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Speaker 1: Hello, and welcome to another episode of the Odd Lots Podcast.

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Speaker 1: I'm Joe Wisenthal and I'm Tracy Hallaway. So, Tracy, it

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Speaker 1: goes without saying, and we really don't need to uh

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Speaker 1: be labor the point at all that from a market's perspective,

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Speaker 1: the last year has been I guess unprecedented. Yeah, I

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Speaker 1: think that's right when you say we don't need to

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Speaker 1: belabor the point. Should I describe what we're talking about

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Speaker 1: or should we just move on anyway? You know, it's

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Speaker 1: it's just this crisis, this huge crash, this incredible rally

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Speaker 1: that never seems to end in the middle of a

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Speaker 1: pandemic and so forth. It's just like, there's no obvious,

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Speaker 1: uh historical analogy to what we've just seen that I

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Speaker 1: can think of. Well, I think what was really interesting

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Speaker 1: about last year was that we basically saw an entire

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Speaker 1: economic and to some extent, financial crisis and a recovery,

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Speaker 1: so a sort of complete economic cycle all squeezed into

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Speaker 1: less than a year. And if you think, I mean,

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Speaker 1: the trajectory of everything was quite similar to the two

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Speaker 1: thousand eight financial crisis. You have the sharp market sell

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Speaker 1: off in March, and then you had the central banks

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Speaker 1: come in and stabilize things, and then you had a

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Speaker 1: slow recovery or a recovery in markets. But again, the

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Speaker 1: big difference was that it all happened in the space

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Speaker 1: of months versus years before. Yeah. No, I actually I

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Speaker 1: think that's right. You could characterize two thousand and twenty

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Speaker 1: as essentially a full cycle that really got compressed into

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Speaker 1: the span of a few months early. Yeah, exactly. So anyway,

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Speaker 1: it's still pretty unusual, even if even if you could

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Speaker 1: sort of describe it using words that were familiar with

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Speaker 1: it's pretty unusual. But what that means is, you know,

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Speaker 1: for investors, obviously we have this incredible rally. Stocks are

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Speaker 1: at all time high, but you know, I think a

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Speaker 1: lot of people missed it. A lot of people throughout

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Speaker 1: the summer saying, oh, we're going to get the second

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Speaker 1: the second dip in the market that's coming in eight

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Speaker 1: time soon. You talk to sort of wealthy investors and

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Speaker 1: um sort of high net works, there was a lot

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Speaker 1: of caution under exposure to the gains and so forth.

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Speaker 1: So while the headlines were very impressive, I don't think

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Speaker 1: there's any doubt that, you know, there probably aren't actually

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Speaker 1: a lot of people that saw their portfolios really match

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Speaker 1: or really you know, let's just say, I think there

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Speaker 1: are probably a lot of people whose portfolios don't match

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Speaker 1: the headline games. Yeah, I think that's right. And I

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Speaker 1: think there's probably a sense in markets, or at least

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Speaker 1: professional investors in markets, that what happened wasn't really what

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Speaker 1: they expected or what they were necessarily prepared for. So

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Speaker 1: we already mentioned that everything unfolded really really quickly. So

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Speaker 1: even if you were well positioned going into March, you've

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Speaker 1: taken a little bit of risk off the table, you

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Speaker 1: might not have been expected expecting the markets to recover

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Speaker 1: as quickly as they did. I think there's also the

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Speaker 1: sense of dissatisfaction with what has rallied. I think a

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Speaker 1: lot of people are not not upset, but I think

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Speaker 1: there's a sense that the stupid stuff has gone up

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Speaker 1: a lot more than some other things, which again, like

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Speaker 1: that's the kind of thing that tends to upset professional investors. Right.

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Speaker 1: In fact, that actually was one of the themes of

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Speaker 1: which is that you know, like you know, the back

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Speaker 1: of the spring, we got the we had the Virtual

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Speaker 1: Buffet shareholder meeting. He was, like many people remarked that

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Speaker 1: he was like very negative on the market in a

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Speaker 1: way that he usually isn't. And then at the same

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Speaker 1: time you had like the Dave Portnoy's of the world

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Speaker 1: absolutely killing it in part by picking scrabble letters out

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Speaker 1: of a scrabble tile is out of a box and

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Speaker 1: picking stocks, and all these people are like, yeah, you know,

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Speaker 1: I'm I'm not too busy these days. I'm gonna sign

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Speaker 1: up our Robin Hood account making a fortune, you know,

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Speaker 1: all kinds of confounding dynamics to make the market. You know,

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Speaker 1: the market always is very efficient machine to driving people insane.

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Speaker 1: But I think really took the cake at that. Yeah,

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Speaker 1: I think that's exactly right. I've always said that. But

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Speaker 1: the market is a great technology for humbling people, making

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Speaker 1: a smart people feel h feel less smart. But anyway, yeah,

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Speaker 1: you can be wrong every day. Yeah, I'm very excited

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Speaker 1: about our guests. We're going to talk about some of

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Speaker 1: the lessons learned from We're going to be speaking with

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Speaker 1: Corey Hofstein. He has the c i O the asset

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Speaker 1: management firm Newfound Research, really sort of active publisher of

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Speaker 1: research publisher on Twitter talking about ideas in quantitative finance

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Speaker 1: trend following various ideas such as that portfolio construction and

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Speaker 1: a really interesting thread at the end of last year

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Speaker 1: talking about essentially the costly lessons learned of what happens

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Speaker 1: when you experience a market that is kind of basically

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Speaker 1: unlike anything else before. So Corey, thank you very much

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Speaker 1: for joining us, Thank you for having me here, really excited.

