Taleb Questions CalPERS Ben Meng’s Competence and Honesty in Defending Missed $1 Billion Hedge Gain; Taleb Estimates CalPERS Net Loss on Meng’s “Alternative Mitigation” Over Two Years at $19 Billion

Nassim Nicholas Taleb, a celebrated expert on complex risks, in a video Taleb has graciously allowed Naked Capitalism to run exclusively, challenges CalPERS Ben Meng’s rationalizations of his decision to dump both of CalPERS’ two “left tail risk” hedging strategies. That call resulted in CalPERS giving up over $1 billion gain, or a 3600% return, on the bigger of the two hedges that CalPERS closed out first, prior to the market free fall.

As we’ll show below, Taleb is reacting to Meng’s self-defense in a webcast on Wednesday. In addition to questioning Meng’s understanding of these portfolio hedges, Taleb charges Meng with misrepresenting the supposed hedges that Meng said CalPERS had in addition to the two tail hedges CalPERS abandoned. Meng asserts that CalPERS made $11 billion from these positions. Taleb contends that those investments could hardly be considered hedges; his quick and dirty math says that in 2019, they lost about $30 billion, still leaving CalPERS $19 billion net worse off than it it had left well enough alone.

How can Taleb know that? First, in his talk, Meng specifically mentioned his two “risk mitigation” strategies, which were “long Treasuries” and factor-weighted investing for equities. One might be able to infer a bit from CalPERS’ Investment Committee meetings, but Taleb has a much better fix than that.

Taleb is an adviser to Universa, the manager of the position that CalPERS exited first. A senior investment manager at CalPERS, Ronald Lagnado, who had been head of asset allocation at CalPERS, joined Universa at the beginning of April, straight from CalPERS. In other words, Lagnardo is ideally positioned to the details of how these strategies were implemented, which would enable Taleb to estimate their historical performance.1

It’s not as if Universa and Taleb need more press. In addition to the CalPERS’ self inflicted wound calling attention to Universa’s sparkling performance in the equity plunge, the Wall Street Journal wrote up Univera’s great results on April 8. By then, its gains were even higher: 4144% year to date. And the Journal effectively debunked Meng’s assertions that his other secret sauce risk mitigation strategies were cheaper substitutes for the supposedly prices Universa hedges. In fact, classical diversification strategies, which is all Meng appears to have to fall back on, barely dented the damage:

Mark Spitznagel could be forgiven some immodesty. His Universa Investments, which offers investors a tail-risk hedging strategy that serves as an insurance policy against extreme market events, made a return as crazy as the market action this year: 4,144% in the first quarter.

That is the net return of the strategy on its own, but Universa expresses it as a small part of an overall portfolio. For example, last month the S&P 500 lost 12.4% of its value while an investor with 3.3% in Universa’s tail-risk hedge strategy and the remainder in an index fund tracking that stock market benchmark would have made 0.4%. No other “risk mitigation” trade, such as putting a chunk of a portfolio in gold, bonds or a basket of hedge funds, would have had a positive return.

Yet a fantastic month for stocks wouldn’t have meant the inverse because Universa doesn’t make linear bets—its frequent losses are small.

In other words, Taleb appears to be pursuing his mission of calling out people like Meng, who wield power in the investment business but don’t know what they are doing. The video is short so please watch it in full. Nevertheless, I’ll call out the key points below. I’ve also posted the CalPERS webcast that Taleb mentions later in this post.

As you can see, Taleb presents the purpose of his short talk as clearing up misconceptions promulgated by Meng about tail risk hedging. He first addresses Meng’s assertion, which he has made in the press as well as in his presentation below, of having “alternative hedges” that were cheaper and by implication largely as good as the Universa hedge and the smaller exposure that CalPERS had with a second tail-risk hedge provider, LongTail Alpha. For instance, from Meng via Institutional Investor:

We terminated explicit tail-risk hedging options strategies because of their high cost, lack of scalability, and the fact that there are better alternatives available to CalPERS.

And from Meng in the video below, starting at 10:47:

In December 2017, our board approved risk segmentation as drawdown mitigation managers as cheaper and more scalable drawdown risk mitigation than explicit options-based tail risk hedging strategies. As we continue to enhance our balance sheet liquidity management and develop a centralized governance structure, as part of the broader active risk review in 2019, the termination of an expensive and unscalable strategy became apparent.

Let us stop here, since there are problems with what Meng says in addition to the whooper Taleb called out. Meng attempts to depict the tail risk hedges as intended for liquidity risk mitigation, as in to make sure the fund has enough cash on hand even in bad markets so as to be able to make required payout without selling assets that might be distressed with the time. The conundrum is that highly liquid and low risk investments don’t return much, so investors like CalPERS endeavor to provide for the needed foul-weather liquidity while minimizing the loss in investment returns.

