Hello, welcome to Investor’s Bookshelf. Today I will introduce to you a book called Patient Capital. This book mainly discusses how institutional investors engage in long-term investing, as well as the challenges they face.
Here, long-term investing refers to investments with a holding period of more than five years. There is a saying in investing: “Seven lose, two break even, one wins,” meaning most people lose money and very few make money. Why is that? People have concluded that the number one reason for losses is chasing rallies and selling in panic—that is, buying when stock prices rise and selling when they fall. This is a matter of trading technique, which we will not go into detail here; another reason for losses is frequent trading.
Previously, institutions have compiled statistics showing that investors in domestic equity funds have an average holding period of only 2–3 months. A well-known fund manager also did similar research. This fund manager’s fund ranked high in industry performance, with net asset value growing from 1 to over 4 in five years—more than quadrupling. However, according to his statistics, the vast majority of investors could not wait that long. 37% of investors sold within 90 days, while those who held for more than five years accounted for only 0.4%. For comparison, in 2021, in Shandong Province—a major region for college entrance exams—about 1.6% of students were admitted to top-tier “985” universities. So, holding a fund for more than five years is several times harder than a student being admitted to a “985” university.
That’s the case for retail investors. But what about institutional investors—can they stick to long-term investing more easily?
Not necessarily. Although institutional investors have advantages compared to individuals—such as more abundant capital, systematic strategies, and professional management—they also face many challenges in doing long-term investing. And what this book aims to do is help us understand those challenges, as well as possible solutions.
After reading this book, you’ll find that while long-term investing may seem far from the lives of ordinary people, in fact, the long-term investment behavior of institutions has profound effects on society and on people’s lives. Moreover, the problems of long-term investing are not just about where the money comes from or which projects to invest in. They also involve balancing long-term versus short-term interests, and balancing the interests between different groups of people. These issues may provide insights for anyone who has the chance to engage in long-term investing or manage long-term projects.
The authors of this book are two Americans: Victoria Ivashina, Chair of the Finance Unit at Harvard Business School and Research Associate at the National Bureau of Economic Research; and Josh Lerner, also a professor at Harvard Business School. Both have extensive research experience in long-term investment.
Today, I will explain this book in three parts:
First, we will take a broad look at the field of long-term investment—why the economy and society need it, who is currently doing it, and what relevance it has to ordinary people.
Second, we will examine how long-term investment has evolved since its emergence.
Third, we will take private equity—a major form of long-term investing—as an example to discuss the difficulties faced and possible solutions.
Part One
Alright, let’s begin with Part One and get an overall understanding of the field of long-term investment.
As we mentioned at the beginning, this book defines long-term investment as holding an asset for more than five years. In contrast, assets held for less than five years and freely tradable are categorized as short-term investments. For many individual investors, their investments in stocks, bonds, and funds fall into the short-term category. Although few people call themselves “short-term investors,” in fact, there are many of them. According to the World Bank, the global average holding period for a stock fell from more than five years in 1975 to less than eight months by 2016.
So, does this mean short-term investing is bad? Of course not. First, many individual investors simply don’t have the financial means to hold assets for the long term, so short-term investment is a more suitable approach for them. On the other hand, the frequent trading and circulation of short-term holdings in stocks and bonds provide better liquidity to capital markets, which also helps companies issuing stocks and bonds access the funds they need.
If that’s the case, then why does the world still need long-term investment?
An important answer is that short-term investment often cannot support those opportunities with real potential.
What does this mean? Let’s take stock investing as an example. You know that a stock investor’s return comes from two parts: one is capital gains—the difference brought by rising stock prices; the other is dividends—the “interest” of stocks, which is distributed from a company’s after-tax profits according to its dividend payout ratio.
Now imagine: if you’re a stock investor planning to hold a stock for only a few months, you would naturally hope the price rises quickly or the company distributes dividends soon. In that case, you’re unlikely to choose a company engaged in major technological R&D projects that require heavy spending without guaranteed returns. Nor would you pick a company undergoing painful strategic restructuring, and so on. Although such companies may have great long-term potential, in the short run they do not provide attractive returns.
If most short-term investors are unwilling to put money into these companies, then many firms with strong long-term growth potential could face survival crises. It may also push some managers, eager to please short-term investors, into making quick-fix decisions that look good in the short term but harm the company’s long-term future—essentially feeding the company slow poison.
This is where the role of long-term investment comes into play. It can better support companies with long-term growth potential or projects vital to national and social interests, while also preventing corporate managers from making self-destructive, short-termist decisions to satisfy the market.