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Speaker 1: What do you describe Newfound Research? What your general approaches,

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Speaker 1: how you would describe it, and uh, yeah, like essentially

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Speaker 1: the aims of your investment strategy when we say that

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Speaker 1: Newfound Research is a quantitative asset management firm, So everything

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Speaker 1: we do we try to focus on creating systematic investment strategies,

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Speaker 1: but our predominant focus historically has been really on risk

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Speaker 1: mitigation through diversification. But our view is that diversification is

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Speaker 1: not just limited to what you invest in, but also

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Speaker 1: how you make those investment decisions and when those decisions

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Speaker 1: are made, and so we think better risk management is

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Speaker 1: really possible through a greater breadth of diversification. Now, historically,

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Speaker 1: for us, what that has meant is we've tried to

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Speaker 1: play a more siloed role in investor portfolios by offering

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Speaker 1: what we would consider to be resilient and robust. Trend

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Speaker 1: following strategies predominantly focused on equity markets. So unlike most

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Speaker 1: saying managed futures programs that will apply trend following strategies

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Speaker 1: to commodities and currencies and rates and equities around the world,

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Speaker 1: we really focused exclusively on the equity side of the

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Speaker 1: equation because that's where we saw most investor risk in

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Speaker 1: a traditional sixty portfolio. So, how did that work out

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Speaker 1: for you in because you've been UM, You've been pretty

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Speaker 1: vocal on Twitter about um poor performance last year? How

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Speaker 1: exactly did that strategy fit into a year? And what

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Speaker 1: went wrong? Well, So, so we won't we won't bury

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Speaker 1: the lead here. It did not go well. But I

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Speaker 1: think if we were to back up and say, how

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Speaker 1: would we expect a trend following strategy to perform during

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Speaker 1: one of the fastest market reversals in history, both from

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Speaker 1: peak to trough and then trough to peak again, we

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Speaker 1: generally wouldn't expect the trend following strategy to do very

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Speaker 1: well in a in a fast reversal market. That's sort

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Speaker 1: of the expectation going in. So when we walk away

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Speaker 1: from the year and say, well, the trend following strategy

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Speaker 1: didn't do well in I don't think, given how played out,

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Speaker 1: that should be unexpected, but I do think it should

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Speaker 1: cause us to pause and say, well, this type of

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Speaker 1: strategy was really designed to help protect investors against meaningful drawdowns.

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Speaker 1: We just saw a really meaningful drawdown and it didn't

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Speaker 1: work particularly well. Are there lessons here that we need

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Speaker 1: to think about? Has has market structure changed? Is there

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Speaker 1: something we need to do differently in our portfolio? What

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Speaker 1: is the next drawdown going to look like? I want

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Speaker 1: to get into sort of like what you saw as

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Speaker 1: the year progressed, but before we get to that specifically,

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Speaker 1: and then of course the lessons from that, but before

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Speaker 1: we get to that specifically. For listeners, how would you

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Speaker 1: describe the theoretical basis for a trend following strategy, And

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Speaker 1: whether it's in equities, whether it's in rates, currencies, commodities.

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Speaker 1: Why is there theoretically premium to be harvested with strategies

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Speaker 1: that are sort of built around following some measure of

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Speaker 1: a trend? So I think there's really two primary arguments

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Speaker 1: that are out there that could be supported. I think

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Speaker 1: in many of the futures markets, there's an argument that

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Speaker 1: trend followers are liquidity providers to hedgers, that ultimately hedgers

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Speaker 1: are going to be trying to place trades that lock

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Speaker 1: in their profit, and that trend followers are ultimately providing

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Speaker 1: the liquidity to those players, and therefore, in providing that liquidity,

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Speaker 1: they should earn a premium. So I think there's a

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Speaker 1: reasonable argument there in the managed future space. I think

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Speaker 1: the second argument that often comes around, and I certainly

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Speaker 1: believe in this one, is that there are certain risk

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Speaker 1: limits that firms tend to hit during periods of market stress.

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Speaker 1: That market stress periods are just fundamentally different than normal

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Speaker 1: market environments. And so what that means is that while

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Speaker 1: markets may for the most part be a random walk,

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Speaker 1: these non linear response functions that that firms have to make,

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Speaker 1: that they have to cut risk, that they have to

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Speaker 1: raise capital UH in certain market environments creates trends during

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Speaker 1: periods of stress, and that they're very procyclical in nature.

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Speaker 1: That as the market starts to sell off, firms are

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Speaker 1: forced to de risk, which puts more downward pressure on

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Speaker 1: markets and continues them to force the sell off UH.

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Speaker 1: And so you get this sort of crisis trend type exposure.

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Speaker 1: And that's ultimately what we're trying to exploit, particularly when

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Speaker 1: it comes to trying to manage risk. So with that

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Speaker 1: framework in mind, can you describe how you were positioned

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Speaker 1: going into the big sell off in March and then

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Speaker 1: how you started changing the portfolio. I'm assuming we started

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Speaker 1: changing the portfolio or um the strategy, the systematic process

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Speaker 1: that you were actually using as the month kind of unfolded. Absolutely,

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Speaker 1: So as we went into March, what we really saw

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Speaker 1: was that the majority of our trend signals remained positive

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Speaker 1: late February. So what we're really looking at, just to

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Speaker 1: be very clear for listeners, is we were looking at

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Speaker 1: a cross section of different trend signals on US equity sectors.