That was not the reason for entering into these tail hedges. Former Chief Investment Officer Ted Eliopoulos entered into these programs to reduce losses in a crisis. Even though loss mitigation and liquidity risk mitigation are overlapping concerns, they are distinct, as you can also see from the Pensions & Investments article describing Ronald Legado’s new role at Universa (emphasis ours):

Mr. Lagnado will initiate research about tail-risk hedging strategies across asset classes as well as drawdown management strategies that help pension fund staffs manage liabilities and position their portfolios for long-term investment.

Translation: Universa sees tail-risk hedging and drawdown mitigation as separate products. But Meng would have you think they are the same thing.

One finally wonders how Meng conducted “active risk review” was conducted. Wilshire Associates, CalPERS’ main investment consultant, was kept out of the loop. They were told CalPERS was abandoning the tail risk strategies after the decision had been made, and even then only in passing.

Back to Meng at 11:20:

So, basically we chose better alternatives for market drawdown protection and they turned out to be better alternatives in the recent market rout. Those two risk segments added more than $11 billion of our drawdown mitigation matrix.

Taleb called out this bafflegab (at 1:07):

Number one, Mr. Meng said he made $11 billion on alternative strategies that sort of offset the losses during this collapse.

I don’t know if you realize that these strategies need to be weighted against what they made or lost before that. Effectively, we think, back of the envelope calculation is so-called mitigating strategy would have lost something like $30 billion the previous year. So you make $11 billion, you lose $30 billion before, not a great trade, and definitely not a great trade if you take that over long periods of time, where you lose in rallies and make back a little bit in the selloff. That’s not a mitigating strategy, that’s something that may work in the portfolio, definitely not comparable to tail hedging.

Taleb’s second point is “all wine is not the same,” or as he puts it, “There are tail risk hedges and there are other tail risk hedges”. Taleb stresses that options can be pricey or cheap, it takes real analytical skill to tell the difference, and the combined 34 year track record, first Taleb’s, then Universa implementing the same type of strategy, shows that they can construct these hedges in a way that is profitable over time.

Basically, Taleb is arguing that options are not always efficiently priced, which enables him and Universa to deliver alpha. His results support his claim.

Wilshire Associates clearly agreed. Recall that Wilshire spoke approvingly of the tail risk hedging strategy at an August 2019 board meeting, saying that even though the month-in, month-out burn might look worrisome, when things went sour, the return would be on the order of 1000%. As we now know, it was four times higher. So Universa spectacularly outperformed Wilshire’s expectations, yet Meng is still trying to portray overriding Wilshire as a sound call.

Taleb closes:

Finally, one comment, from Meng, which to me is the worst. Meng said that a certain gentleman by the name of Ilmanen, Antti Ilmanen, who used to work I think for Cliff Asness at some point, some kind of economist, said that options aren’t cheap. I’m going to say one thing, I didn’t even mention his name in my book, I know his argument, that options are expensive and one should sell them. He just doesn’t know probability. You have to start by teaching them probability, it will take maybe five to ten years, and then explain to the point. Some people, you can’t deal with their argument.

Taleb charges both Ilmanen and Meng as having failed to train themselves adequately on the nature of probability to opine on options pricing. And there’s a famous example that refutes Ilmanen’s argument that you should only sell options and never buy them.

Credit default swaps, although misnamed as derivatives (they are not priced in relationship to an underlying instrument) have options-like payouts. Those who sold CDS on BBB subprime risk from 2005 to 2008 either went bust, like AIG and the monolines, or needed bailouts in order to survive. The buyers of those CDS (either directly or via CDO tranches), like Magnetar and John Paulson, made fortunes.

Meng’s rambling talk below is hard to digest. Nevertheless, a few points stand out.

First, Meng insists that even with the benefit of 20/20 hindsight, what he did was correct. That’s quite a statement, when you contrast the stellar performance of the tail hedges (again, with Wilshire confirming the eventual payoff would be spectacular) versus the vastly high cost of the risk mitigation strategies that Meng falsely depicted as cheaper.

Second, Meng cited two “papers” to justify rejecting tail risk hedges. One was the Antti Ilmanen article that Taleb could not bring himself to treat as serious: Do Financial Markets Reward Buying or Selling Insurance and Lottery Tickets? We’ll defer to Taleb’s view that the piece is too ill-informed to bother parsing.