So, who does long-term investing? As mentioned earlier, it’s not that individual investors don’t want to invest long-term—they often just can’t. In real life, major expenses always come up every year or two, and many people simply can’t afford to lock away a large sum of money in a single asset for ten years or more.
Therefore, individual investors are naturally disadvantaged in long-term investing. Meanwhile, well-capitalized institutions and organizations have become the primary source of long-term capital. These include insurance companies, pension funds, family offices that manage the wealth of the rich, and sovereign wealth funds—government-designated pools of capital set aside for investment. All of these institutions hold massive amounts of capital that need to be managed over the long term, making them well suited to invest in projects that take many years to generate returns.
As a result, compared to stocks and bonds, long-term investors prefer assets like real estate, equity stakes in startups, or infrastructure projects such as highways, bridges, and wind farms, as well as certain scientific R&D ventures.
At first glance, long-term investment may seem far removed from ordinary life. But in reality, institutional long-term investing has significant influence on society and individuals alike. Among the projects mentioned earlier—such as infrastructure and technological R&D—many are directly tied to the well-being of every person. Without long-term capital, many of these projects could hardly continue. Moreover, the returns from long-term investment are often funneled back into society. For example, Yale University’s endowment uses its long-term investment returns to pay staff salaries and keep the campus running. Likewise, national sovereign wealth funds use long-term investment returns to support strategic development, guard against systemic financial crises, and build reserves for future generations. In this sense, the impact of long-term investment penetrates every corner of society.
Part Two
In the previous section, we mainly discussed what long-term investment is, why it is needed, and where the money in the field of long-term investment primarily comes from. From a global perspective, the rise of long-term investment is only about the last one hundred years. So in this part, we will talk about how the forms of long-term investment have evolved during this relatively short period.
At the end of the 19th century and the beginning of the 20th century, in the United States, some wealthy families began to step into the field of long-term investment. Families we are familiar with, such as the “oil king” Rockefeller family and the “railroad tycoon” Vanderbilt family, were among them. These families each set up family offices specifically to manage their wealth, investing in various business enterprises and also providing consulting services to those companies. Gradually, these families began to allow outsiders to participate in the selection and oversight of investment projects. But at this stage, these long-term investments were not corporate behavior, but more of a personal choice.
In the 1940s, many emerging companies in the U.S., because of their small scale and immature products and markets, could not obtain financing through banks or traditional channels, and their growth was greatly hindered. After World War II, the first formal company dedicated to long-term investment appeared in the United States: American Research and Development Corporation (ARDC). What it mainly did was provide funding to newly established, growing enterprises, take equity stakes through such investments, and provide consulting services in business management. When the invested companies matured and grew in value, ARDC would sell its equity stake to realize capital gains.
However, when this company invested, it was not using its own money but rather pooling funds from investors. So, this company was essentially an intermediary, connecting investors’ money with potential investment projects. This logic is similar to what many fund companies or asset management firms do today.
Although such a model seems commonplace now, at the time it was still a new concept. Many institutional investors were unwilling to risk a large sum of money in it. So the company turned to individual investors. They set up a fund, determined in advance the amount of capital required, divided this amount into equal shares, and issued them in the market for individuals to subscribe to. In this way, they created a capital pool collectively funded by numerous individual investors.
The advantage of this model was that whenever an investment opportunity arose, they could directly draw funds from the pool, without having to raise money from investors each time. This ensured they could act quickly on good opportunities without missing the timing. In the ten years after ARDC was established, several other investment institutions also adopted this closed-end capital pool model.
But this model also had drawbacks. As mentioned earlier, the capital pool’s money mainly came from individual investors. This brought back the same problem we discussed at the beginning: individual investors usually want quick returns. ARDC, however, aimed to support startups through long-term investment. When the invested companies faced difficulties or market turbulence, investors inevitably lost confidence.
At such times, ARDC had to work hard to reassure them. For example, in 1967 they issued a statement saying: “Here, we really are like pediatricians. When bankers or brokers tell me I should sell a struggling company, I ask them, ‘Would you sell a child who is running a high fever?’”
While this analogy might sound reasonable, from the investors’ point of view the “child” was not their own, and most people were unwilling to see their money tied up in losses.
Thus, because of the contradiction between the long-term nature of investment and the short-term mindset of investors, ARDC struggled through its first decade. After raising $500,000 from its initial supporters, it received little additional funding.
Later, in the 1960s and 1970s, a new fund organizational model emerged: the limited partnership. In this structure, those who provided capital to the fund were called limited partners. Unlike the closed-end pool model, these limited partners were usually not individuals but institutions or organizations, such as family offices, insurance companies, pension funds, sovereign wealth funds, and so on. The people who managed these funds and invested the money were called general partners.
