PCT/Endowment diversification

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criley
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PCT/Endowment diversification

Post by criley » Wed Feb 01, 2012 7:30 am

Hi,
I'd like to throw something out for consideration: over time that Alcor should consider 2 more types of diversification for the PCT and endowment fund (once it is set up), in particular:

1. Firm diversification - perhaps pick 3 firms and put 1/3 of the assets at each in order to avoid an MF Global type of calamity. Right now it appears that all PCT assets are at Morgan Stanley.

2. Geographic diversification - while doing the above, perhaps pick one firm that is non-US based such as in the Cayman Islands/Switzerland or the like. This is in order to avoid a Greece type of situation. Now it may seem farfetched, but over decades things may change.

This does not have to be done immediately, but over time I think it is important. (By the way, with assets in the amount the PCT and endowment funds have, Alcor should be getting extremely low costs, hopefully Alcor is).

TDK
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Re: PCT/Endowment diversification

Post by TDK » Fri Feb 03, 2012 9:45 pm

Absolutely!

The current international financial situation makes it clear that even "respected" banks
have occasionally squandered or lost their client funds, or invested poorly, and had
to be bailed out.

Banks and fund managers diversify, for exactly that reason.
If one bank, or country, or company, loses value, or goes under,
it doesn't decimate their fund.

Merkle
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Re: PCT/Endowment diversification

Post by Merkle » Sat Feb 04, 2012 4:53 pm

I passed your post along to the PCT and got the following response from Michael Korns:
Excellent question.

MF Global is a national scandal. MF Global was under the regulatory scrutiny of the commodities exchange. Recently Justice Dept forensic accountants have tracked down all missing $1.2 billion to the specific foreign accounts. Getting everything returned is the next challenge.

Morgan Stanley is a much larger, hopefully more reputable firm. We hope that MS is not committing fraud.

Unfortunately, if a custodian commits fraud and the Fed auditors fail, there is no protection for anyone.

We are hoping that MS is a responsible firm.
This does not fill me with a warm sense of comfort. While there is no pressing need for action, developing strategies to mitigate this type of risk would seem appropriate.

criley
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Re: PCT/Endowment diversification

Post by criley » Sat Feb 04, 2012 5:05 pm

Thanks for the follow-up. I think one way to mitigate the risk is to encourage diversification. That said, I think the risk is extremely small because Morgan Stanley is much better known and reputable, but Alcor should still plan for it given the time frames involved and what is at stake. If it were "just" money, that would be bad enough, this is much more important.

Have a good weekend.
Chris
Merkle wrote:I passed your post along to the PCT and got the following response from Michael Korns:
Excellent question.

MF Global is a national scandal. MF Global was under the regulatory scrutiny of the commodities exchange. Recently Justice Dept forensic accountants have tracked down all missing $1.2 billion to the specific foreign accounts. Getting everything returned is the next challenge.

Morgan Stanley is a much larger, hopefully more reputable firm. We hope that MS is not committing fraud.

Unfortunately, if a custodian commits fraud and the Fed auditors fail, there is no protection for anyone.

We are hoping that MS is a responsible firm.
This does not fill me with a warm sense of comfort. While there is no pressing need for action, developing strategies to mitigate this type of risk would seem appropriate.

Merkle
Posts: 49
Joined: Mon Aug 15, 2011 10:38 pm
Relationship with Alcor: Member since 1989. Board member since May 21, 1998.
Location: Cupertino, CA
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Re: PCT/Endowment diversification

Post by Merkle » Mon Feb 06, 2012 4:07 am

Yeah, this is something we'll have to think about. I'll be interested in seeing how effectively the Fed cleans up the mess.

Quantifying these failures would be of interest. Plotting magnitude of loss versus frequency with which the loss occurs might yield a predictable pattern which would allow extrapolation into the large-loss low-frequency regime. Someone has likely carried out such an analysis (following the general rule of thumb that almost any type of financial analysis you can think of has already been the subject of someone's Ph.D. thesis).

TDK
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Re: PCT/Endowment diversification

Post by TDK » Mon Feb 06, 2012 8:44 pm

I guess my main concern would be the long-tern possibility of shifts in the value of the US dollar.

If your assets are diversified into other currencies, other banks, etc,
then you avoid the "all eggs in one basket" problem.

Morgan Stanley may indeed be very reputable, and very safe with how they manage the money.
But that doesn't matter if the money itself no longer holds the same value it once did.

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Re: PCT/Endowment diversification

Post by Michael R Seidl » Wed Feb 08, 2012 10:16 am

I've been taking a leadership role in formation of the endowment, and, although we're still a ways from formation, much less investment guidelines or protocols, I certainly agree that proper diversification is requisite.

With respect to my personal investments, I'm reasonably comfortable, given their size, with diversification through domestic and international mutual funds, which spreads risk widely, and through firm diversification among retirement and non-retirement accounts (which are with different institutions). We should, at a minimum, have geographic diversification in the endowment through investment in truly international mutual funds (ones that do not also hold US invesments) and firm diversification to the extent costs and benefits warrant. It's very hard to quantify the risks of a meltdown of an institution like Morgan Stanley, but the marginal costs of, say, placing half with MS and half with Vanguard will be minimal. The question becomes what size of asset pool you become comfortable with placing with a single institution and, eventually, what you do when you run out of safe mega institutions to place with. We should be so lucky as to ever get to that problem.

CR1776, does investing in truly international mutual funds capture your full concerns about geographic diversification, or are you suggesting investing directly in hard assets in other countries? Or--shudder--currency trading? I'm always concerned about direct investment, real estate, or picking single stocks, as the financial risk there seems to outweigh any value to be gained from diversification, except perhaps for a very small portion of a portfolio to be used for speculation.

