e.g., they may be located near entrepreneurial hubs and so have ready access to pathbreaking start-ups).⁵ Others may be affiliated with universities or similar research institutions that afford them expert insight into niche opportunities. Still others may have special relationships with host governments that allow them an inside track on investing in assets like infrastructure or energy. This text is a playbook to help Investors deploy advanced technologies that leverage their unique advantages—not only to overcome their disadvantages, but also to turn them into strengths (and, dare we hope, superpowers).

Can Investors actually achieve these objectives? Are these declarations just miscalibrated optimism by a pair of social scientists who have toiled too long in academia and are out of touch with the realities of institutional investing? We answer a humble “No” to the second question and an exuberant “Yes!” to the first. It’s true we’re academic researchers. Still, many of our university colleagues would consider us as much practitioners as academicians (and possibly even more of the former). We spend most of our waking hours meeting with, calling, and working alongside Investors—not cloistered in ivory towers and libraries. Our viewpoint is informed by thousands of hours spent in the field, conversing with hundreds of Investors from across the globe about all aspects of their operations. All of that close dialogue and interaction has been further informed by our involvement with Investors on their innovation projects. Additionally, we’ve even taken the leap into building companies in the space, as both of us have started or worked at multiple “invest-tech” outfits that target the nexus of long-term investing and advanced technology. Together, these experiences fully convince us that successful technological reorientation is attainable for Investors. We wholeheartedly believe technologized Investors can save capitalism and humankind by overcoming their pervasive governance constraints, cultural limitations, geographic isolation, fear of innovation, and all the other challenges the Investor community faces. This book presents our rationale and the evidence we’ve found for having that faith.

Leapfrogging: From Intelligent to Technologized

By now, some readers undoubtedly will think we’re crazy in asserting that technology could lead Investors to a new state of mastery over their operations and portfolios. Technology is a weak point for most Investors, right? So why are these guys suggesting Investors use advanced technology to fix their problems, especially when they’re struggling to use what they’ve got now? Before you accuse us of quackery, hear us out: what we propose isn’t more of the same. In fact, the specific possibilities that we’re describing depart from the status quo in three key ways. We’re saying Investors can utilize advanced tech to

• cultivate and leverage their native advantages;

• more tightly align their present resources and long-term goals, by ultimately amplifying those resources; and

• foster deeper innovation.

Each of these marks a pivotal departure from technology’s current role in Investors’ organizations, but the last is probably the most essential. Currently, most Investors struggle to innovate and are held back from innovating by inadequate technology. Technology should stoke innovation, not stymie it!⁶ The view of technologizing we present in this book doesn’t involve some transplant, whereby existing, underperforming tech gets swapped out for breakthrough technology. No, our version of technologizing is more symbiotic and focused on empowering organizations to make them excel at innovating. Yes, building an innovative pension fund may seem quixotic—or even oxymoronic. But the reality is that there’s a dire need to inject innovation into a community of organizations that has been far too conservative for far too long.

As we show in the following chapters, infusions of advanced tech into the organization must be done in ways that integrate with other organizational processes and resources, such as culture, governance, strategy, risk management, and—especially—innovation. To us, a one-two punch of advanced technology and deeper innovation is a kind of judo move that will help Investors leapfrog in two ways. First, it will let them skip from being tech laggards in the financial community to tech leaders—bypassing along the way all of the middling funds and firms stuck between their legacy systems and cutting-edge solutions. Second, it will let them unshackle themselves from exploitative intermediaries and finally innovate for themselves, as opposed to outsourcing technology and innovation to misaligned outsiders.

Investors have a lengthy history of paying third parties, such as external asset managers, to innovate and deploy new technologies on their behalves. On its surface, this outsourcing may seem sensible for organizations like Investors that are hamstrung by diminutive operating budgets. Over the long term, however, it’s a recipe for debilitating dependence. When Investors pay other parties for these pursuits, they subsidize those parties’ superior innovation and technological capabilities. In doing so, Investors widen the rift between those capabilities and their own—all without ensuring that the third-party capabilities they’re subsidizing actually serve Investors’ own best interests!