Today, the limited partnership has become a common and dominant organizational model for funds. Back then, the first company to adopt it was Draper, Gaither & Anderson (DGA).
The reason DGA adopted the limited partnership was because it had seen the difficulties its predecessor ARDC faced. So instead of raising funds from individuals, it targeted institutions. They didn’t require investors to put money into the fund upfront. Instead, investors committed to providing capital, which would be drawn down later as needed.
Among DGA’s first investors were Lazard investment bank, the Rockefeller family, and two other wealthy families. To win them over, DGA designed new rules to protect investors’ interests.
For example, the capital invested in the fund had a fixed term, such as seven or ten years. This limited the fund managers from endlessly propping up hopeless companies.
Also, limited partners bore limited liability for the fund’s gains and losses. In other words, they could lose no more than the amount they initially invested. For instance, if a fund invested in a biotech company whose drug tragically caused deaths during clinical trials, the general partners managing the fund could face millions in legal claims, but the limited partners would not be liable—they would only lose their original investment.
Through DGA and subsequent firms, the limited partnership model proved to be a workable structure for long-term investing, and it was later widely adopted.
Today, you often hear of a type of investing called private equity. The “private” here refers to raising money non-publicly from selected investors. Its organizational structure—like the one pioneered by DGA—is also the limited partnership. Limited partners provide the money, and general partners use it to build private equity funds and invest in projects. Famous firms such as Sequoia Capital and Blackstone often act as general partners in private equity. After providing fund management services, general partners charge management fees, usually 1.5%–2% annually of the total committed capital—this is their main revenue. In addition, they also take a share of the eventual profits and sometimes charge extra transaction fees.
Private equity mainly invests in company equity. Some funds prefer startups, others focus on mature companies undergoing transformation, and still others target growth-stage companies in between. After acquiring equity stakes, general partners typically hold them for about five years. During this time, they often take seats on the company’s board, or even assign personnel to help manage and grow the business. The goal is to help the company go public or attract acquisition by a larger firm. In this way, they can liquidate their equity for capital gains.
Today, private equity plays a critical role in the economy, especially in helping companies raise capital and grow. According to the authors’ data, between 1999 and 2009, more than 60% of all U.S. IPO companies had received private equity backing. Tech giants we know well—Apple, Microsoft, Amazon, Tencent, and Alphabet (Google’s parent)—all received private equity support during their growth stages.
Since private equity funds have become one of the main forms of long-term investment today, more than half of the book is devoted to them. We have already discussed their organizational structure, investment targets, and role in the economy. Next, we will examine the challenges faced by private equity as a form of long-term investment, as well as possible solutions.
Part Three
The first challenge is that the time horizon of private equity funds does not always match the return cycles of certain investment projects. As mentioned earlier, private equity funds typically hold equity in a company for 5–10 years. In most cases, this timeframe is suitable. For example, some social media companies or innovative tech firms either succeed quickly or are eliminated by the market, usually within 5–10 years. However, there are also projects that require much longer to generate returns.
For instance, biotechnology is a clear example. According to the Pharmaceutical Research and Manufacturers of America, the development and approval of a new drug requires at least 10 years and billions of dollars. Similarly, in infrastructure, many projects have lifecycles of several decades, and due to their sheer scale, are often difficult to sell. In other industries too, there are many situations where only long-term holding can yield capital returns.
The most direct solution is to extend the duration of certain funds, for example to 15 or 20 years. But this means investors’ money is locked up for a longer time. To compensate investors, fund managers often charge lower management fees or take a smaller share of the eventual profits.
Another solution is the “evergreen fund,” which, as the name suggests, sets no fixed time limit. These funds operate in cycles, usually 4–5 years. At the beginning of each cycle, investors commit to providing a certain amount of capital. Over the next few years, the managers draw down and invest the capital as needed. When the cycle ends, investors can choose to exit, keep their money in for another cycle, or adjust their commitment for the next cycle.
So, the first problem is the mismatch between fund duration and project return cycles. Another issue, seen in the early development of private equity, was the conflict of interest between general partners (GPs) and limited partners (LPs). On one hand, LPs—those who provide the capital—earn returns tied to the fund’s investment performance. On the other hand, GPs—the ones actually making the investments—derive most of their income from management fees. The larger the fund, the more fees they collect. In such cases, GPs may prioritize growing the fund’s size over generating high returns. They might rush fundraising by choosing projects that appeal to investors but are not truly high quality, or play it overly safe with conservative strategies that lead to little fund growth.