The second, Who Should Hedge Tail Risk? by Robert Litterman, is not an analytical piece but a long editorial. The abstract in the Financial Analysts Journal reads: “The executive editor discusses his views on an issue of interest.” 2

Mind you, we’ve gotten this far without reminding readers of Meng’s biggest sin, of lying to the board about exiting the tail hedges. Recall that board member Margaret Brown asked him a direct question at the March board meeting and Meng gave a specific answer. From the transcript:

BOARD MEMBER MARGARET BROWN: Ben, can you tell me how our left-tail investments are performing? Are they performing the way we thought they would in this economic downturn?

CHIEF INVESTMENT OFFICER MENG: Good morning, Ms. Brown. Yes, for any left-tail risk hedging strategy you’re referring to, they should perform well in this kind of a down market, as they were exactly designed to do. And from what we know are most of these strategies are performing as anticipated.

Under California law, the CalPERS board has sole and exclusive fiduciary duty for the assets of the fund. Fiduciaries cannot afford to have a liar in charge of the money.

Meng is too dishonest, top to bottom, to continue in an executive role. He need to go.


1 Meng refers to two strategies in his talk. One the factor-weighted equities, CalPERS presumably pursued a low-volatility approach, which would mean leaving money on the table in a bull market. On “long dated” Treasuries. CalPERS holds positions in the 10 to 20 year range. In addition to swings in value in this maturity range, recall also that CalPERS implemented a policy of levering its portfolio, as opposed to levering within specific asset classes. What this means in practice is levering where it is cheapest to buy more assets. One of the cheapest ways to borrow is repoing Treasuries. As the saying goes, leverage amplifies losses and gains. If CalPERS opted for longer repo tenors, that would increase the magnitude of the swings. Knowledgeable readers are encouraged to weigh in.

2 The piece is deeply flawed. It depicts investment banks as logical buyers of tail risk insurance, depicting them as levered traders of equities. Huh? How could he have worked at Goldman and not understood their economics? Institutional equity firms trade shares on exchanges. They may do various sorts of basket trades and run some short-term risk in laying them off successfully. The way they lose money in equity downdrafts is that their institutional sales business is unprofitable absent IPO and secondary offerings, and those dry up in bad markets. They are leveraged traders in bonds, and anything but the safest bonds swoon in market crises, but that was not what Litterman was talking about.

Similarly, it gives a naive view of pension funds as long term investors. In fact, CalPERS has to make payments month in and month out, and is now in a negative cash position, which means over time, it is spending more than it is getting in via new contributions.

Print Friendly, PDF & Email


  1. Harry

    I knew Antti Ilmanen when I worked with him in a London hedge fund. Nice guy, very tall, quite gentle. He was a quant, not an economist. Whether you consider him a good quant is another matter. But he would probably have been riffing on the fact that the prior 10 years had not been a good period to own vol. Everyone was short of vol since 2009 and it worked for everyone until recently. All the longer term quant studies have shown being short vol had generally worked.

    As someone who made their bones in the 1994 bond bear market trading bond options, this never sat well with me. And I take Talebs point that some markets had extraordinarily low vol. Swaption markets till recently had long dated vega priced absurdly low (and an inverted vol surface). Similarly FX vol was ridiculously cheap. Equity vol is not the only fruit. Anyhoo, Taleb is being a little rude (same as usual) even if he is more right than either Mengs or Illmanen

    1. none

      What’s the difference between an economist and a quant? I get that a quant goes deeper into the numerical weeds and less into grand policy stuff, but I thought it was a specialized sub-field of economics, more or less.

      1. Yves Smith Post author

        Hah, that is a fair point. “Quants” covers a multitude of sins. Financial economics is very quantitative, but some “quants” come out of physics or math.

    2. vlade

      Short vol works until it doesn’t. The stockmarket “process” seems to be one where vol is subdued most of the time, and then spikes massively.

      I like Taleb’s “picking pennies in front of a steamroller” metaphor here. It can make you rich, or it can make you flat. You’re not guaranteed to be rich if you do it long enough, but you’re guaranteed to be flat.

    3. Colonel Smithers

      Thank you, Harry.

      Did you come across Matt Hancock and Rachel Reeves when you were at the Bank of England, both front benchers now?

      1. Harry

        I didnt know either of them. I’m a bit older. Gabriel Sterne told me that Hancock used to report to him back in the day, and he liked him. I have a high regard for Gabe, and for Peter Doyle who used to work with him. I knew both of them at the BoE. Im embarrassed to say that the current Governor was in my intake year at the bank. Nice guy and of course, very serious. A bit older than the rest of us cos he had done a PhD.

        1. Colonel Smithers

          Thank you, Harry.

          I worked with Bailey, an affable fellow, a decade ago. I wasn’t at the Bank. Also, with Paul Tucker, Andy Haldane, Andrew Gracey, Chris Salmon, Vicky Saporta and Sarah Breeden.

          1. harry

            I sat next to Andrew Gracie in my first two years at the Bank. Andy Haldane was always marked down for high office. Everyone knew/ knows Tucker. I know Ms Breeden only by name.