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Speaker 1: So that was really where the primary signals are coming

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Speaker 1: from in terms of managing risk in our portfolio. And

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Speaker 1: as we sort of went into late February, we started

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Speaker 1: to see some sectors turn off, their trend signals turned negative.

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Speaker 1: It really wasn't until say March thirteenth or fourteenth, that

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Speaker 1: the majority of the trend signals turned off. And so

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Speaker 1: for our portfolio, even if we implement those signals on

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Speaker 1: a daily basis, ultimately, what it sort of looks like

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Speaker 1: it was a dimmer switch that as the market started

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Speaker 1: to roll over, we started decreasing our exposure to equities

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Speaker 1: sort of ultimately minimize that exposure right around late March UM,

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Speaker 1: so there was a buffer there. I should be very clear.

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Speaker 1: I think our portfolio compared to the SMP five hundred,

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Speaker 1: we had sort of reduced the draw down by about

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Speaker 1: a thousand and fifteen hundred basis points, which was great

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Speaker 1: for the time. The problem was, as the market rebounded

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Speaker 1: very quickly, the trend types of trend following signals we

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Speaker 1: were looking at which were a little bit slower in nature,

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Speaker 1: looking for those sort of prolonged nine month type trends, Uh,

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Speaker 1: we're slower to get back in. And so almost all

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Speaker 1: of that draw down buffer that we had created was

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Speaker 1: erased within a two or three week period, and the

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Speaker 1: market kept ripping upwards, and by the time that the

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Speaker 1: trends turned back positive in the portfolio repositioned back into equities,

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Speaker 1: there was a meaningful delay in exposure. So do you

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Speaker 1: think that you could have changed some of the parameters

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Speaker 1: of the trends that you were following and maybe had

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Speaker 1: a better performance, or was there something inherent in having

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Speaker 1: this trend following strategy, the systematic process that made it

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Speaker 1: difficult to be nimble in an exceptionally quick market sell

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Speaker 1: off and then recovery. Well, I think that that's a

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Speaker 1: really great question because there's sort of two sides of

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Speaker 1: the answer. There's the what I'll say is the investment

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Speaker 1: professional answer, which is with hindsights, certainly, and I think

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Speaker 1: even in real time, we recognize that the nature of

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Speaker 1: the draw down was extraordinary and very different than what

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Speaker 1: we had seen in the past. Um, So that's gonna

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Speaker 1: be my sort of portfolio manager answer, which is, yes,

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Speaker 1: we were seeing things that made us think the way

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Speaker 1: in which our trend following signals work this draw down

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Speaker 1: may be very very different. If I sort of silo

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Speaker 1: that and then say, well, what is my asset manager answer,

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Speaker 1: which is I run an asset management firm, and I

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Speaker 1: have clients who are allocating to me for a very

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Speaker 1: specific style of exposure. They know that it's longer term

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Speaker 1: trend following. I have a fund prospectus that says it's

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Speaker 1: a certain type of trend following. Can I actually override

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Speaker 1: that in an extreme situation? Well, yes, I do, as

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Speaker 1: a PM have ultimate discretion, But there are a lot

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Speaker 1: of hurdles that you need to overcome to really have

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Speaker 1: the justification to do that, and you're gonna certainly have

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Speaker 1: to answer to your clients if you're wrong, and so

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Speaker 1: it becomes a difficult trade off to make. In many ways,

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Speaker 1: you are prohibited from making large changes if you have

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Speaker 1: painted yourself in a corner, both in the way you

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Speaker 1: have legally described your mandate as well as the way

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Speaker 1: you've communicated your mandate to your clients. This is this

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Speaker 1: is super interesting because in theory, these signals that you've

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Speaker 1: built your strategy off of it from years and years

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Speaker 1: realms and realms of market data. To make the call that, say,

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Speaker 1: you know, in a in a very fast moving market,

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Speaker 1: to make the call to say, well, maybe these aren't

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Speaker 1: working anymore is very bold either way, because, as you

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Speaker 1: point out, you would look very bad if people invested

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Speaker 1: their money with you because you had this sort of

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Speaker 1: strict rule follow approach or the sort of general rule

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Speaker 1: follow up approach and then you unplugged it and then

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Speaker 1: they continue to work absolutely. And I think that's where

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Speaker 1: there is this um potential problem between right the way

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Speaker 1: you should manage a portfolio and isolation versus the way

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Speaker 1: you're managing a portfolio when it's others, other people's money

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Speaker 1: and you have potentially a legal obligation to them both

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Speaker 1: in the way again, the way you describe your portfolio,

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Speaker 1: or again if it's a it's a forty X mutual

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Speaker 1: fund or something like that, your prospectus is going to

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Speaker 1: be varying degrees of restrictions. And if you write an

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Speaker 1: overly restrictive investment strategy summary, then it's really going to

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Speaker 1: prohibit you from making changes even if you think you

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Speaker 1: should make them. And what we ultimately found this year

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Speaker 1: was when we did decide that there were changes we

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Speaker 1: wanted to make, even enacting those changes and giving ourselves

