Mediocre SPAC Returns Shouldn't Be a Surprise: Barry Ritholtz
There has been increasing focus on the poor performance of a newly popular Wall Street product called special-purpose acquisition vehicles, or SPACs. My Bloomberg Opinion colleague Nir Kaissar dived into the debate recently, citing research showing the returns of most SPACs are subpar. But here’s a dirty little secret: Most investment products are at best mediocre. They tend to be expensive and underperform versus a simple passive index. And yet, this truism has somehow become controversial.
The vast majority of “products” that can be stuck in a portfolio are mostly not worth the cost relative to the performance they provide. Main Street investors have come to this realization, as evidenced by money flows since the financial crisis, with cash moving away from expensive, complicated, under-performing products toward inexpensive, simple, market-performing ones.
It used to be difficult to discern how expensive and underperforming most products were. Finance was opaque, with full costs usually hidden from view. Information asymmetry, combined with a – mostly - rising stock market, effectively hid this fact from investors until the scandals and crises of the first decade of this century caused many investors to rethink their approach.
The investing world is as much a victim of Sturgeon’s Law as anything else. Dating back to 1953, this maxim was coined by the science fiction writer Theodore Sturgeon, who, in response to a critique of his genre made the insightful observation that “90 percent of everything is crap.” The simple reality is that most human attempts at creation fail, many quite spectacularly. This not as a curmudgeonly observation, but rather, the joyful celebration of how rare true success is.
The key reason for this is that survivorship bias colors everything. Investors first learned of this through overstated mutual fund returns. Once we account for the funds that were closed (or otherwise removed from the dataset), much of the mutual fund investment outperformance disappeared. The same is true for collectible artwork, fine wine, automobiles, or other alternative asset classes.
The successful products we encounter every day are the result of initial failure. While positive outcomes are all around us, hidden from view is the iterative process of repeated failed attempts that lead to improvement. The world is filled with fantastic products from wildly successful companies, making it easy to overlook the many small gains and occasional big breakthroughs that helped them achieve this success.