  2. Harry

    Also, Im pretty sure that Taleb would never say the bit about you should only sell options and never buy them.

    Probably the other way round no? I know its a typo but an important one.

    Taleb would suggest only being long tail risk. Which means generally bad to sell options, but it is a heinous crime to sell deep out of the money options (or more accurately, distant strikes). And he is absolutely right about that.


    1. Yves Smith Post author

      Sorry, AM drafting. Thanks for catching it. Will fix. I am under so much deadline pressure that re-reading sometimes goes by the wayside. A sad consequence of being thinly staffed.

  3. vlade

    Yves, one comment – liquidity management is not just drawdown. It’s also collateral management – although the drawdown management can, and often does have impact (say in Aussie, the pension industry is using FX hedges to manage it’s FX exposures for drawdawns, but it also creates collateral issues as AUD is pretty volaltile. But the collateral management can in a crisis like this massively increase the liquidity management even if drawdowns are more or less the same)

    Other than that, this is exactly the stuff Taleb is really good at, and I’m glad you got exclusive on the video – he clearly seems to consider the CalPERs fight worth, and it’s good to get more visibility of this.

    1. Yves Smith Post author

      Thanks but I am following Meng’s formulation in his talk. He repeatedly refers to “market drawdown protection”.

      I am not current, but the last I checked, CalPERS hedged only 15% of its foreign equity exposure. It has only just started discussing levering at the portfolio level. My understanding is even if my surmise is right and they are mainly levering Treasuries, they’d still leave a lot of them unlevered for liquidity purposes.

      1. vlade

        That just shows Meng is even more cluless then, as if you have a large unlevered UST position, you don’t worry about cash – you can get it at a drop of your hat.

        1. Yves Smith Post author

          Agreed and since this program is relatively new, and I’ve been focused on the riskier parts of the portfolio. I don’t know the breakdown within fixed income. I know they have “long Treasuries” as one component, “spread products” (which includes international/sovereign, MBS, corporates, high yield), high yield (yes, high yield is in two categories, don’t ask) and I believe a fourth category which is shorter maturity, more liquid.

      2. Harry

        Forgive me but Meng appears to be a ducking moron, or put more politely, completely out of his depth. His rationalizations appear to be utterly absurd, and can be dismantled by anyone with a passing familiarity with the subject. Worth also noting that for a pension fund, both assets and liabilities need to be considered when hedging. Discount factors dropping like they did, it was the liability side of the sheet which would have caused the bigger problem. Not that the asset side wasnt a disaster zone.

        If he can get away with this kind of handwaving it suggests the board is unable to do its job. Or simply doesnt care.

        1. Yves Smith Post author

          Thank you for having the patience to listen to the entire talk. It was painful and I didn’t have the stomach to shred it in more detail, so I appreciate you making an assessment.

          1. Harry

            Apologies. Where I said discount factors dropping I should have said rising. Yields dropped. And you are too kind. My assessments are worth little. But Meng’s comments were patently absurd.

            1. Harry

              Meng’s argument.

              1) He has read two papers (one from Antti) which say tail risk hedging costs return.

              2) It generally doesnt scale (cant comment re Calpers but Taleb can – seems to me that it probably did scale, but even if it didn’t, some tail risk hedging is better than no tail risk hedging).

              3) He suggests it costs 3-5% to hedge 100. However the Universa results do not appear consistent with this estimate.

              4) They did really well with the stuff they did instead, cos they made $11bn. My question would be what was the funding gap, and what is the funding gap now? When you say you made $11bn is that because you had fixed income assets. Don’t you always have fixed income assets?

              5) Handwaving. Lots of handwaving. He thinks its about drawdown. It’s not. It’s about solvency. I would bet that solvency is substantially impaired cos liabilities have massively increased, while assets did not take place.

              And whocudhavenode that this specific virus related tail risk might actually happen?

              1. vlade

                Point 4 here is really the clincher.

                1) “Read a paper”. Meh.
                2+3 are talking points where people can believe one or the other side, but has no visible impact on the beneficiaries or Cal taxpayers (well, 3 has, but it can be disupted here and there).

                4) is really the question to ask. What was the funding gap last year, what is the funding gap now? That is all people should ask, as it tells you how efficient his “strategy” is, and is easy to explain to layperson.

                5) I’d be surprised if he didn’t do handwaving, it’s in the job description to handwave and mislead. That’s why anyone going after him should press on 4.

              2. Richard

                Re (4), isn’t it the purpose to reduce volatility in funding gap the primary reason to increase allocation to fixed income? I mean, tail risk mitigation per Taleb is, to my understanding, an equity protection, not liability protection.