Imagine what would be possible if fees that Investors pay for outsourcing these capabilities were diverted to build up their own technology and innovation systems. Just think: if, collectively, Investors spent a mere 10 basis points of their total assets under management on technology and innovation, then they’d surpass the annual technology and innovation budgets for Apple, Amazon, Facebook, Google, Microsoft, and IBM . . . COMBINED.⁷

Of course, spending doesn’t immediately translate to innovation: those six companies are all engineered around technological innovation. It’s their raison d’être, whereas technology and innovation are just a means to an end (of high risk-adjusted returns in the long run) for Investors. Nevertheless, technology and innovation need capital to flourish and, right now, Investors are woefully underspending on both. Investors typically spend just 1 or 2 basis points (0.01–0.02%) of the total assets in their care on technology, data, research, innovation, and related efforts. Contrast that with the 50 or more (sometimes way more) basis points routinely spent on fees to external asset managers. Many Investors tolerate this differential because they feel those managers are “superior” at using technology and innovating. But is it sane to think that external managers are doing so 20, 50, or even 100 times better than Investors could do themselves? We doubt it. We think the money that’s been subsidizing other parties’ technology (and mediocre results) could be used more intelligently.

Our book’s title pays homage to Benjamin Graham’s masterpiece, The Intelligent Investor. That book’s release was a watershed in the history of finance. Before it, investing was largely equated with speculation and gambling—in other words, trying to game the market over the short haul. Graham instead articulated how sustained performance could be achieved from the starting point of understanding an asset, by studying its fundamental value drivers, and then judiciously buying that asset when its inferred value exceeds its price. The approach advocated by Graham came to be known as value investing, and his contribution to it wasn’t solely theoretical: wise ol’ Benjie was reported to have generated an average annual return of 20 percent over several decades of stock market investing. Likewise, his most famous protégé (the quintessential long-term investor), Warren Buffett, has followed Graham’s core approach to reliably deliver similar returns over an even longer horizon.⁸

Despite their reasonability and demonstrable success, the chief tenets of The Intelligent Investor have taken backstage to those of so-called modern finance, which attempts to replace understanding with simplistic quantification (e.g., via formulaic diversification, a blind faith in efficient markets, and vehement disbelief in durable advantages). Oddly, this upstaging seems to have less to do with performance and more to do with marketability. It’s easier to sell financial “products” in the modern paradigm than the value-based paradigm. Unfortunately, Investors often get caught up in this sleight of hand. In many ways, The Technologized Investor is a revisiting of the eminently sensible ideas on long-term investing that were first posited in The Intelligent Investor. Pointedly, our objective here isn’t to supplant those ideas: it’s to augment them. In short, we think Investors can become better value investors with the right selection and deployment of advanced technology.

Reading the Flight Manual

An aircraft’s flight manual is a document that contains the information needed to safely operate it. Compared with the complexity of the aircraft itself, the flight manual is a fairly succinct document that’s meant for easy reference (from the operator’s perspective). It describes in detail how, from a functional viewpoint, various parts of the aircraft work, their limitations, and what corrective action to take when things aren’t going right. While it’s best to read the flight manual cover-to-cover, one can also use it by jumping straight to relevant topics of interest (or urgent need), without having looked at the preceding material.⁹

We’ve labored to ensure this book is a flight manual for technologizing Investors. It’s not as exhaustive as a longer, more prescriptive treatment (such as a pilot’s operating handbook) might be. Rather, its job is to convey the needed background and then quickly get to the practical points. Nor is it like a textbook on aerospace engineering or the mathematics of turbulence: instead, it’s a user-centric guide for those flying the craft. It doesn’t specify exactly what to do in every situation; but it does give an accessible rundown of how to diagnose problems, where to look for solutions, and what to check when analyzing whether a candidate solution might work for the issues at hand.

That said, given the complexity of the topics this manual must cover, it necessarily spans a large amount of conceptual territory. Different readers will almost surely find some parts of this book more valuable than others, as their specific interests or their organizations’ contexts dictate. Nevertheless, there’s a small raft of ideas that we think any reader should absorb, regardless of her reason for cracking open this book (whether in its entirety or only for a particular topic):

• The chief way in which technology can help Investors reach their long-term goals is through allowing them to build and extend competitive advantages in accessing and understanding specific types of opportunities and risks, both outside and inside their own organizations.

