Capitalizing on Tipping Points

Ashby Monk

I was catching up yesterday with some friends here in London before the SWF conference kicked-off today. One conversation in particular (with an investment consultant) was really interesting, as we got into a discussion about how a SWF (ostensibly an investor without liabilities) could really take advantage of its long-term time horizon. We both saw quite a few unique opportunities for these funds to generate value from long-term plays. I won’t rehearse the entire conversation here (I’m far too jet lagged), but I will share one strategy that sticks out in my mind.

Beyond the typical arguments made for long-term investing (e.g., illiquidity premia, information asymmetries, corporate influence, etc.), I really like the idea that SWFs can generate returns from “tipping points”. In short, long-term investors can profit from strategies that capitalize on trends or phenomena that, at some point in the future will (though we don’t know exactly when) result in market disruption. Such factors might include an ageing society, resource scarcity or the repercussions of mis-pricing carbon emissions. These are really long-term trends that have not yet impacted the market in a meaningful way. However, we can say (with pretty high confidence) that these factors will, at some point in the future, result in market disruption. Enter the long-term investor, who can wait patiently for the tipping point to occur. The shorter-term investors are forced into a guessing game about when the repricing of risk will actually take place.

Anyway, I quite like the logic and elegance of the strategy. The real question, though, is how a fund can actually do this. How does a SWF incentivize staff to invest with a view to making money from future tipping points? After all, some of these trends and phenomena may not have their dramatic ‘repricing moment’ during the life of an average portfolio manager. So the fund will need to come up with short-term incentives that encourage portfolio managers to invest with a view to making money after they’ve left the organization.

That, my friends, sounds like a really interesting research project idea: How do you design and govern a truly long-term institutional investor? Watch this space…

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This website is a project of Professor Gordon L. Clark and Dr. Ashby Monk of the School of Geography and the Environment at the University of Oxford. Their research on sovereign wealth funds is funded by the Leverhulme Trust and The Rotman International Centre for Pension Management.

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