                1. Yves Smith Post author

                  The increased allocation to fixed income was a market bet by Ted Eliopoulos. He thought markets were overvalued and reduced equity risk. He also believed markets were set to fall after Hillary won. Oops. I need to check but I think CalPERS has stuck with that allocation. I normally worry only about CalPERS “alts” investments but I don’t believe there have been any big high-level asset reallocation under Meng.

                  Meng has gone on about his buying long-term Treasuries, as in 10-20 years. I believe he must have changed the sub-allocations in Fixed Income to do that.

                  Within public equities, Meng implemented factor weighting, with an emphasis on low vol stocks.

        2. vlade

          Absolutely. Anyone with a bit of experience in AM will shoot his arguments to kingdom come. TBH, I’m surprised that Taleb is this polite, as he usually meets this level of idiocy with much stronger words.

          1. Yves Smith Post author

            Yes, I noticed he was very measured for him. I think it was because they were a client. He may recognize that bog standard Taleb treatment of charlatanism might be mistaken by some as sour grapes.

  4. Off The Street

    If only there were some way to get NC columns to all CalPERS members! Or perhaps there is one underway already? Some type of State Controller override function, for example.
    Access to the contact list is probably under double-secret probation lock-down or whatever the CalPERS analog may be.

    If the recent market shocks don’t provide enough impetus to protect members, and demand transparency and board fiduciary responsibility, what will?

    1. John Wright

      Informing CalPERS members of CalPERS governing issues may have little effect, as their pensions are well backstopped.

      The taxpayers (or ratepayers for entities such as municipal water districts) of California are the ultimate backstop for any shortfalls in CalPERS promised pensions.

      Some have suggested that the only recourse for CA government entities to reduce their CalPERS pension obligations is to declare bankruptcy, which is not very appealing.

      In my view, any future CalPERS funding issues are a problem for CA taxpayers, not the CalPERS members receiving the benefits (unless municipal bankruptcy occurs)

      1. Yves Smith Post author

        That it not correct. The backstopping was a legislative act and can be changed. It is not handed down by Moses on tablets. It did seem iron clad but with coronacrisis crushing state and municipal revenues, I wouldn’t bet on CalPERS continuing to be sacrosanct. Before it seemed like a certainty. Now I’d say the odds of benefit cuts eventually are 20-30%. BTW, those are the odds I assigned to a financial crisis in early 2007.

        And the retirees ARE ripshit over this. Circulating the news is productive.

  5. Zamfir

    Question for those with more knowledge: how do these hedging schemes (from Universa or elsewhere) work? Are they directly your counterparty? Do they re-insure themselves again? Or are they a middle man who sell you a bundle of contracts with other counterparties?

    Basicslly, if Universa customers now receive 4100% returns, who is paying them? Is this strategy widely viable? The stock market crash reflect real ecomomic damage. Do these Universa returns reflect some subsection of the economy that is making real gains in the crisis?

    That has always struck me as a fundamental problem with “hedging” extreme events through offsetting. If the market does crazy things, who do you trust to pay out? The Netherlands doesnt insure flooding tail risk, on the grounds that it’s insurers would go bust when it’s time to pay out.

    1. PatentlPending

      Indeed – hedging, like insurance only works if the counterparty still exists to pay you. You can not hedge the entire stockmarket – who would pay? If the disaster is big enough then everyone loses (or everyone is dead). So Taleb is making money being better at valuing options (including fat tail risk) than the next guy who is assuming a nice (normal) probability distribution, I think Taleb covered this in either the Black Swan or Fooled by Randomness.

      1. Yves Smith Post author

        Yes but with the benchmark as the S&P 500, they may be doing a lot with exchange traded options, so the counterparty for them would be the exchange. And I assume they are savvy enough if dealing with a private counterparty, they have assessed their creditworthiness.

        1. vlade

          Additionally, they may have collateral (which, of course won’t help them in a massive jump), and if your cpties are major banks, you’re likely relying on too-big-to-fail bit.

          I very much doubt an advisor that has Taleb on it would buy options w/o considering credit risk very closely.

    2. Pete

      From what I can tell, Universa customers don’t receive 4100% returns so the amounts aren’t astronomical (at a big picture level). Universa has $4.3 billion in assets but only 2-3% (~$100m) of that is actively at work at any given moment in time. Definitely not an expert, but seems correct that if 100% of their capital was at work at a given moment they wouldn’t be around long enough to benefit from these sorts of downturns. So their ~$100m invested yielded ~$3 billion.

      Curious to hear if I’m misunderstanding something…

      1. Yves Smith Post author

        I hate to tell you but you have this completely wrong.