To address this GP-LP misalignment, some solutions emerged. The most direct one was to provide GPs with bonuses tied to fund performance. Another mechanism is the “hurdle rate.” Before a private equity fund starts operating, GPs and LPs agree on a minimum expected return, for example 8%. Only if the fund achieves this hurdle can the GPs receive their compensation. This helps reduce the conflict between LPs and GPs.
Another ongoing challenge is the lack of clear, standardized metrics for evaluating fund performance.
Today, there are many different indicators used to assess fund results. For example, when reviewing Low Risk, High Return, we used an illustration: a fund delivered annual returns of +100%, –50%, +100%, –50% over four years. The arithmetic average of these numbers is +25%, which seems attractive. But in reality, the fund earned nothing: each year’s gains were wiped out by the following year’s losses. In practice, when funds show volatile returns, they may use such arithmetic averages to mask low performance.
Another common metric is the multiple of invested capital (MOIC)—the final total value compared to the initial investment. For example, if a fund started with $100 million and ended with $200 million, the multiple is 2x. But this does not indicate strong performance, since earning that return over two years is very different from earning it over ten years.
There are also more complex methods of performance measurement, which we won’t detail here. The point is, when the market uses a variety of metrics with no uniform standard, funds have wide leeway to choose whichever metric flatters them most. This means that “good-looking” performance numbers may not reflect strong actual returns for investors. It also means that truly high-performing funds risk being buried among average ones.
A natural solution is to establish a central body to set clear rules for fund performance measurement. In the U.S., some industry organizations are working on this, such as the Institutional Limited Partners Association (ILPA) and the AltExchange Alliance. But these are not official government bodies, so their standards have not been universally adopted.
Another proposal is to have independent third-party institutions rank fund performance. That way, investors need not sort through varied metrics themselves but can rely on rankings. However, the key requirement is that ranking institutions must be independent, with no conflicts of interest with the funds.
Here we can recall the lessons from credit rating agencies. The 2008 U.S. subprime mortgage crisis was triggered when many subprime loans—borrowed by people with poor credit—defaulted, leading to the collapse of the subprime market and global financial contagion. Before the crisis, some financial institutions had packaged and restructured subprime loans into new securities for issuance. At that time, rating agencies such as Fitch, Moody’s, and Standard & Poor’s gave these securities optimistic ratings. This attracted more investors, who later suffered heavy losses.
Were these optimistic ratings merely innocent mistakes? Not quite. A major reason was the “issuer-pays” model: the issuers of securities paid the rating agencies to evaluate them. Moreover, the agencies even advised issuers on how to secure higher ratings. Unsurprisingly, this produced ratings that pleased both sellers and buyers.
The same logic applies to fund rankings. If third-party ranking agencies have ties to the funds, their rankings will inevitably be biased. Thus, the ideal approach is to establish one or more non-profit organizations to perform unified evaluation and ranking of fund performance, under joint oversight by both investors and fund managers. This is one of the solutions currently being explored.
Conclusion
Alright, that’s the key content from this book that I wanted to share with you. To summarize:
In this book, the authors define long-term investment as holding an asset for more than five years. The reason our economic and social systems need long-term investment is that many projects vital to national welfare and economic prosperity cannot survive on short-term capital alone. Examples include infrastructure projects, scientific research and development, and even companies temporarily in distress. For such investments, long-term, patient capital can better nurture and sustain them.
Because individual investors generally have weaker financial capacity, they are at a natural disadvantage in long-term investing. In contrast, well-capitalized institutions and organizations have become the main sources of long-term capital. These include insurance companies, pension funds, family offices, and sovereign wealth funds, among others.
In today’s long-term investment landscape, private equity funds are a dominant form. Most private equity funds use the “limited partnership” structure. In this setup, limited partners provide the capital, and general partners use that capital to build private equity funds and invest in projects.
Compared with historical forms of long-term investment, private equity offers many advantages—for example, mechanisms designed to protect investor interests, professional systems for screening investment projects, and long-term involvement in the growth of portfolio companies. Yet private equity also faces significant challenges: mismatches between fund duration and project return cycles, misaligned incentives between investors and fund managers, and the lack of standardized metrics for evaluating performance.
From these issues, we can see that the challenges of long-term investment are not only about where the money comes from or which projects to invest in. They also involve balancing long-term versus short-term interests, and balancing the interests between different groups of people. Thus, long-term investment is not only a process that demands patience, but also a complex and precise exercise in project management.
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