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Speaker 1: the flexibility took months and months and months of prospectus

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Speaker 1: updates and operational updates to be able to implement those changes. So,

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Speaker 1: you know, it's it's interesting you say that UM. You know,

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Speaker 1: earlier you were talking we were talking about, okay, why

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Speaker 1: does trend following work? And as you pointed out, during

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Speaker 1: extreme periods, UM market has become less of a random

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Speaker 1: walk and there are certain mandates that investors have of

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Speaker 1: UM that you know, either catalyzed selling or for selling

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Speaker 1: or prevent the sort of normal market reaction in what

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Speaker 1: you just described about your own fund, just the mechanics

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Speaker 1: of say, updating the perspective, the perspectives and the legal

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Speaker 1: requirements around that. Are you a sort of microcosm of

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Speaker 1: I guess why profits can be made at various times

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Speaker 1: by different players in the market, because there's a range

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Speaker 1: of players like yourself that in different times simply cannot

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Speaker 1: you know, for various sort of structural regulatory things, client

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Speaker 1: mandate things cannot change fast enough. I mean, is this

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Speaker 1: sort of what we're talking about basically of why opportunities exist?

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Speaker 1: I absolutely think so. I think when you look at

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Speaker 1: different areas of the market, what you will find is

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Speaker 1: that there are price and sensitive buyers and sellers, particularly

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Speaker 1: around certain points. I would argue that our thesis played

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Speaker 1: out exactly as we thought it would in March, in

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Speaker 1: the sense that I leave that there was a true

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Speaker 1: procyclical cascade of de risking that occurred across various market

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Speaker 1: players that fed into each other in a very rapid

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Speaker 1: and violent fashion. Our problem was that we were just

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Speaker 1: expecting it to occur over a much slower time horizon

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Speaker 1: than it did, and so the speed at which our

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Speaker 1: trend models were going to adapt to the markets was

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Speaker 1: more designed for a two thousand and two thousand two

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Speaker 1: or two thousand eight type environment. To see the market

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Speaker 1: unwind so quickly, and I will say our our trend models,

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Speaker 1: which are dynamic in nature, did speed up very quickly.

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Speaker 1: So I think we did a fairly reasonable job on

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Speaker 1: helping mitigate the downside. But to then have central banks

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Speaker 1: step in and unleash a playbook that took them two

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Speaker 1: years to develop from two thousand seven to two thousand

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Speaker 1: nine and unveil it in two weeks, well, you don't

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Speaker 1: want to say this time is different, but certainly it

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Speaker 1: is different. Right for them to be able to do

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Speaker 1: that and have the confidence to do that and think

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Speaker 1: about the policy implications from a narrative perspective and how

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Speaker 1: that reinvigorates confidence within the markets, I think it really

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Speaker 1: was different this time. I want to talk a little

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Speaker 1: bit more about your market thesis, but before we do,

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Speaker 1: can you I mean you have you have this overall

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Speaker 1: view of the markets and this idea of a cascading

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Speaker 1: effect depending on available liquidity and risk appetite, so you

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Speaker 1: can see a bunch of players in the market kind

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Speaker 1: of step away at precisely the moment you would argue

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Speaker 1: that they probably need to be providing liquidity, and that

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Speaker 1: kind of creates this bad feedback loop for the overall market.

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Speaker 1: How did your models actually incorporate or where your models

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Speaker 1: hindered by incorporating data from previous years? So the financial crisis,

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Speaker 1: is that why they weren't able to adapt as fast?

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Speaker 1: Or is that why you were sort of operating on

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Speaker 1: a different time scale. I guess what I'm trying to

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Speaker 1: get at is how much just having an investment strategy

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Speaker 1: that's actually based on historical data, based on evidence, how

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Speaker 1: much does that hinder you when it comes to big

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Speaker 1: events that might be unexpected. I think there's really sort

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Speaker 1: of two questions embedded in here. I think the first

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Speaker 1: question is about the data itself, and I would argue

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Speaker 1: for a type of strategy like ours, it's it's less

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Speaker 1: about the data because the trend following strategy isn't necessarily

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Speaker 1: going to incorporate information about two thousand eight. Where that

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Speaker 1: information creeps in is in the design of the strategy. Right, So,

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Speaker 1: as a PM, my personal memory of two thousand eight

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Speaker 1: and environments like two thousand and other market environments that

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Speaker 1: I've studied to say this is the sort of trend

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Speaker 1: horizon that I think is going to be most efficient

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Speaker 1: for trying to mitigate those types of draw downs without

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Speaker 1: the foresight or expectation that the next draw down may

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Speaker 1: be rapid, violent and only take a month or two

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Speaker 1: to bounce back, right. And so I think it's not

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Speaker 1: necessarily that it's in the data for a strategy like ours,

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Speaker 1: but it is in the memory of the people who

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Speaker 1: are designing the strategy. We can talk about quantitative and

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Speaker 1: systematic all day long, but at the end of the day,

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Speaker 1: there is a very human element that goes into designing

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Speaker 1: these portfolios. Who are choosing what data is relevant and

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Speaker 1: what sort of constraints or information they want to build

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Speaker 1: into it. Philosophically, I mean this gets to one of

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Speaker 1: the bigger questions is you know, what do you what

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Speaker 1: do you do with the human element? Because you know,

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Speaker 1: one of the most popular you know, it's a cliche,

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Speaker 1: they always say, you know, your motions are a terrible guide.