        Universa does have 4100% returns. It would be sued out of existence if it falsely reported that to investors. That figure in the Wall Street Journal comes from a more recent tally. Bloomberg reported earlier:

        In an April 7 letter to clients, Universa said its fund returned 3,612% in March.


        Universa does not have $4 billion in assets. It is creating hedges on equity market exposures (and I don’t know where you get that $4.3 billion from. Universa is managing hedges on over $10 billion of equity risk). The only money its clients hand to Universa is periodic payments, most of which are the cost of the options plus Universa’s fees. CalPERS most assuredly did not hand over $5 billion in cash or $5 billion of its equity positions.

        It’s like buying insurance on a house. You are confusing the insured value of the house with the insurance premiums.

        1. Pete

          That makes more sense…the $4.3 billion figure was from the Forbes article on Spitznagel by the way. Will give that a re-read with your explanation in mind.

          Thanks for the reply and love the site!

    3. Raphaël Da Silva

      I think you’re getting Universa mixed up as an Insurance Company. Their business model is not the one of an Insurance company. Universa’s business model is more of an Asset Allocation Consulting Company which sells a service that consists in advising their clients on how To protect them from tail risk and Universa provides them tail-risk hedging strategies which are strategies that work indeed as an Insurance against market drops but UNIVERSA IS NOT AN INSURANCE COMPANY. Clients pay them a regular amount To get these advices and then the clients themselves buy these options in the market To Apply these strategies. It’s the market himself that pays the clients these huge returns. Somebody correct me if I’m wrong…

      1. Yves Smith Post author

        No, that is not correct either. For some clients (and CalPERS appears to have been one), Universa buys the hedges (options) and charges a fee too for a bundled price. Meng specifically discussed that in the video, that for tail risk product sellers, the cost was usually 80% options cost, 20% regular and incentive fees.

        In theory, an firm like Universa could do it as a packaged service or advise clients on buying hedges. But I don’t believe they act as a pure adviser. You run the risk of delay and price changes between when Universa tells you to buy/sell the hedge and when you execute the trade. And then the client would blame them.

        Universa said it runs some of its hedges as dedicated accounts. Its standard product is hedging S&P 500 risk, which makes sense because that is also the deepest stock option market. It also runs some dedicated accounts. For them, it may be hedging more customized equity exposures (like 80% S&P 500, 20% some smaller cap index).

  6. The Rev Kev

    A bit of Australian financial history first. In 1987, billionaire Frank Packer made a fortune at the expense of tycoon Alan Bond when he sold him the Nine Network at the record price of A$1.05 billion in 1987, and then bought it back three years later for a mere A$250 million, when Bond’s empire was collapsing. Packer later said, “You only get one Alan Bond in your lifetime, and I’ve had mine.”

    I would say that at this stage of the game, that Universa can say “You only get one Ben Meng in your lifetime, and we’ve had ours.” I gotta wonder though. Was Ben Meng originally hired to put an Asian face on CalPERS so that they could attract investments from China? If so, that was a spectacular piece of bad timing on CalPERS’s part that as Trump has ramped up the anti-China rhetoric leading to politicians complaining about him being there.

    What Meng did though sounds like he cashed in the insurance policy for his house to invest in the stock market – forgetting the possibility of his house catching fire. Not a good look on his resume that which he may have need of soon.

    1. flora

      sold him the Nine Network at the record price of A$1.05 billion in 1987, and then bought it back three years later for a mere A$250 million,

      That was one of the main plotlines in the 1936 screwball comedy “My Man Godfrey”. It’s a classic. Guess Meng never saw that movie in TV reruns. Too bad. He might have learned something.

      Thanks to NC for continued reporting on CalPERS, PE, and pensions.

      1. flora

        Looks like the Meng video now has restricted access. I get the YTube blank TV ‘face’ with a restricted access text.

    2. John Wright

      Speaking of fire insurance.

      A story related after the 2017 Northern California wildfires was that the owners of an expensive and mortgage free house decided that fire insurance was unneeded as they lived very near the local fire station.

      The Oct 2017 wildfire burned down all the homes in the neighborhood.

      And also burned down the fire station.

      1. flora

        My fave no-hedge story involves a college basketball half-time show.

        A common half-time show was/is selecting a game spectator to come on to the court at half-court to try to make a basket. The ‘throw the ball with all your might and hope it finds the basket’ challenge. The prize is usually very valuable and assumes the odds of a middle-aged, out of shape guy (it’s usually an out of shape middle-aged guy selected from the crowd for this challenge) being able to sink a basket from behind the half-court line is almost nil. ‘Almost’ being the key word. The private local companies offering these very valuable half-time challenge prizes always have insurance against their loss should the basket thrower actually make the basket. Except…. one year…. the local Mercedes-Benz car dealership offering a posh Mercedes as the prize decided to drop the insurance because, you know, no one ever makes the basket. Fast forward… You already know the rest of the story.

