Investing with Mark Baumgartner, CIO at the Institute for Advanced Study
Mark Baumgartner is Chief Investment Officer at the Institute for Advanced Study, an endowment supporting a community of scholars in Princeton, New Jersey.
Prior to joining IAS, he served as Director of Asset Allocation and Risk at the Ford Foundation, and Managing Director of Morgan Stanley Investment Management’s Global Portfolio Solutions group.
He was also a Portfolio Manager at two hedge funds, Quantal Asset Management, a quantitative long /short market neutral fund, and Strategy Capital, a fundamental long /short equity hedge fund. Prior to Strategy Capital, he worked with The Boston Consulting Group, specializing in corporate venturing, M&A, and strategy development.
Mark sits on the board of The Investment Fund for Foundations (TIFF), and is a Trustee and a member of the Investment Committee for the YMCA Retirement Fund.
He received a Ph.D. in Aerospace Engineering and a Certificate in Public Policy from Princeton University. He also holds the Chartered Financial Analyst designation.
Business Today (Grace Xu): How did you get into the field of investment (especially after you majored in aerospace engineering in college and grad school)?
Mark Baumgartner: The focus on statistics helps, but a really interesting thing I found at Princeton, which was formative for me in my career, was the focus on humanities as well, and the broad liberal arts education. There’s a man named Robert Hagstrom who’s written a book called “Investing: The Last Liberal Art,” and it speaks to the breadth you need if you want to be a good investor, and the advantage you have from breadth. When I was at [Princeton], I took classes in the Woodrow Wilson School of Public Policy, and I got a certificate in Science, Technology, and Public Policy. I had the fortune of having an advisor [who expanded] my horizons when I was there, and I realized that I was not only interested and fascinated by economics and psychology and social science, but that it could be very valuable in my career. And so I never did actually become a career engineer, although my degree is engineering. What I did do was go into management consulting right out of grad school. I worked for a very small firm on the West Coast that had spun out of Bain, called Helmer & Associates, and did a lot of tech company strategy consulting. [Hamilton Helmer], who I apprenticed with, spotted someone with a strong work ethic, a drive to learn, and raw horsepower that he could put to work at his firm, and he basically taught me the craft of consulting and everything I know and still know about strategy and business strategy today. I was really fortunate to work with him.
In investing, many of the same types of skills exist as in business—you’re trying to figure out problems, you’re trying to improve efficiency, in many cases you’re trying to establish a competitive position versus others, and there’s a lot of technology in play, and for effective decision making you need quantitative skills. As a strategy consultant, we even used tools like option pricing models when we were advising companies.
BT: You’ve transitioned from working in consulting to finance—what prompted the jump, and how were you able to transition?
MB: There’s a book called “Range” by David Epstein, which talks about how the world of today is oriented toward generalists. There are benefits to being a generalist today. That’s how I would describe my path. Epstein notes that if you’re in an environment that rewards repetition and precision and that type of practice, practice, practice, then that’s one type of expertise there; if you’re in an environment that’s rapidly changing, that’s fluctuating, that’s driven by psychology and that’s changeable and where reversion to the mean does not necessarily occur—call it a non-linear dynamical system—when you have the potential for chaos, which is much like the world today, then generalists really have the advantage there. And you can get more specialized, but there’s option value to being a generalist. Epstein calls it being “match seeking”—you do a lot of different things in life and you look for the one that has the right feel for you and has the right match of things that you’re interested in and things that you’re skillful or good at, and you slot in there. For me it was this evolution—first I was an engineer, then I learned a little bit about business, and then I saw how a lot of the engineering principles could be applied in business, and then I saw how a lot of knowing about business and technology and the intersection of business and technology and psychology, behavioral finance could be a fit for investing, and that actually led me there. I was a management consultant for three years at [H&A] and four years at BCG, and then I went back to a hedge fund that was being started by folks at H&A called Strategy Capital. That was my entry into finance. It’s been an evolution—expanding my palate of skills and looking for a fit in terms of skills and jobs. And that’s how I moved into finance.
BT: What attracted you to working at IAS in particular?
MB: When I think about the Institute, the first thing that comes to mind is the Institute’s Seal. It has two symbols on it: truth and beauty, representing both Science and the Humanities, and the folks who founded the institute adopted that as their basis, even though Einstein was the founding faculty member. So it wasn’t just about math and physics—it was also social science and history. It was a beautiful blend of those two—truth and beauty, and I admired that approach.