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Speaker 1: They tell you to do to buy at the time

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Speaker 1: up to sell at the bottom. And one of the

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Speaker 1: most popular strategies for a lot of people these days

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Speaker 1: is a very simple algorithm when you have money by

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Speaker 1: and never sell it. So basically this sort of this

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Speaker 1: new dominant strategy is by every month by an ETF.

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Speaker 1: Don't think about it, keep buying, keep buying, keep buying,

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Speaker 1: keep buying. And so you know that's proven. That turned

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Speaker 1: out to be a pretty good strategy in just absolutely

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Speaker 1: whatever you do, don't sell. How do you think about, however,

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Speaker 1: with more sophisticated strategies, the degree to which the human

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Speaker 1: element either needs to be brought in or excised. Well,

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Speaker 1: if you'll allow me a little bit of a philosophical tangent,

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Speaker 1: i'll answer. You know, I've long thought about this difference

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Speaker 1: between what's really the difference between a systematic manager and

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Speaker 1: a discretionary manager, And I think if you sort of

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Speaker 1: go towards the absurd and say, well, let's allow a

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Speaker 1: systematic manager to follow around a discreptionary manager and just

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Speaker 1: write down all the rules. Right, if you've ever looked

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Speaker 1: at a discretionary manager's pitch book, there's always that upside

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Speaker 1: down pyramid that talks about their universe and how they

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Speaker 1: filter the securities they purchase, and so there is a process,

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Speaker 1: and so that systematic manager could take that process and

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Speaker 1: turn it into a set of rules and codify it

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Speaker 1: and implement it, and then whenever those rules are broken,

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Speaker 1: they could say to the discretionary manager, well, why do

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Speaker 1: you break those rules? And Okay, there's a new rule,

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Speaker 1: and they could just keep layering that in and ultimately,

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Speaker 1: if you sort of take that to its absurd conclusion,

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Speaker 1: what that really means is discretionary managers are systematic managers,

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Speaker 1: with the big difference that their value adds should come

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Speaker 1: in the idiosyncratic decisions that they make, that they are

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Speaker 1: breaking the core rules for a truly unprecedented reason. And

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Speaker 1: if you reverse that, I think you could also argue

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Speaker 1: then that systematic managers are discretionary managers. But they're ultimately

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Speaker 1: selling that optionality that they are foregoing ability to adapt

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Speaker 1: their rules to an idiosyncratic environment. And the argument that

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Speaker 1: they would make is the premium they're going to collect

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Speaker 1: as they're avoiding the behavioral bias, and that there's an

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Speaker 1: edge there. But the down side, the skew that they're

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Speaker 1: they're really selling might be, well, this time is different

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Speaker 1: and the rules are broken, and now they're foregoing that

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Speaker 1: optionality to adapt. And so I think that's in my

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Speaker 1: mind the ultimate distinction between them whether they're selling that

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Speaker 1: optionality or retaining it. So I mentioned that I wanted

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Speaker 1: to dig in a little bit to your markets thesis,

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Speaker 1: your grand markets thesis before the big sell off in March.

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Speaker 1: So you wrote this paper called Liquidity Cascades, and I

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Speaker 1: read it today. It's really good, and it's sort of

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Speaker 1: connects a lot of the different things that we've been

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Speaker 1: thinking and discussing on all loots. But primarily it's about

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Speaker 1: this self reflexive relationship between central banks, markets and risk

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Speaker 1: taking behavior, and this idea that you can get feedback

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Speaker 1: loops like deep in the bowels of the financial system,

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Speaker 1: one of the obvious ones being um the treasury trains

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Speaker 1: that blew up in March and then sort of fed

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Speaker 1: into the equity market. Could you describe that pisis a

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Speaker 1: little more or what inspired you to put that together

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Speaker 1: in that way? Absolutely? So after March I took a

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Speaker 1: step back and said, I think I'm fundamentally missing something

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Speaker 1: in my understanding of markets. What I witnessed in March

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Speaker 1: as we were watching markets day to day was what

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Speaker 1: I thought were procyclical sell offs. That you were seeing

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Speaker 1: a market that was being very heavily driven by hedging

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Speaker 1: behavior extreme selling that did not seem connected to fundamentals

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Speaker 1: anymore to me. And so as we exited March, I said,

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Speaker 1: I think I'm missing something in my personal understanding, and

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Speaker 1: so I went out and I tried to survey all

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Speaker 1: the different narratives I could find about what was really

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Speaker 1: driving markets today. So I should be very clear that

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Speaker 1: what I wrote in the Liquidity Cascades piece is not,

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Speaker 1: in my opinion, particularly novel research. I leaned very very

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Speaker 1: heavily on the ideas of folks like Mike Green at Logica,

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Speaker 1: or Chris cole Vaneer, Ben Sally, I know Ben Effort

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Speaker 1: who has been on the podcast with you guys a

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Speaker 1: few times before. Folks like that have identified a lot

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Speaker 1: of these different features. I think if I brought anything

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Speaker 1: new to the table, it was simply trying to say

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Speaker 1: that these are not all These ideas that they are

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Speaker 1: presenting are not necessarily independent of each other, and in

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Speaker 1: fact may have a knock on influence into each other.