        When the dealership owner came onto the court to award the lucky basket maker the car keys he practically threw the keys at the guy then stomped off the court. (Poor sportsmanship by the car dealer. hah!)

  7. ChrisPacific

    I suspect he is quite right about option pricing being widespread (of course he’d be in a better position than me to know). I have had conversations on probability based pricing with people who really ought to know better, and they have consistently refused to engage with the probabilistic arguments or even attempt to understand them.

    One of them was advocating selling put options as an alternative to simply buying stocks, using a kind of false plausibility argument. They openly admitted they had no idea what a fair price for the option was(!) but argued that it didn’t matter(!!) because either you got some income or you got the stock at a price that you previously decided you’d have been happy to buy at. I would point out the implications on expected value of trading away the upside while keeping all the downside risk, and try to describe the calculations for properly valuing the option. The expected value argument would be met with “I have made money doing this in the past” and the downside risk argument with “all investing has an element of risk.” They continued to reject the idea that valuation was necessary and made no attempt to engage with my argument or even understand the calculation. And this person was a published journalist and investment advisor!

    It was sobering to realize that at least some of the time this generally well-regarded columnist was quite literally talking nonsense, and made me wonder about the quality of their analysis in other spaces where I lacked the expertise to critique them, and how widespread this kind of thing might be.

  8. griffen

    This is fascinating from the view of seeing a train wreck far away. Not too fascinating if you rely now or in the future on your pension from such a misguided, poorly executed investment program.

    The only way it seems for CalPers to address their collective sin is to purge the leadership. Good luck with that, as it seems Frost has a lot of control.

    1. David in Santa Cruz

      I’m an annuitant, and this train-wreck is far from fascinating for me to watch.

      Frost has very little control — this is the problem. In the wake of the Buenrostro scandal and the ensuing reputational damage there has been a leadership vacuum combined with a mass exodus of institutional knowledge at the fund.

      It’s a challenge In the best of times to get bright finance people to come to a sweltering backwater like Sacramento. This is why CalPERS’s reputation as a squeaky-clean leader was so important. Today, it smacks of desperation for a finance professional to agree to work under a high schooler from the Washington rainforest and a rigid ex-cadre of the Communist Party of China.

      The lack of qualified investment staff is the real disaster at CalPERS today, and the misdirection of the Board and consolidation of power by leadership is not an investment philosophy but simply a recognition that leadership are soon going to be the only ones left answering the phones.

      1. griffen

        I can’t understand their inability to attract qualified people. I mean the CFA designation without an MBA should be very sufficient for what they are required, and compensated, to do.

        It seems a little premature to say it’s a desperate situation. All this coverage should have the same impact as sunlight.

        Then again rats on a sinking ship will claw tjeir way to the top, I suppose.

  9. TheCatSaid

    This may be a dumb question–

    With Meng pulling out, it’s clear from this post and others that CalPERS lost a potential big gain (i.e., a reduction in CalPERS losses elsewhere). My question is, are there parties outside the CalPERS firmament who benefitted from CalPERS’ decision not to participate any longer in those investments? Did others make a lot more money (or the hedge funds have much smaller payouts) as a result of Meng’s decision?

    Could Meng’s decisions have been guided/ordered by others beyond the CalPERS universe? While speculative, it would be helpful to know who/what might have gained.

    1. harry

      Not really. I mean it’s true since dealers might have gotten lucky and were asked to bid back the options contracts that were no longer needed. But its too baroque a theory. There are other examples of this that make more sense. Like the RV trader that changed jobs from a bank to a hedge fund and was able to buy super cheap rv trades from his old book at the bank

      1. TheCatSaid

        Thanks, harry

        I will rephrase my question, or perhaps break it into 2 questions:

        1) Is investing into a hedge fund of this kind a zero sum game? If someone makes more (or loses less) is there another party on the opposite side who makes less (or loses more)?

        2) Might there be wins/losses other than financial? Is this one piece of a larger strategic game? (e.g., with one goal being to damage CalPERS funds for beneficiaries, and/or damage CA state funds? And may possible additional goals, e.g. reduce peoples’ likelihood of fighting back by making their financial situation worse, or facilitating some other objectives?

        I completely accept there are bucketloads of incompetence at CalPERS. Maybe Meng is just one of the buckets of incompetence. I am not convinced this is the most important dynamic at play. IOW, who has arranged for all these strategic incompetents? Meng, Marcie. And ensured that any competents who somehow make it in, are pushed out? (E.g., a previous new hire, who was a genuine star player but resigned or was fired after just a few months.)

