Private Equity Lessons from the Subway

So I've been riding the New York subways pretty frequently lately.  Between annual meetings, conferences, and the entrepreneurial scene, there's been a lot to do in The Big Apple this fall.  And every time I hop on the train, it takes me back to my childhood.  You see, a quarter-century ago I rode the subway to middle school.  Imagine that: a 12 year old with an overdeveloped sense of adventure and a transit pass that offered unlimited access to the lurid expanses of Metropolis!

(Let me take a moment to apologize to Mr. Criscuolo and my other afternoon-class teachers.  A fake bellyache and a hangdog look was all I needed to get permission from the school nurse to go home after lunch.  And as my time in middle school began to wane, I started scooting out about once a week in an effort to see the entire city, one subway stop at a time . . .)

But, despite my school-skipping, I actually did learn stuff on the subway, my very own classroom on rails.  And who knew I could apply those lessons to private equity and even investing more broadly?  Only recently have some of those lessons come into focus.  Let me run you through five scenarios and their associated learnings in what may be the first in a series of "Lessons From The Subway":

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Scenario #1: Have you ever been barreling through a tunnel on the local train as an express pulls up alongside you between stops?  For several seconds, the two trains hurtle down the tracks together side-by-side before the local starts its inexorable deceleration into the next local station while the express pulls away, charging ahead to the next express stop.  For a moment, there's an intimacy with some of the passengers in the express train.  It's almost a voyeuristic feeling, like looking into someone's living room window; sometimes you even make eye contact with one of the passengers in the other train.  Do not give that person the finger or stick your tongue out or make menacing gestures.  There's a chance that they will get off at the next stop, wait for the local to pull in, and kick your behind.

Lesson: Life is a multi-period interaction.  What happens at one moment resonates into the next.  Even the most random encounters can presage subsequent ones.  Don't be a jerk and always have integrity.  Why soil the canvas?


Scenario #2:  Your train pulls into the station on one of those muggy summer days that seem all the hotter and more acrid below ground.  Car after car blurs by, stuffed with people; as the train starts to slow, one car is nearly empty.  But hold on a second; today's not your lucky day, the day you get a seat for the long ride.  Rather, the odds are that the air conditioning simply isn't working and that car is hotter and stuffier than August in Houston.

Lesson: There's information in crowds.  While one never wants to be a lemming, there can be limits to being a contrarian.  Sometimes, leaning against the gales can work, other times, it just gets you windburn and a face full of leaves and other wind-blown detritus.


Corollary / Scenario #2a:  Speaking of reasons why cars might be empty, sometimes there's an, ahem, stinky dude on a train car that clears out all the people.  Again, there's a reason that train car is empty and, odds are, that funky cat is going nowhere.

Lesson:  If something stinks, it's likely that the stink will linger, no matter how you try to rationalize away that hinkey feeling about, say, the GP that does't feel right or the story that doesn't quite hang together.  Trust your nose.


Scenario #3:  Don’t give the finger to a policeman. Ever.  Catch me sometime offline and I'll tell you a story . . .

Lesson:  The people who make and enforce the laws know and understand them far better than you do.  And even if they're wrong, they're right.  And they can make your day a lot more aggravating than you can imagine.  You get a lot further by smiling and saying "yes, sir" than you do by being petulant.  This may be a good thing for our industry to remember as the shadow of regulation lengthens across our sun-kissed land of private investments.


Scenario #4:  If someone starts talking to you on the train, it's likely that they're a looney toon, but there's a chance that they're lost or want to talk about something interesting.  Subway philosophers end up having a lot of things to say, some of which are worthwhile.  Once, though, I talked to old Brit about what to see on holiday and he gave me a 50p coin as a souvenir.  It was the coolest thing I'd ever seen.  Another time a kid told me about a pizzeria over on Ditmas Avenue that had a Space Invaders game that would give you 10 credits if you held the coin return while you put in your quarter.  Needless to say, I became the master of Space Invaders that spring.

Lesson:  Be generous with your time.  You have to be careful, but you never know what you might find out.


Scenario #5:  Every mass transit system seems to have a few stops that are central nexuses (nexi?) of the tangle of lines that ferry people to the disrparate and far-flung reaches of their city.  At these stops the trains disgorge their contents and refil with cats connecting to elsewhere.  Jay Street – Borough Hall in Brooklyn was the one that occupied my imagination (where exactly does that exotic A train go?  Why do people write songs about it?) but 42nd Street/Grand Central and Fulton Street/Broadway-Nassau were other such network nodes, full of hurly-burly.  Here's the thing: if you're leaning against the door and not paying attention as the train arrives at one of these stations, you're likely to get pushed out.  And getting back in to your train can be as challenging as swimming upstream with the salmon. 