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Speaker 1: So to take a step back, what was the ultimate

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Speaker 1: conclusion of Liquidity Cascades. Well, the way I saw it

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Speaker 1: was there were a few big narratives out there that

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Speaker 1: all sort of played into each other, and they all

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Speaker 1: played into each other in a big loop. And it's

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Speaker 1: hard to know where the loop really started or ended,

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Speaker 1: but I think sort of the easy place to begin

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Speaker 1: is with the influence of central banks. The core idea

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Speaker 1: being here that central banks have moved from referee to

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Speaker 1: very active player in the market, and that by reducing

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Speaker 1: the discount rate over time, they have forced investors up

434
00:26:18,359 --> 00:26:21,920
Speaker 1: the risk curve to pursue yield. The reason that occurs

435
00:26:22,000 --> 00:26:25,200
Speaker 1: is because ultimately a lot of investors have far dated

436
00:26:25,640 --> 00:26:30,760
Speaker 1: fixed dollar liabilities, they cannot afford to earn a lower

437
00:26:30,800 --> 00:26:33,840
Speaker 1: expected return, and so they have to keep increasing their risk.

438
00:26:34,040 --> 00:26:36,720
Speaker 1: So someone who was pursuing a seven or seven and

439
00:26:36,720 --> 00:26:39,880
Speaker 1: a half percent return twenty years ago, thirty years ago

440
00:26:40,000 --> 00:26:43,000
Speaker 1: could have just invested in US treasuries. Today it has

441
00:26:43,040 --> 00:26:46,879
Speaker 1: to be a portfolio filled with equity like securities and

442
00:26:47,080 --> 00:26:51,000
Speaker 1: highly illiquid securities. And I'll come back to that illiquid part,

443
00:26:51,119 --> 00:26:54,359
Speaker 1: But what it ultimately means is investors are bidding for

444
00:26:54,520 --> 00:26:58,199
Speaker 1: riskier and riskier securities and moving into a more and

445
00:26:58,240 --> 00:27:02,520
Speaker 1: more crowded trade. Now. Coincidental with that has been this

446
00:27:02,600 --> 00:27:05,960
Speaker 1: sort of change in market micro structure. Both moved from

447
00:27:06,000 --> 00:27:09,520
Speaker 1: active to passive, and this has really been Mike Green's

448
00:27:09,640 --> 00:27:13,720
Speaker 1: argument around the influence of passive investing in markets, but

449
00:27:13,800 --> 00:27:19,080
Speaker 1: also a migration from um active discretionary mutual funds to

450
00:27:19,480 --> 00:27:24,000
Speaker 1: indexed e t f s which are predominantly traded via baskets.

451
00:27:24,040 --> 00:27:26,399
Speaker 1: And then finally, one of the things that facilitated all

452
00:27:26,440 --> 00:27:29,719
Speaker 1: that was the rise of concentrated high frequency trading. So

453
00:27:29,760 --> 00:27:32,919
Speaker 1: you have a very large change in the way that

454
00:27:33,000 --> 00:27:36,800
Speaker 1: liquidity is now being provided within markets. It's being provided

455
00:27:36,800 --> 00:27:40,240
Speaker 1: by fewer and fewer players, and these high frequency traders

456
00:27:40,280 --> 00:27:44,840
Speaker 1: are highly levered and capital constraint during periods of market stress.

457
00:27:46,400 --> 00:27:49,280
Speaker 1: Final piece of the puzzle, at least the way I

458
00:27:49,280 --> 00:27:52,560
Speaker 1: I've seen it, is that in moving up the risk curve,

459
00:27:52,600 --> 00:27:55,880
Speaker 1: a lot of investors have tried to adopt what will

460
00:27:55,920 --> 00:27:59,439
Speaker 1: call volatility contingent strategies. So these are going to be

461
00:27:59,480 --> 00:28:04,119
Speaker 1: strategy that are risk managing in some way so or

462
00:28:04,680 --> 00:28:08,520
Speaker 1: their position sizing is going to be based on market volatility.

463
00:28:08,600 --> 00:28:11,000
Speaker 1: So this is gonna be things like risk parity strategies

464
00:28:11,440 --> 00:28:13,280
Speaker 1: uh C T A S. I would argue the type

465
00:28:13,280 --> 00:28:16,320
Speaker 1: of strategies that newfound has provided in the past fall

466
00:28:16,359 --> 00:28:20,520
Speaker 1: into this camp UH target risk variable annuities, but even

467
00:28:20,640 --> 00:28:24,080
Speaker 1: structured products out of Asia are sort of, in my opinion,

468
00:28:24,080 --> 00:28:26,359
Speaker 1: a way that people are moving up the risk curve

469
00:28:26,600 --> 00:28:31,480
Speaker 1: while touching into this volatility contingent space, explicit volatility selling,

470
00:28:31,520 --> 00:28:36,640
Speaker 1: the adoption of covered calls among institutions in the US,

471
00:28:37,000 --> 00:28:41,080
Speaker 1: And what this ultimately means is that as investors move

472
00:28:41,120 --> 00:28:45,680
Speaker 1: up the risk curve, there's this perpetual bid for equities.

473
00:28:45,760 --> 00:28:49,680
Speaker 1: You get this suppressed volatility. All of these volatility contingent

474
00:28:49,720 --> 00:28:54,520
Speaker 1: strategies increase their leverage, which increases their bid for equities.