        1. Yves Smith Post author

          Universa is NOT a hedge fund!!!! Wash your mouth out. It is structuring tail risk hedges and getting paid a fee. Most of its costs are the hedge costs.

          Universa hedges about $11 billion of tail risk exposures. By contrast, as its recent peak, the size of US equity markets was about $35 trillion. It’s not big enough to move markets, even remotely.

          And I don’t remotely understand point 2. Meng shot himself in the foot. He does not benefit from that. He damaged his reputation big time and hurt his ability to get a performance bonus.

          Universa although it is probably enjoying all the free PR still would almost certainly rather have them as a client.

          1. TheCatSaid

            Thanks, I didn’t know a shorthand term for these kinds of funds and I guessed wrong!

            With the “who benefits”, I meant NOT Meng personally, but rather “elsewhere” in financial strategy land or the larger system, or perhaps California/national politics? Or as one small cog to create big-picture instability?

            Meng has for sure shot himself in the foot. Or so it seems. I’m trying to figure out if there are any parties (not within CalPERS) who would benefit from Meng appearing incompetent, or from making the CalPERS fund weaker.

  10. JP

    Taleb seems correct. As always, to a person with a hammer, everything is a nail.

    First, insurance companies sell variable annuities where the provide principal protection and participation in the market, albeit it high fees. They manage to hedge their exposure while still making a profit on the product. I designed the option strategies for these products at the most valuable insurance company at the time. Option timing matters.

    Second, it’s not clear that Ben read Ilmanen’s paper, who concluded that timing matters with tail risk strategies. More disturbingly, Ilmanen uses VIX futures as the tail risk hedge comparison. These instruments are dominated by ATM option pricing, not by tail risk option pricing. This is probably what disgruntles Taleb. Apple meet orange.

    Third, there is a larger problem: Ilmanen fails to realize that VIX futures are the market price of risk. Any public market index can be replicated with VIX futures and a Treasury bond, so they are not hedging, its simply market exposure. What’s new is old.

    Fourth, properly specifying the market factor leaves most factor investing strategies as ineffective. Thus, the foray into factor investing seems poorly conceived. Different cuts, same pie.

    Fifth, even if CalPERS is correct on the prior 4 points, the challenge is that their portfolio returns are easily matched with ETFs at close to zero cost (alternately, use a 65 Global Equity / 35 Treasury portfolio). It’s a lot of work to end up in the same place.

    A final thought on CalpERS trustworthiness: it’s hard to infer intent, usually incompetence is the answer. ;-)

    Note: Online research and analysis available upon request (unsure of protocol on links in comments).

    1. Yves Smith Post author

      Thanks a lot! We like references, so please add them!

      Also, we’ve seen enough of CalPERS to have confidence that the culture of casual lying is deeply embedded. Look at how Meng kept insisting that tail risk hedges cost 3-5% of the hedged amount. Universa cleared its throat at Bloomberg and said no, when CalPERS had its position on, the hedge cost was only 1-1.5%.

      Also could you unpack your dismissal of factor weighting? CalPERS claimed it improved performance considerably with it. The number struck me as not credible even if there was a demonstrable benefit:


      1. JP

        OK, for performance, risk, and factor exposure, this online daily real time dashboard. It shows precisely the same risk profile with one caveat: private assets are mapped to public. While the returns are the same, their reported risk is lower because of the lag in mark-to-market. Key takeaway, unbiased benchmarks show the same return performance. Disclosure: my company maintains it.

        For option pricing: the number Meng quotes is for near ATM options (3-5%), which is expected with delta 0.5. For example, with an 10% annual return, then you would expect a ~5% cost under normal vol for one-year. (This is a gross simplification, CBOE option pricing calculator). The key from the calculator above is this: even small -1% OTM options reset monthly cost only about 1% per annum, which aligns with Universa/Taleb.

        A quick response to factor investing: because the pie is cut differently does not change the pie. Critically, they diversify their factor exposures. In the absence of focus, the result is the market. Their equity performance for 5-3-1 years is below the benchmark, so factors didn’t help.

        More to follow on factors with links.

    2. Lambert Strether

      > unsure of protocol on links in comments

      We like links but if there are too many, Skynet may think that the comment is spam and toss it in the moderation queue, from where we will have to dig it out. (If you have a comment with a lot of links, and it does not immediately appear, do not repost it., because that will confirm Skynet’s view that the comment is spam.)

      If the comment does not appear at all after a few hours (certainly after one day) contact us.

      Most of the time, everything works and Skynet does not go crazy. But you asked for the protocol….

  11. Rick

    Numbers don’t add up. Fund with 96.7% in SP500 and 3.3% in Universa 4000+% return in March would have made 125%, not 0.4%.


Leave a Reply

Your email address will not be published. Required fields are marked *