We'll be soliciting input on investment guidelines for the endowment when we get to that stage, as we have many more members with more financial savvy than I have.

Michael

criley
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Re: PCT/Endowment diversification

Post by criley » Wed Feb 08, 2012 2:07 pm

Hi Michael,
Thanks for the response.

My thoughts on it would be:
1. Extremely low-cost index funds. Some US-centric, some non-US-centric. This will help diversity currency risk. My own view is stocks over the long term will give the most bang for the buck, but some mixture of stocks/bonds/cash etc is reasonable.
2. Use firms like Vanguard, Fidelity, Schwab, and Morgan Stanley. This should help avoid the MF Global risk.
3. The other concern (from my view) was geographic/political diversification. Perhaps using a non-US firm to hold some percentage of assets. This would help avoid a Greece type situation. While remote, the possible time-frames involved necessitate considering it.
4. Regarding currency, or other hard assets - I do not believe that should be done. The risks outweigh the rewards. Perhaps if 1000 people were preserved with 100 million in assets, 1% could be allocated that way, but even then I don't see the risks and costs being worth it.

I think the same concerns apply to both the PCT and the Endowment.

I am in a similar situation with respect to personal investments as you are - assets at several firms in different funds.

Again, thank you for the response.

Chris
Michael R Seidl wrote:I've been taking a leadership role in formation of the endowment, and, although we're still a ways from formation, much less investment guidelines or protocols, I certainly agree that proper diversification is requisite.

With respect to my personal investments, I'm reasonably comfortable, given their size, with diversification through domestic and international mutual funds, which spreads risk widely, and through firm diversification among retirement and non-retirement accounts (which are with different institutions). We should, at a minimum, have geographic diversification in the endowment through investment in truly international mutual funds (ones that do not also hold US invesments) and firm diversification to the extent costs and benefits warrant. It's very hard to quantify the risks of a meltdown of an institution like Morgan Stanley, but the marginal costs of, say, placing half with MS and half with Vanguard will be minimal. The question becomes what size of asset pool you become comfortable with placing with a single institution and, eventually, what you do when you run out of safe mega institutions to place with. We should be so lucky as to ever get to that problem.

CR1776, does investing in truly international mutual funds capture your full concerns about geographic diversification, or are you suggesting investing directly in hard assets in other countries? Or--shudder--currency trading? I'm always concerned about direct investment, real estate, or picking single stocks, as the financial risk there seems to outweigh any value to be gained from diversification, except perhaps for a very small portion of a portfolio to be used for speculation.

We'll be soliciting input on investment guidelines for the endowment when we get to that stage, as we have many more members with more financial savvy than I have.

Michael

Kaminsky
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Re: PCT/Endowment diversification

Post by Kaminsky » Wed Feb 08, 2012 4:13 pm

Given that Alcor must survive decades, or even centuries, I see the financial risks (in highest-to-lowest likelihood order) as:

1) Embezzlement/theft - I have a great deal of trust in everyone currently working at Alcor, but in the decades to come... who knows? Plus, any small organization has limited resources to prevent theft - including cyber-crime. Even large organizations have fallen to insider malfeasance. The best defense against this is to vet candidates carefully AND have many "eyes on the prize." It doesn't matter how beautifully diversified your invest portfolio is, if someone can withdraw all the funds in every account and head off to the tropics! I don't know if insurance is available for these types of scenarios, but if it is, it might be useful to look into it. Another check on this, and all the issues below, is to have a dedicated membership that can step-up, financially and otherwise, to deal with a crisis.

2) Investment scam (e.g. a Madoff situation). Alcor thinks it has solid investments because it gets paper statements from its investor firm that says so, but those turn out to be fiction. The best defense against this is to get financial advice (if needed), but then invest directly in the trusted (and insured) financial institution - not through middlemen. E.g. Get the statements directly from Vanguard, et al, and check the balances directly on their websites.

3) Lawsuit/legal action/frozen assets. Being in the business Alcor is in means it is more prone to legal problems, and is more likely to be at the mercy of unsympathetic judges and prosecutors (edit: I wrote this originally as "persecutors" - which fits too!). It may take awhile for things to get straightened-out. In the meantime, Alcor could be strapped for cash. In addition to the due diligence and methods that Alcor currently employs in avoiding legal problems, one defense would be to have a portion of its funds held outside of the USA (see below).

4) Investment risk/under-performance. The basic solution is known: Diversify, over many asset classes, including various types of equities, over the world markets - using low cost index funds to avoid high overhead.

5) Financial firm failure. Hopefully SIPC, FDIC, bankruptcy proceedings, judicial oversight, etc. will clear this up in the fullness of time. But in the short term, access could be a problem. A solution to this would be to hold funds in a few trusted institutions instead of just one.

6) USA financial problems. Not just a depression, but other, lesser, problems - like declared bank "holidays" and other restrictions. Again, having a small, but significant, percentage of assets (like enough to operate for a few months (a year?)) outside the USA - perhaps in a stable currency other than US dollars, might help.

7) World financial collapse/"Black Swans". Have some gold? Even better: Have the supplies and resources to operate over a short term crisis. Have the ability to move to a safe haven (even during the worst of the world's problems in the past centuries - world wars, plagues, dark ages, inquisitions, etc - there have always been some place or places that remained enlightened/civilized).

This is only a partial list of financial risks. I don't mean to imply that these types of systemic financial problems are the biggest risks to Alcor. For example, losing membership is a more immediate risk and would-be (financial and otherwise) crisis.

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Re: PCT/Endowment diversification

Post by TDK » Wed Feb 08, 2012 7:36 pm

Excellent list!

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