• Data, information, and knowledge are separate resources that require their own management and governance processes. They can, however, be converted into one another—especially with the help of advanced technologies.

• The importance of unconventional data for decision making is on the rise for Investors. This alternative data can come from many sources and have many uses, but the most valuable of these are usually within an Investor’s internal operations. Indeed, efficiency enhancements to their own operations are some of the most durably valuable changes an Investor can make with technology, because these operational changes typically aren’t assailable by outside parties.

• Finding aligned technology partners—whether start-ups, peers, or other entities—can be a core part of an Investor’s long-term success in technologizing and deepening its capacity for innovation.

• Innovation—whether with or without technology—is very much an outcome of consistent processes and dedicated resources. It requires a culture that is able to embrace learning and uncertainty, to accept controlled failure, and to act scientifically in a continual effort to improve.

These ideas are woven throughout the book: each appears to some degree and in some form within practically every chapter.

To enable readers to have a crisper picture of what’s in this flight manual (beyond just what’s listed in the Table of Contents), here’s a brief sketch of each chapter.

Chapter 1: History of Investment Technology

We lead a whirlwind, curated tour of investment technology’s six-millennium history—from clay tablets on up to digital ones. We tease out three dimensions of progress that have characterized advances in invest-tech across time: data latency, inferential depth, and resource efficiency. We discuss patterns in how these dimensions are interrelated, and why they’re important for technologizing Investors. We also look at how the tyrannous reign of spreadsheets is a posterchild for what’s presently amiss with investment technology.

Chapter 2: Technology Problems in Institutional Investing

We conduct a deep-dive appraisal of the state of technology in institutional investing and dissect how it’s holding Investors back from attaining their goals. We discuss ten “entangling” problems that our research indicates are to blame, including focusing on the wrong scales for tech projects, deprioritizing innovation, having isolated perspectives about technology, failing to cooperate with peers on tech, and more. We also explain why some “scapegoats” that get blamed for Investors’ tech troubles are mostly just hollow excuses (these include outsourcing, cost, and being “close followers”).

Chapter 3: Technology Trends and Tools

We provide an overview of current trends in cutting-edge technology that are relevant for technologizing Investors, with special attention to two: openness and simplicity. We cover four key classes of tools that can serve as the foundations of technologized Investors’ tech superpowers: artificial intelligence, alternative data, collaboration tools, and productivity utilities. We discuss the balance that must be struck between understanding and efficiently deploying these tools. In the appendix, we give flyovers of deep-learning and blockchain fundamentals.

Chapter 4: Frameworks for Technology Analysis

We supply rubrics to help Investors analyze the suitability of specific technologies for their organizations. We begin by introducing a tool set to compare a candidate technology’s impacts on the organization’s opportunity set and resource budget. We then provide several tools for analyzing how a technology may affect, and create value from, an organization’s data, information, and knowledge resources. We conclude with commentary about the role of cost-benefit analysis in assessing technology’s fitness within the organization.

Chapter 5: Template for a Technologized Investor

We present thirteen features that our research indicates any successfully technologized Investor should exhibit. Some of these can be quickly attainable, whereas others may take time to grow. To further understanding, we split these features into two groups: Core Attributes needed to sustain tech skills in the long run; and Sources of Advantage that’ll more immediately help Investors brandish tech superpowers.

Chapter 6: Data Empowerment

We begin our foray into the data-related tech superpowers Investors can build. We distill our empirical findings on causes of Investors’ current discontentment with their existing data systems. We discuss several ways in which Investors could beneficially rethink data by: merging data-governance and data-management protocols; casting data as a collective process; focusing on retaining and augmenting more context around data sets; prioritizing data on unlisted, private assets; and nixing the binary treatment of data systems (i.e., seeing things through a federated vs. centralized lens). We propose enhancements to the “people side” of Investors’ data systems, including a need for global-local comprehension and coordinated entrepreneurship around organizational data.

