|Take Note: Diane Garnick Is at the Cutting Edge of Finance|
By Alec Niedenthal SEP 27, 2012 2:15 PM
The CEO of Clear Alternatives on her innovative new firm.
Diane debuted as both a fundamental and quantitative analyst. Clear Alternatives uses a, well, alternative kind of analysis, tempering the often unchecked biases of quantitative and fundamental approaches. (For clarity’s sake, quantitative analysis derives risk levels, portfolio strength, etc., from algorithms and mathematical formulas; fundamental analysis studies the statements and quarterly reports tendered by specific businesses, as well as macro figures in what’s called a top-down approach.) In short, Diane claims, the basic principles of behavioral economics—such as, for instance, the idea that your average rational decision stems at least in part from a private and likely irrational compulsion to do one thing rather than another, without any rational basis—can ease the effects of a blinkered will, normally neglected in the name of raw fact.
When asked how ETFs fit into her research methods, Diane said, "Our focal point of Behavioral Economics is complemented by two specific types of ETFs, the select sector SPDRs, which enable us to quickly express our views in the ever changing markets"--such as Consumer Discretionary SPDR (NYSEARCA:XLY) and Consumer Staples SPDR (NYSEARCA:XLP)--"and volatility based ETFs, which help us produce returns with lower levels of risk." Examples of the latter include S&P 500 Dynamic VIX (NYSEARCA:XVZ) and S&P 500 VIX Short-Term Futures (NYSEARCA:VXX)
“We know,” she said, “that people make bad decisions—their decision-making process is not very fine-tuned. Some very famous economists claim that that’s because of biology; other people claim that it’s because of social conditioning. So we try to identify all of the decision-making biases that pose risks to our investors’ profit. And then we reduce those risks as much as possible.” Reducing biases is clearly the easy part—the crux of the process lies in picking them out.
Here’s an example: Clear Alternatives structures its investment committee meetings using what Diane calls the Socratic Method, after the famous Greek dissident’s style of debate. One manager spends the day collecting data in favor of, say, General Motors (NYSE:GM). Another manager delivers reasons to avoid it.
What’s the rationale behind CA’s division of labor? Diane explains it by way of analogy. Let’s say, paraphrasing her, that a man has been seeing a woman—supposedly, this happens fairly often in the modern world. He lists in his head a few traits of hers that he likes and a few that don’t drive him wild. Finally he decides to tell a friend about her. “I met this great girl,” he says. What he not only doesn’t but can’t say, Diane insisted, is, “I met this great girl, and here are all of the things I don’t like about her.” Behavioral economics has a name for this sort of trompe-l’oeil: The endowment effect. When I explicitly endorse something—a potential partner or a bundle of stocks—I become, whatever my will, committed (or condemned) to it.
So when a trader adduces reasons in defense of a stock for half of her workday, there’s little chance that her opinion of it will emerge intact. In reality, behavioral economics tell us, she’s already convinced herself that this stock, or sector, or style is worth whatever volume of risk it entails. So, again, one trader prepares a “pro” profile of the stock, using quantitative and fundamental resources, and another prepares the “con.” So goes the Socratic Method, one of Clear Alternatives’s many operations inflected by behavioral econ. But that’s not the firm’s only unconventional element. Its roster is also all-female, as mentioned above.
Diane’s clear on this point: Clear Alternatives isn’t a political intervention so much as a corrective to an industry that hasn’t been overwhelmingly friendly to women (typically in an infrastructural rather than direct manner). CA’s gender “imbalance,” which is actually a rebalancing and an attempt to equalize the field, came about purely by chance. “As we started to speak to people,” she said, “we were very fortunate to get Florina Klingbaum,” one of the founders of Credit Suisse’s alternative asset branch. Like many women in the industry, Klingbaum’s career sustained a lapse due to her pregnancy. In an industry that evolves at a breakneck pace, pregnancy can be crippling to even a high-ranking trader like Florina—a wrong that Clear Alternatives does its best to address by hiring women who, after raising a child, have been effectively locked out of finance.
The touchstone of Clear Alternatives’s female-focused hiring practices isn’t, “We’re women, so you should invest in us.” Instead it’s, “We have great returns, an all-star team of traders, and we happen to be women”—which isn’t quite the opposite, because the fact of being comprised entirely of women certainly still colors the identity of Clear Alternatives but doesn’t define it. It isn’t--at its roots or through some political program--a woman’s firm, but is rather a firm that supports women through what it does and not only what it says. Diane again: “We only want to hire the best people that are out there....Look, if you know a man who’s as smart as all of these ladies, send him to us.”
It makes one wonder, of course, whether there’s some primordial tie between the insights of behavioral econ and the sort of investment firm that would believe in women the way that Diane’s does. It makes one wonder—and also hope. “Being a woman gives us a very different perspective,” Diane told me. “What we can deliver is a diversity of thought. And diversity of thought is as important as diversity of stocks and bonds.”