After I was a management consultant, I worked in finance for a few years, and I was building businesses in places like Morgan Stanley. An opportunity opened at the Ford Foundation, and that was my introduction to portfolio management for institutional investors. I spent five years in the Ford Foundation in an asset allocation and strategy role there, and then the CIO role at the Institute opened. I knew people on the board, and so that was one of the attractions—the caliber of the people associated with the Institute. The Institute, besides being affiliated with Einstein and just having a storied history of academic excellence, had all these wonderful Trustees, and to top it off, it had a really amazing, unique portfolio strategy—something very different from almost everyone else’s. It represented a challenge, it represented a noble goal—supporting basic research—and was supported by an amazing group of benefactors. All those things led me to being at the Institute.
BT: How do you choose what to invest in?
MB: There are a couple of different layers. We’re what’s called a “manager of managers.” We’re actually investing in investment managers. We’re placing our capital with hedge funds, private equity funds, or folks who are managing real estate or commodities. We put money with managers who go long and short securities and fixed income and credit markets. We insure some types of risks, like hurricane risk and earthquake risk. We invest in healthcare and emerging businesses in the US and China. We invest in bank distress in Europe. So there are a lot of different places and a lot of different things we’re doing.
BT: How much of your fund management is automated?
MB: We use a lot of different quantitative analytics in our approach, but by no means is this a quantitative or a systematic investment/divestment fund. We invest with managers who are in systematic investment funds, who use computational models to pick securities and where it’s nearly fully automated. But there most often is a human element involved in almost everything, especially in what we do. I would say it’s about 50% quantitative and 50% qualitative. In keeping with that balance, that “truth and beauty, finance and humanities, engineering and psychology,” those are the sort of things I’m using on a daily basis. You really do go to meet the people who are putting the strategies in place. Assessing character as well as investment skill.
BT: How does IAS differentiate itself from its competitors?
MB: To be extraordinary you must first be different. If you want to do something unique, if you want to do something amazing, if you want to do something away from the average, you’ve got to be different. The risk there is that you fail. Being different and failing is very difficult. Being difficult and succeeding is slightly less difficult, because even if you succeed, if you’re doing something different, you’re not well-liked, well-appreciated, or identified as a model by society. When you’re different, you’re either a failure or a maverick. The interesting thing about investing is that the results of whether you’re a failure or a maverick don’t arrive until five years after you’ve implemented your strategy. You have to be very patient, you have to be able to sustain being different, and have a very strong belief and the ability to take non-consensus views. It’s not easy. At the Institute, we’re completely unconstrained. We can invest in anything we want to invest in. There’s this belief that we can look for great investment opportunities anywhere in the world and in any kind of asset class and do anything we want as long as what we’re doing is in line with the objectives set up by the board. The objectives set up by the board are extremely difficult to achieve, and that represents a challenge.
BT: How do you balance risk and reward—do you try to invest in safer assets, or do you try to go for high returns?
MB: What we’re trying to do is to balance those. We’re trying to break the risk/reward tradeoff. Most people know and believe that in order to get more rewards you need to take more risks. And by and large that’s true—for individual securities or investment opportunities in a single area. But if you find investment opportunities that are in different areas, you can break that compromise—you can find higher returns with less risk. And that is a portfolio of things that you’re putting together. That’s where some of the math and statistics comes in handy as well, because to understand what the characteristics of the portfolio are, you have to understand how the things you are putting into the portfolio interact with each other. There’s a lot of science in that, and there’s a lot of art in that as well.
BT: Some firms/banks are focused on ESG investing, which is supposed to help the environment or have social impact. How much would you say that has influenced you?
MB: It’s something that we’re cognizant of all the time, and things that have environmental impact, social impact, we’re paying attention to because we are long-term investors, and you don’t want to invest in something that is producing an externality or using up a resource that isn’t going to be there in the future—human capital as well—and environmental assets. We’re cognizant of it all, but not constrained by anything. We don’t have an explicit ESG objective. We have friends at foundations who are doing what they call double-bottom-line investing, where they are both looking to invest to make money, but also to achieve some kind of impact goal for whatever their objectives are—for some people it’s healthcare, for some people it’s social good or social justice (like the Ford Foundation). If you take that kind of total return, holistic type perspective on investing, that’s aligned with ESG. Again, it’s just a matter of governance and what the board and the folks who own the assets and control the assets want to achieve.
