Volatility Laundering: How to Tell if Your Non-Traditional Career is Actually Working

In my last post about career liquidity, I talked about how careers differ in how easily their value can be assessed and traded in the market - much like financial assets. I argued that illiquid paths might have higher expected return and might be a good fit for some people, provided you're willing to manage the psychological and financial uncertainty and willing to be proactive about managing your career.

It's important to note however that uncertainty itself doesn't produce upside. Unconventional paths can accelerate skill acquisition and enable opportunistic bets that institutional constraints would make impossible. The higher returns are partly compensation for accepting the risk and uncertainty for daring to step outside the well-traversed path. But uncertainty is not a sufficient condition for outsized returns - one could easily wander through random risky paths and end up with subpar returns.

Cliff Asness, who manages the quantitative hedge fund AQR, makes this point about “volatility laundering” by private equity funds. Investors invest in these funds expecting to be compensated for accepting illiquidity. Asness points our attention to the discretion private funds have in "marking to market" their investments. During sharp public market sell-offs, private equity funds tend to show remarkably better performance than public equities. While public markets may sometimes overreact, the ubiquity of this pattern is better explained by looking at the incentives of PE managers.

PE fund managers have little reason to aggressively mark down their portfolio during crises. First, what ultimately matters is the final sale price, not interim valuations, and funds rarely sell at market bottoms anyway. So why should they be so pessimistic? Second, aggressive mark-downs would force difficult conversations with clients, who often have their own investors to answer to. The result, as Asness notes, is that everyone finds it convenient to believe the fundamentals are sound despite market volatility. This isn't necessarily a fatal flaw of illiquid investments, but it suggests they provide a psychological benefit to investors - the ability to ignore short-term volatility - which makes them more attractive and thus potentially reduces their expected return premium.

Let's map this onto the careers framework. In careers, unlike investment portfolios, diversification for its own sake usually destroys value rather than creating it. If you work in industry X, then industry Y, then industry Z without a clear purpose, you're mainly accumulating opportunity costs. By the time you finish your stint in industry Z, you're far less employable in industry X than if you'd stayed and built deeper expertise.

The benefit of illiquid paths isn't from diversification - it's from the freedom to take unconventional routes that might be shorter paths to value creation. When you step off the conventional ladder, you're not doing it to diversify, but to bypass institutional constraints that might be holding you back. This could mean building unique skill combinations, accessing opportunities earlier than you "should," or creating value in ways that traditional paths might not recognize yet.

The career analog to volatility laundering is the human brain's remarkable ability to construct post-hoc narratives that justify any path we've taken. Just as PE managers might avoid marking down investments during tough times, we might tell ourselves stories about how each random career move was actually building toward something meaningful. Unfortunately, the default version of an illiquid career where you bounce around from one industry to another without rhyme or reason has negative expected value.

So how do we distinguish productive illiquidity from aimless wandering? Let's first understand how illiquid careers actually create value.

In a modern economy, value creation happens through coordination and division of labor. Illiquid careers create value through three interrelated processes: