Water With No Ice

My jaunts to a local coffee house have given me food for thought about how people listen and respond to ordinary requests. Let me explain.

A regular treat for me is a double expresso and a glass of water with no ice. Since I had adult braces removed a few years ago, it's tough to down frosty cold drinks so "straight from the freezer" is a no-no. Interestingly however, about ninety percent of the time, the person behind the counter hands me a tall H20 with (drumroll please) lots of ice. At first I thought it was carelessness on the part of one or two individuals but I started to notice that nearly everywhere I went, regardless of the type of dining venue, my pleas for room temperature liquid refreshment went unnoticed, unheeded or both. In the United States, drinking a cold beverage with lots of ice is standard fare. Maybe, as a result, servers are simply habituated to provide what they think most people want.

Does this tendency to hear what we want to hear and respond accordingly prevail elsewhere? If so, and applied to institutional investors, how does meaningful change come about? How do old habits make way for new and improved practices? My having to wait for the cubes to melt is a trivial event. When billions of dollars are at stake and people don't listen to reality or acknowledge what is needed, the consequences are material and potentially life-altering for plan participants who struggle financially because of bad fiduciary decisions.

I've noticed that discussions with some investors and asset managers since the recent market fallout bear bitter fruit. When asked if they are doing a great job addressing risk management, the answer is invariably "yes" but the reality is often quite different. Headlines aplenty in the last few years suggest that at least some decision-makers embrace the familiar (hear what they want to hear) by interpreting "risk" in the narrow context of standard deviation and correlations. Their take is that they are doing a top-notch job yet, in reality, have barely scratched the surface of what has to be done.

Investment professionals with fiduciary duties, functional or de facto, should understand that a new paradigm is upon us. As I wrote on January 1, 2009 in "History Repeating Itself or a New Start in 2009?" a "holistic risk management process must go well beyond benchmarking against point-in-time numbers alone." As I wrote in 2006, pension risks are both qualitative and quantitative in nature. Advisors, attorneys, asset managers and consultants can play a vital role in either perpetuating the myth that numbers tell the full story or bring fresh insights to the table with respect to a full and more complete assessment of where attention should be paid.

Imagine dressing up for a full course dinner and then being served a single stalk of celery. It's the same thing when a pension, endowment or foundation investment committee asks for help and then gets handed a bunch of performance reports that leave operational and business risks in the corner, unattended.

As we head into a new year, let's applaud the right-thinking investors who put risk management front and center.