475
00:28:54,560 --> 00:28:58,080
Speaker 1: So you get this sort of procyclical grind up within

476
00:28:58,160 --> 00:29:01,920
Speaker 1: equity markets. And then when there's some sort of exogenous shock,

477
00:29:02,440 --> 00:29:05,680
Speaker 1: they're all forced to unwind at the same time into

478
00:29:05,720 --> 00:29:09,520
Speaker 1: a market that's already very fragile from a liquidity perspective,

479
00:29:09,840 --> 00:29:13,200
Speaker 1: and so you get this very violent unwind that either

480
00:29:13,280 --> 00:29:15,320
Speaker 1: sort of sees its way through, and I think we

481
00:29:15,400 --> 00:29:17,760
Speaker 1: saw that in March. Sort of by the end of March,

482
00:29:17,840 --> 00:29:21,600
Speaker 1: most of these players had fully liquidated their equity exposure,

483
00:29:22,480 --> 00:29:27,160
Speaker 1: or simultaneously you get a very heavy handed UH step

484
00:29:27,200 --> 00:29:29,800
Speaker 1: in by central banks around the world to try to

485
00:29:30,120 --> 00:29:33,520
Speaker 1: return liquidity back to normal and in many ways the

486
00:29:33,520 --> 00:29:39,080
Speaker 1: whole cycle has started anew m. So is the upshot

487
00:29:39,080 --> 00:29:42,160
Speaker 1: of this? You know, so many players around the world

488
00:29:42,360 --> 00:29:46,880
Speaker 1: forced to increase risk, lots of leverage, lots of capacity

489
00:29:46,960 --> 00:29:51,280
Speaker 1: to buy equities. Is the upshot essentially by the dip?

490
00:29:51,560 --> 00:29:55,280
Speaker 1: And I mean that sort of casually but also seriously,

491
00:29:55,320 --> 00:29:57,480
Speaker 1: Like you know, people always tweet that there's like buying

492
00:29:57,480 --> 00:30:00,200
Speaker 1: the dip, buying the dip. But in terms of like

493
00:30:00,440 --> 00:30:05,800
Speaker 1: how one identifies alpha opportunities in a market with such

494
00:30:05,800 --> 00:30:09,600
Speaker 1: a perpetual bid and such a sort of demand for assets,

495
00:30:09,880 --> 00:30:12,440
Speaker 1: does that mean that like the sort of like biggest

496
00:30:13,400 --> 00:30:17,120
Speaker 1: opportunity to exploit And obviously it worked out what it

497
00:30:17,160 --> 00:30:22,440
Speaker 1: worked out, But in general that the players that provide

498
00:30:22,480 --> 00:30:25,520
Speaker 1: liquidity when the entire system is demanding it are the

499
00:30:25,560 --> 00:30:30,680
Speaker 1: people who can reap access returns. I think what this

500
00:30:30,800 --> 00:30:34,720
Speaker 1: thesis would argue is that price moves within the market

501
00:30:34,760 --> 00:30:38,960
Speaker 1: are becoming an increasing function of flow and not fundamentals

502
00:30:39,640 --> 00:30:43,360
Speaker 1: to your to your point Joe about uh mean version

503
00:30:43,400 --> 00:30:45,800
Speaker 1: within the markets. It's a really interesting paper that was

504
00:30:45,840 --> 00:30:49,280
Speaker 1: published recently about the influence of target date funds. This

505
00:30:49,360 --> 00:30:52,680
Speaker 1: is an industry that has silently grown from eight billion

506
00:30:52,800 --> 00:30:57,440
Speaker 1: to two and a half trillion, And arguably this plays

507
00:30:57,440 --> 00:31:00,240
Speaker 1: into the whole thesis of liquidity cascades as well, where

508
00:31:00,280 --> 00:31:03,720
Speaker 1: the influence of central banks is forcing people up the

509
00:31:03,800 --> 00:31:07,800
Speaker 1: risk curve. They can't hold money in savings accounts anymore,

510
00:31:07,800 --> 00:31:11,719
Speaker 1: and so the market has become their vehicle of savings.

511
00:31:11,840 --> 00:31:15,560
Speaker 1: And what this paper found was that how much the

512
00:31:15,600 --> 00:31:18,600
Speaker 1: market trends, So this this measure of auto correlation in

513
00:31:18,640 --> 00:31:22,680
Speaker 1: the market, there's a really significant break post two thousand

514
00:31:22,760 --> 00:31:26,120
Speaker 1: eight as these target date funds became larger and larger

515
00:31:26,160 --> 00:31:29,880
Speaker 1: that before the influence of target date funds, which are

516
00:31:30,000 --> 00:31:33,160
Speaker 1: systematic rebalancers, every time the market goes up, they're going

517
00:31:33,200 --> 00:31:36,160
Speaker 1: to sell the market exposure to buy to rebalance down.