BT: What do you think is more effective, investing in a specific area or being able to invest in anything you want?
MB: It’s different for everyone. A lot of people believe investing is one size fits all, and it’s not really that. Investing is a means to an end—if you have an objective that you want to achieve in the short term, then maybe you don’t need to be an investor at all. Maybe what you need to do is you need to take the capital you’re applying towards that objective and apply it in short term. That’s more spending than investing. Investment usually entails organizations that have a very long—sometimes perpetual— time frame, and so in that case, you’re sort of saying what is it that you want to achieve and what kinds of fluctuations in your asset value can you tolerate, and those two things I think govern how much risk you can take from a portfolio perspective, and then how much you can spend. And so, organizations with high spending rates or largely fixed spending budgets are constrained to take lower risks; organizations that have low endowment draws and can tolerate variability in their budgets can invest in a different way, and take higher risks. And so the combination of those (and understanding what you can and cannot realistically achieve) is why we’re trying to break this compromise. We have a high spending rate and it’s mostly fixed. We have to have a very conservative, low volatility strategy, but that doesn’t mean we don’t want to grow our endowment, so we’re trying to break that compromise by having a high return with an as-low-as-possible risk.
BT: Out of curiosity, how does IAS’s investment funds deal with recessions and business cycles? Are they highly dependent or independent? And what do you think about the fears for this upcoming recession?
MB: We’ve taken a position that we don’t want to be affected by recessions. We want to minimize any impacts that an economic recession might have on our asset values and our ability to spend because nothing changes for us — it’s not like we dial back the products that we’re producing and change our operating environment, so we want to be largely insulated from that. We’ve chosen a strategy that is challenging because it does not give us a lot of exposure to those economic fluctuations. Being exposed to economic fluctuations—it’s business risk and equity risk, and those typically provide high, long-term returns, so that’s the trade-off. You get a higher-than-average long-term return, but you have to suffer the variability in asset values, and sometimes that affects spending for institutions that aren’t adequately prepared. The way that you approach that is you really prepare for it—you have to think about what the impact would be, and you run scenarios, and you game it out, and you explore that with not just the investment team, but also operating staff at your institution, so they are aware of what the potential impact might be and prepare for it. And so we’re always worried about the future—that’s investing. We’re always worried about the future, and managing those risks is key. Not taking risks causes long-term pain in the form of not finding the returns and the growth that you need. Taking too much risk causes potential short-term pain, if you endure a deep drawdown that you can’t tolerate. So you’re essentially balancing those two tensions and obviously that tradeoff is one we’re trying to learn how to [be attuned to] as well. But by and large a recession is a risk, but it’s not the base case. If you look at where the media tends to focus, there’s a lot of worry. Is a 25% chance of recession high or low? It depends on your perspective. In my perspective, that’s a very high chance relative to the base case, but it’s not a large chance—it’s still only 1 in 4. So to answer your question, [a recession] is more likely than it has been in the past, but it’s not guaranteed by any means. Again, being cognizant of the risks, managing the risks appropriately—that is the key. The key is not to avoid risks, it’s to control them and manage them to the extent possible. That’s the art of investing.
BT: What would be your basket of values in life?*
MB: My primary values are twofold—the first one is continuous learning. What I have found in life is that the more you know, the more parallels you see between problems in one field and problems in another, and you’re more apt to be able to address and approach and solve problems in different fields, the more you know about other fields, so expanding your world geographically, expanding your world intellectually, expanding your world in a diverse manner is very, very key. The second value is being good, striving for excellence—making use of the time we’re given effectively. Every single one of us is an investor, even if we don’t realize it. We’re all given a certain amount of time, and we don’t know how much time we’ve been given, but we can guess how much time we’ve been given, and then we either use and consume that time, or we invest that time. And so being cognizant of that trade-off, and striving to think a little more about the future and invest that time to be excellent and to build on that is another key value. So broaden your horizons and push yourself to be excellent at whatever you do!
This was a question submitted by David Wilson, a student at the University of California. If you would like to submit a question for one of our upcoming interviews, please do so here.