Tuesday, January 2nd, 2018
searching for quality

One of the Merriam-Webster definitions of “philosophy” includes these subparts:  “a) pursuit of wisdom, b) a search for a general understanding of values and reality by chiefly speculative rather than observational means, and c) an analysis of the grounds of and concepts expressing fundamental beliefs.”Merrium-Webster | Here is the online entry in its entirety.

In Zen and the Art of Motorcycle Maintenance (ZMM), Robert Pirsig went searching for quality.  Or, more accurately, Quality.  With a capital Q.

Most appearances of the word in ZMM are capitalized.  Quality is the great philosophical construct that motivated Pirsig to write the book.  Of course, we toss that word around quite a bit in the investment business too.

Fundamental investors and sell-side analysts are always talking about their judgments of the quality of a firm’s management team.  But, notions of what constitutes quality are hard to pin down, and it’s easy to find different kinds of capabilities being afforded that same characterization.  A cynic might say that the description really means that management “has moved the stock up.”  That seems to be a common denominator.

Those assessing asset managers are enamored of quality as well, with equally fuzzy definitions about what it is (and a similar tendency to have a good performance record be a precondition).

And, in the world of quantitative investment strategies, there are a number of different variables that are used to try to capture “the quality factor.”

Defining quality — or Quality — is a slippery endeavor.  Since ZMM is a book about philosophy, there is much parsing of the topic, but it’s hard not to revert to a “know it when you see it” approach when it comes to assessments of quality.  In an earlier life as a professor, Pirsig’s narrator had written on the board for his students that “even though Quality cannot be defined, you know what Quality is.”  Comparative assessments of student papers by the class confirmed that; despite the lack of definition, rankings from best to worst were always very consistent.

In ZMM, Pirsig pondered, “Obviously some things are better than others . . . but what’s the ‘betterness’?”  (Ellipsis his.)  Ideas from different parts of the book can help us get started in trying to figure that out:

~ “‘What’s new?’ is an interesting and broadening eternal question, but one which, if pursued exclusively, results only in an endless parade of trivia and fashion, the silt of tomorrow.  I would like, instead, to be concerned with the question, ‘What is best?’ a question which cuts deeply rather than broadly, a question whose answers tend to move the silt downstream.”

~ Pirsig felt that “imitation was a real evil that had to be broken” in order to properly analyze the quality of anything.

~ Your care in doing something — and your caring about doing it — are indicators of quality.  Pirsig examined that by recounting the disinterested attitude he observed in some “professional” mechanics who approached the job by rote, as if “caring about what you are doing is considered either unimportant or taken for granted.”

Similarly, gravitating toward the new, imitating the “proven,” and relying on formulaic, by-the-book solutions without thoughtfully considering other possibilities are among the impediments that we face in our pursuit of quality in investment analysis.

Unfortunately, we don’t get a chance to be very scientific about what we’re doing.  “In a true experiment you keep constant every cause you can think of except one, and then see what the effects are of varying that one cause.”  It’s important to remember that analyses put forth by investment firms and professionals don’t meet that test, despite the fact that the marketing of them proceeds as ever by assuming that the targets of the marketing won’t realize that’s the case.

Therefore, we can’t count on the available quantitative evidence as proof of quality — of betterness — so where should we turn?

As Pirsig’s narrator did with the students in his rhetoric class, we need to examine the aspects of quality and to utilize (or devise) techniques for evaluating them.  That involves getting specific about what characteristics matter, why they matter, and how to judge them.  This is where a lot of analysis can break down.

For example, consider the selection of asset managers.  In my workshopstjb research | The first announcements of workshops (and discounted pricing) are sent to those on this distribution list. on due diligence and manager selection, I try to help attendees examine how they assess the organizational attributes of a firm, and whether they hold fixed or fluid views of those attributes.  (Fixed or fluid assessments of quality, if you will.)

Often what constitutes “better” or “worse” is very vague.  No standards have been set (in fact, standards have usually not even been discussed) and evaluations are conditional.  To a certain extent that might make sense, but, taking it down another layer, if they are conditional, upon what are they dependent?

Without a shared sense of quality about judging investment managers — and of the elements that lead to that quality — how can a group of people make sound decisions in an environment of uncertainty?  Without it, a know-it-when-we-see-it consensus can easily be based upon historical performance numbers, portfolio manager star power, or a compelling narrative (or the dangerous and seemingly irresistible combination of all three).

But judging the quality of the work of others is only part of the battle; you have to wield a mirror as well as a lens.  To reveal the extent to which that is done, I ask allocators this question:  “How do you evaluate the quality of your due diligence and manager selection processes on an ongoing basis?”

Most struggle to answer it well.  That’s true when asking similar questions of those performing other investment activities too.

We all feel like we are searching for quality, but describing what that means often eludes our grasp, as does actually making it happen.  Pirsig’s demanding book reflects the need to grapple with the issues of quality, so that we can bring clarity to our ideas (and ideals) and improve our chances for achieving the goals that we have identified.

This is the second posting of the series on ideas found in ZMM.the research puzzle | This is where it begins.  Next up, those nasty “gumption traps.”the research puzzle | Which one ensnares you most frequently?