The March 2022 letter from MIT’s endowment (MIT Investment Management Company, or MITIMCo) wraps up the performance of the last 15 years since the current investment team started working together and brings to surface some of the lessons learned during this period.
First of all, MITIMCo’s goal is gargantuan, it needs to generate returns of 8% pa in order to keep the purchasing power of the endowment ($27.4B in 2021) after inflation and after MIT’s annual spending. Indeed, MITIMCo managed to return 18.9% pa over the past 5 years, 14.5% pa over the past 10 years, and 11.7% pa over the past 15 years. And considering as benchmark the 70% stock/30% bond passive index, MITIMCo earned more 7.7 pp, 6.3 pp and 4.1 pp, respectively.
Interesting to note, when the current management team took the helm of MITIMCo in 2007-2008, private investments (VC + LBO) represented 20% of the portfolio and now it is over 40%.
One chapter of the letter that greatly called my attention was about MITIMCo’s “Mistakes” (bold emphasis mine).
“ … we wanted to find ways of creating an internal culture in which the sharing of mistakes is not just a habit but also valued and rewarded. One way we have tried to lessen the stigma of sharing mistakes internally is to discuss some of them in open forums, such as this letter”.
“One mistake we made in recent years was a failure to capitalize sufficiently on co-investments in late-stage venture capital companies. While pattern recognition is one of the great benefits of experience, overreliance on pattern recognition can be a hindrance to good decision making, particularly during periods of secular change. Based on our historical experience, we believed that late stage venture capital co-investments generally were poor risk-reward because that these rounds of fundraising often were priced by investors hoping for a quick gain in the IPO process and such transactions were likely to be pro-cyclical investments made at market peaks in the largest and least attractive of fund investments”.
“As a result of our pre-conceived notions, we were slow to recognize that the market environment had changed dramatically. The rise of bigger, winner-take-all global technology companies and the tendency of these companies to fund themselves longer in private markets created numerous situations in which MIT’s venture capital managers had access to compelling late-stage private investments that they wanted to share with limited partners. Instead of the negative selection bias we had experienced historically, the late stage venture co-investments offered by our partners in recent years were actually some of the most attractive investment opportunities around. By focusing too much on the historic base rate and not enough on the opportunity set in front of us, we missed opportunities to earn compelling returns for MIT in companies such as AirBnb (a Fabrica Ventures earlier club deal), JD.com, and Stripe”.
MITIMCo recognized that the wealth generation phase in the US has shifted from public to private markets (which is not true abroad, to be developed in a future post).
Given that, how did MITIMCo manage to generate such top performance? By “Being Different”.
“While there probably are people who can continually outwork and outsmart the competition, we find the more sustainable route to differentiated results usually involves adopting an approach that others do not pursue. Adopting an industry standard approach leads to viewing the world through a similar lens as most others and to more competition for investment opportunities. Adopting a different approach leads to less crowded playing fields and an opportunity to build strengths where others may not be focused”.
“We have tried to take a different approach in several areas. One example is our investment manager selection process. Historically, we sought out established firms with long track records of success. Such firms were easier to diligence, quick to get internal approval, and much less likely to result in disastrous return outcomes. Unfortunately, these firms also were harder to develop relationships with (due to numerous demands on their time), harder to garner capacity from (due to significant interest from other investors), and often facing headwinds to future investment success (due to larger asset bases and more complicated organizational structures.) As an experiment, we began to target smaller, more off-the-run managers such as brand-new firms, firms started by people who did not have “traditional” backgrounds, firms delving into new arenas, firms with unusual organizational and fund structures, and any other type of firm that did not match the typical institutional playbook”.
So, like MITIMCo, these are some of the selection questions we should ask and reflect before deciding where and with whom invest:
Do you have the cel number of your GP and can you contact him at any time? Does the GP have skin in the game and interests fully aligned? Do you have full transparency on your portfolio? Does the GP have years and years of strategic and operational boots on the ground real experience or an air-conditioning-macchiato spreadsheet background? What are the entrepreneurial and reputational track records of the GP? What are the odds that the leadership team will endure for more 10 years? Is the fund’s investment thesis unique? Is the investment target sector experimenting strong tailwinds? What is the intellectual capital edge of the GP? Is the GP well-positioned in the relevant ecosystem network?