David Salem - The Art of Asset Allocation

**Patrick O'Shaughnessy** (0:00)
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Hello and welcome everyone. I'm Patrick O'Shaughnessy, and this is Invest Like the Best. This show is an open-ended exploration of markets, ideas, methods, stories, and of strategies that will help you better invest both your time and your money. You can learn more and stay up to date at investorfieldguide.com.

**SPEAKER_2** (0:59)
Patrick O'Shaughnessy is a principal and portfolio manager at O'Shaughnessy Asset Management. All opinions expressed by Patrick and podcast guests are solely their own opinions and do not reflect the opinion of O'Shaughnessy Asset Management. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of O'Shaughnessy Asset Management may maintain positions in the securities discussed in this podcast.

**Patrick O'Shaughnessy** (1:21)
My guest this week is David Salem. David was the founding president and CIO for the Investment Fund for Foundations, which served 800 endowed charities under David's 18-year tenure. He's now the CIO of the Windhorse Group, which focuses on long-term value-oriented investing.
This conversation wanders into and explores many different areas of investing and life. The theme is how to think about asset allocation and invest holistically, from first principles, but we talk a lot about motivation, incentives, human behavior and the fear of missing out as key variables in money management. We discuss the history of the Yale and Harvard endowment models and how their success has affected the asset management world for better or worse.
I also can't stop thinking about David's Mt. Everest question, which we explore early on in our conversation. I'd love to hear your answers to that question, so email me or message me with your thoughts.
You can find show notes for this episode at investorfieldguide.com forward slash Salem. And now please enjoy this great conversation with David Salem. We've had this evolving landscape of asset allocation, where it's one about asset selection or asset class selection or definition, and two about selection and allocation to those different choices. In the time you were at GMO working with Grantham, talking with Swenson and Jack at Harvard, what were the big questions? What was sort of the vanguard or the frontier, if you will, that you were thinking about, learning about as you were trying to define sort of a baseline asset allocation then versus now? What were the principal differences back then versus now?

**David Salem** (3:03)
David came to Yale in 85, as we've said, at a time when the nominal interest rate was still high, but where he thought it did not make sense for a perpetual life charity like Yale to have as heavy a weighting to fixed income as Yale and other endowments had traditionally had. So he started to dial down the bond exposure, dial up equity and equity substitutes, and in the process, it opened his eyes and the endowment to more illiquid forms of investing, which made perfect sense from both a theoretical and practical perspective as long as you have a good sense of what your liquidity needs will be, not only under normal conditions, but under worst case conditions. What Jack did in Harvard was quite different. Jack, I think, quite brilliantly analyzed the overall situation and realized, you know, in important respects, Harvard University, at least then, had the highest credit rating in the world. It wasn't just AAA, it was like quadruple A because he could get lines of credit to build a kind of internal portable alpha engine within the Harvard management company with unbelievably low financing costs, principally because the institutions, the intermediaries from whom he was borrowing the money, weren't focused on, well, what is the overall risk the endowment is incurring? They knew that, you know, maybe JP Morgan knew that when they had $2 billion lent to Harvard, but they weren't all that concerned that Citi had also lent him $5 billion over here, and Deutsche Bank had lent him $3 billion over here. Pretty soon, it added up to real money. So Jack built something that was very, very different from what David had. And therefore, what Harvard and Yale were doing, and I'm just using them as conspicuous examples because there were other leading endowments and foundations. It wasn't just the educational endowments, but some of the very well-managed private foundations were doing the same thing. And of course, it got popularized by some of the leading investment consulting firms, Cambridge Associates most visibly, but others as well.