Chapter 7: Equipping Data Empowerment

We inspect a suite of tech platforms and tools to enable data empowerment for Investors. We study tools for transforming data, enhancing it, and extracting crucial insights from it, including metadata, inference algorithms, data-workflow pipelines, tools for breaking the tyranny of spreadsheets, and visualization utilities. We cover problems that Investors have with existing database architectures and tour some advanced solutions that could support data-empowerment programs well into the future.

Chapter 8: Reframing Risk Management

We explain some terminal difficulties with risk-management tools from modern finance and say some heretical things about conventional approaches to portfolio diversification—for example, it’s actually an expensive (not free) lunch for long-term Investors and a dangerous starting point for portfolio construction and risk management. We introduce a replacement approach to managing risk that’s better geared toward long-term Investors, especially technologizing ones. We explore how three categories of technology—alternative data, knowledge-management tools, and smart contracts—can put this new approach into action.

Chapter 9: Technologized Risk Exposure

We delve into technology that can help Investors more dexterously manage their exposures to risk. We investigate the importance of exposure purity and how technology can assist in cultivating and maintaining it. We explore advanced technologies that can assist Investors in pursuing exposure purity via asset allocation, benchmarking, achieving flexible access to investment opportunities, and cooperativity.

Chapter 10: Space to Innovate

We investigate best practices and Investors’ direct experiences with making innovation and technology both more complementary and programmatic. We study lessons learned by some pioneering Investors in their attempts at infusing more innovative mindsets, processes, and forcing mechanisms into their organizations. We look into the essential contributions made by the “softer side” of innovation, in terms of the importance of a culture of learning, ways to preserve enough of the right types of resources to fuel innovation for the long term, and innovation partnerships.

Chapter 11: Spinning Up R3D Teams

We give an in-depth case study of a revolutionary approach to programmatic innovation: the creation of an in-house task force to drive technological innovativeness. We describe four Investors’ activities in transitioning to this approach, in terms of design choices they made and frameworks they used to guide their thinking. We discuss implications of this achievement for other Investors—namely, as an illustration of what game-changing possibilities lie ahead.

Chapter 12: Getting Started

We conclude with a pep talk for readers on how their organizations can take the very first steps on the road to technologizing—and become true superheroes in so doing. We offer detailed pointers on the initial moves to make when putting this book’s lessons into practice. We give one last rallying cry on how essential it is for Investors to collaborate with start-ups, as well as each other, in technologizing and innovating—in order to deliver an overall brighter future for us all.

Finding Our Cyborg Muse

The two authors of this book each began exploring these ideas over a decade ago—well before we began working together directly. We both have long sought ways to help Investors improve their performance potentials, by either altering their positions in the financial ecosystem or changing aspects of their own organizations. Yet we both encountered repeated frustration in our searches to improve governance, culture, risk management, and arrangements with intermediaries: each of these seemingly viable avenues for Investors to empower themselves proved to be ploddingly slow and vexingly difficult to change. In 2015, we came to the joint realization that technology might be an area where more traction would be possible; we wondered if technology could be the crack in the door to empowering Investors that we’d been seeking. We’ve been trying to test the limits of that possibility ever since (and we plan to keep on doing so!).

This book isn’t your typical academic text. First, it’s (as economic geographers would be inclined to say) synoptic. It captures the experiences and learnings conveyed to us by the Investors with whom we’ve had the immense privilege of working closely. But it also encapsulates our own hard-won insights from having worked among Investors, start-ups, venture capitalists, consultants, bankers, and more than our fair share of brilliant academics. And across those many interactions, we noticed a shocking lack of helpful, empirically grounded literature to aid Investors in their attempts to make better use of technology. This book was born out of our desire to close that void.

Second, we’ve done what we can to make our treatment both practical and approachable. A rule we set for ourselves from this project’s start was that it needed to lead to actionable findings. No highfalutin theory or overwrought, hypertechnical analysis—just grounded recommendations informed by methodical observations (along with sporadic superhero references).¹⁰

There’s one target we’ve observed since our project formally began that’s been a continual source of inspiration, and amazement, to us. Like millions of others, we’ve been enthralled by the achievements of the AlphaGo program created by Google DeepMind.¹¹ We watched in astonishment as DeepMind’s algorithmic creation beat the world’s human champions at a game that’s fiendishly more complex than chess: go. AlphaGo wasn’t winning against human opponents by outpowering them with brute-force computation. It was using genuine creativity to come up with strategies that no person had previously conceived—or possibly ever could. We were wowed by its storied thirty-seventh move in its second game against Lee Sedol in 2016, its handy defeat of the world champ, Ke Jie, in 2017, and its eventual achievement of relearning go from scratch without witnessing any human moves (or outside coaching) whatsoever.¹² What struck us most profoundly, however, was a less publicized contribution: how greatly AlphaGo could improve human performance by working alongside people rather than against them.

During the same tournament in which AlphaGo defeated Ke Jie, a pairs session was held, where human players teamed with AlphaGo against other human players. AlphaGo and its human partner would alternate in playing moves against their noncyborg opponent.¹³ Thore Graepel, who was part of the AlphaGo development team (and had a 1-dan rating at the time) said the following after playing a rehearsal pairs game as AlphaGo’s partner: “By observing AlphaGo’s moves, it somehow raises your game. . . . I was able to contribute.” Graepel estimates that his own standard of play—in terms of the moves he personally selected—was raised by 3 or 4 dan levels as a result of the scenarios in which AlphaGo’s moves put him. This type of cyborg mutualism—with machines and technology empowering people to be far better than they otherwise could—is what excites us most about the possibility of technologized Investors. It’s what gives us the most faith in the future.

Notes

1. The more widely recognized Hercules is the Romanized version of the Greek demigod Heracles.

2. Our calculations (with help from colleagues in Stanford’s Global Projects Center) put the value of total assets managed by all Investors worldwide as at least US$70 trillion—but very likely significantly more, depending on where one draws the line on who counts as an institutional investor, and exactly what capital gets counted as managed by them.

3. As we’ll describe later in this chapter, a flight manual is a document that contains the necessary information to safely operate a specific aircraft.

4. Short-termism is a well-documented bias not just in institutional investing (see, e.g., Clark, Dixon, and Monk 2009) but also in human psychology and behavioral economics generally (where it sometimes goes by many other names, such as myopia and hyperbolic discounting; see Laibson 1997; Tversky 2004; Kahneman 2011). All of these notions are unified by the idea that people and institutions have a tendency to focus on near-term outcomes more heavily than they optimally should.

5. Recent research indicates the number of entrepreneurial hubs and start-up communities is expanding geographically, especially outside the US, which means that a growing number of Investors will have such resources in their own backyards—and so could potentially embrace this as a native advantage. See Florida and Hathaway 2018a, 2018b.

6. After all, at the macroeconomic scale, innovation is supposed to be the engine of capitalism, with technology as fuel!

7. This estimate is based on the annual 10-K documents filed by each of these companies with the SEC for the financial year of 2018.

8. Buffett believes The Intelligent Investor is “by far the best book about investing ever written” (Graham 2006, ix).

9. Flight manuals do contain plenty of in-text references to parts of preceding sections that are additionally informative. Our book does likewise.

10. This project has uniquely benefitted from hundreds of practitioners sharing countless insights with us—many under an understanding of anonymity. We therefore follow a long-established approach in practitioner-facing realms of social science and retain only the summary messages from our many interviews and other close-dialogue interactions with these research subjects (see Clark 1998). We make specific identifications of our subjects’ organizations only where doing so has justified explanatory benefits and there is explicit approval by that organization for our doing so.

11. Although it may be lacking in personality, we’d go so far as to say that AlphaGo has the makings of a superhero. True, clobbering humans at board games isn’t saving the world—but “solving intelligence” (which is DeepMind’s stated aim) for the betterment of humanity certainly seems to be! In specific, DeepMind is targeting breakthroughs in medical research with some of the insights learned from building the AlphaGo system.

12. On this last achievement, see Silver et al. 2017.

13. Quotations in this paragraph are taken from Metz 2017. For those unfamiliar with go, master-level players receive dan ratings on a scale of 1 to 9 (with 9 being the top rating). A 1-dan rating is the equivalent of a martial-arts blackbelt.