Lesson: Don't block the exits!  Sometimes, people need to get off the train.  There may indeed be better connection options for them (like West 4th Street,) but sometimes people need a bird in the hand instead of two in the bush.  This is a big concern right now, as I worry that GPs may be suboptimizing exits, but if there's an A train waiting at Jay Street, it probably makes sense to hop off the F train and change, because you never know if you'll wait in vain at West 4th for a delayed A train that never comes . . .



Careening with Smeed

So there I was, thinking about how I was going to start this blog post; I'd been meaning to compare investing to Smeed's Law — a behavioral theory that predicts the rate of traffic fatalities — for a while.  Determined to come up with something vaguely witty and quasi-relevant to kick off this post, I sat in my car for a moment before going into the 7-Eleven for my morning Double-Gulp when WHAM!it hit me!

I mean, really, it hit me … some cat driving an Audi A4 ran into me in the parking lot.  Seriously, dude?!?  Who runs into a parked car?!?  Oh well, as Old Man O'Malley used to say through the fog of cigar smoke encircling his head: "some days youse da dog and odders youse da hydrant."  Today was shaping up to be a hydrant day, for sure . . .

Anyhow, back to traffic.  There was this great retrospective by physicist Freeman Dyson a while back in Tech Review.  In it, he talks a bit about the things he learned from his old friend, RJ Smeed.  Among many other contributions, Smeed had postulated that deaths on the roads had little to do with speed limits, car safety features, quality of the roads, etc.  Instead, motorway mortality was a function of psychology.  Dyson said it best:

"The number of deaths is determined mainly by psychological factors that
are independent of material circumstances. People will drive recklessly
until the number of deaths reaches the maximum they can tolerate. When
the number exceeds that limit, they drive more carefully. Smeed's Law
merely defines the number of deaths that we find psychologically

And it seems to me that we're running a great test case of Smeed's Law: cell phones in cars.  Now, the nervous Nellies would tell us that gabbing while driving distracts people to a dangerous degree; I've now lived in three states where one can't use a handheld phone (and I've been a good boy … most of the time … or at least occasionally).  And indeed, while the number of cell subscriptions has exploded to over 250 million from a base of about zero 15 years ago, the total number of police-reported accidents has fluctuated in a pretty tight band during that time.  The average number of accidents over those 15 years has been about 6.3 million, with a high of about 6.8 million in 1996 and a low of 5.8 million in 2008; the standard deviation is about 4.15% around the mean.  I'd bet dollars to donuts that if you overlaid miles driven on the data, the rate of accidents per mile would be darn near constant.  [Now, I'll be the first to admit that texting/emailing is a whole different story . . . anyone with a Blackberry behind the wheel is a menace to souls and property!]

And that's what makes Smeed an unwitting market philosopher.  Markets are all about calibration of risk, and his insight was that as people feel safer, they get more reckless.  Comfort breeds complacency.  You can fiddle with speed limits, pave roads, install air bags, ticket people for manner of infractions, but folks just end up stretching their envelopes of comfort until they undo the putative progress; they calibrate to the risk.  And the same is true for the markets: just think about the banks that kept stretching (in every way) and the hedge funds that kept getting pushed to add risk because their volatility was too low.  Maybe now that memories of a crack-up are fresh in people's minds, they'll be a little more cautious, but that caution will be thrown to the wind as soon as we all get comfortable again. 

Inevitably, we'll have some regulations and rules thrown at the markets.  But what real effect will that have?  Remember when the "circuit breakers" were established after Black Monday?  Traders joked that trading curbs would give people a couple of hours to write out their trade tickets while the markets were "cooling off."  But no matter the safeguards we put in place, regardless of who we call systemically important, it's darn-near impossible to save us from our reckless selves. 

But maybe it's New Hampshire that has it right: it's the only state in the Union that doesn't have a universal seat belt law.  For those of you who've never seen it, New Hampshire's roadside seat belt signs say: "BUCKLE UP UNDER 18 / COMMON SENSE FOR ALL."  Does it surprise anyone that the Live Free or Die state is number 49 in the among the 50 states in traffic fatalities?  Maybe we all could use a little more common sense and a little less regulation, on the road and in the markets?   

Let's all be careful out there.