518
00:31:36,240 --> 00:31:38,480
Speaker 1: Every time the market goes down, they're gonna buy to

519
00:31:38,680 --> 00:31:42,840
Speaker 1: increase their exposure. Prior to the real growth of target

520
00:31:42,920 --> 00:31:46,840
Speaker 1: date funds, markets tended to trend more. After target date

521
00:31:46,840 --> 00:31:50,840
Speaker 1: funds got really large, that seemed to disappear. Now that

522
00:31:50,960 --> 00:31:54,240
Speaker 1: might just entirely be a coincidence, right, It's not to

523
00:31:54,280 --> 00:31:57,480
Speaker 1: say it's causal um but I think what we're seeing

524
00:31:57,600 --> 00:32:02,320
Speaker 1: is more and more circumstantial evidence like that that as

525
00:32:02,360 --> 00:32:05,560
Speaker 1: in there's more of these sort of price and sensitive

526
00:32:05,640 --> 00:32:09,400
Speaker 1: systematic strategies that are all existing in the market today,

527
00:32:09,800 --> 00:32:14,520
Speaker 1: they're having impacts that are no longer fundamentally related. They're

528
00:32:14,560 --> 00:32:19,520
Speaker 1: purely flow related, and they're having knock on influence into

529
00:32:19,520 --> 00:32:23,360
Speaker 1: how securities are being priced. So this is what I've

530
00:32:23,360 --> 00:32:27,479
Speaker 1: called the flows before pros dynamic earlier, and I think

531
00:32:27,560 --> 00:32:31,520
Speaker 1: it gets to some of what we were discussed. Yeah,

532
00:32:31,520 --> 00:32:34,400
Speaker 1: I did, you can look for it on my Miscope,

533
00:32:34,480 --> 00:32:37,320
Speaker 1: that's really good. I like that flows before pros, thank you.

534
00:32:37,360 --> 00:32:39,080
Speaker 1: But I think it actually gets to one of the

535
00:32:39,080 --> 00:32:42,680
Speaker 1: reasons why a lot of professional investment managers seem to

536
00:32:42,800 --> 00:32:47,360
Speaker 1: be so angry at the moment or disgruntled in some way.

537
00:32:47,480 --> 00:32:50,080
Speaker 1: Up core, you are by no means disgruntled. You're very

538
00:32:50,120 --> 00:32:53,160
Speaker 1: calm and explaining all of this in a very rational manner.

539
00:32:53,400 --> 00:32:55,160
Speaker 1: But I think there is a lot of you know,

540
00:32:55,240 --> 00:32:57,200
Speaker 1: you see a lot of commentary going, oh, the Fed's

541
00:32:57,280 --> 00:33:01,800
Speaker 1: just inflating asset prices. It's creating this massive bubble. Uh,

542
00:33:02,000 --> 00:33:06,080
Speaker 1: you can't generate alpha anymore. There's no point in making

543
00:33:06,160 --> 00:33:11,240
Speaker 1: rational investment decisions because everything is dictated by momentum. So

544
00:33:12,280 --> 00:33:16,320
Speaker 1: I guess the big question is what does the dynamic

545
00:33:16,360 --> 00:33:19,640
Speaker 1: that you just laid out actually mean for the relationship

546
00:33:19,880 --> 00:33:23,480
Speaker 1: between the Federal Reserve and the market. Can the market

547
00:33:23,600 --> 00:33:28,520
Speaker 1: stand on its own without a central bank back stop? Well,

548
00:33:28,560 --> 00:33:31,520
Speaker 1: my my thesis would be that the central bank has

549
00:33:31,520 --> 00:33:34,240
Speaker 1: put itself in a place where markets in the real

550
00:33:34,280 --> 00:33:38,000
Speaker 1: economy have become more tightly lengked than ever before via

551
00:33:38,040 --> 00:33:41,520
Speaker 1: the wealth effect. That as investors are forced up the

552
00:33:41,640 --> 00:33:44,000
Speaker 1: risk curve, as they're forced to put more and more

553
00:33:44,040 --> 00:33:48,560
Speaker 1: in their of their savings into markets, that volatile markets

554
00:33:48,600 --> 00:33:52,280
Speaker 1: have a very real knock on impact into the way

555
00:33:52,320 --> 00:33:56,160
Speaker 1: consumers are going to spend. And so I think it's

556
00:33:56,320 --> 00:34:00,560
Speaker 1: very hard for central banks to extract themselves for markets

557
00:34:00,760 --> 00:34:04,920
Speaker 1: in a rapid fashion for that reason, because they can't

558
00:34:04,920 --> 00:34:09,240
Speaker 1: just magically raise rates back to a reasonable level whereby

559
00:34:09,320 --> 00:34:12,600
Speaker 1: investors could have a real rate of savings in a

560
00:34:12,640 --> 00:34:16,880
Speaker 1: bank savings account without causing huge disruption. And so I

561
00:34:16,920 --> 00:34:19,600
Speaker 1: think this is going to have to be a very

562
00:34:19,640 --> 00:34:24,080
Speaker 1: slow unwind for central banks. To your point, though, my

563
00:34:24,200 --> 00:34:28,600
Speaker 1: view is, look, ultimately we're I can't control the field,

564
00:34:28,960 --> 00:34:30,839
Speaker 1: I can't control the game I'm playing, and I just

565
00:34:30,880 --> 00:34:33,200
Speaker 1: have to play the game. And so for us, it's

566
00:34:33,400 --> 00:34:36,440
Speaker 1: not to be angry about what central banks are or

567
00:34:36,480 --> 00:34:39,520
Speaker 1: are not doing. I think there's both plenty of qualitative

568
00:34:39,520 --> 00:34:43,320
Speaker 1: and quantitative evidence that tail risk has increased over time.

569
00:34:43,480 --> 00:34:46,799
Speaker 1: If you simply plot a measure of tail risk in

570
00:34:46,840 --> 00:34:50,040
Speaker 1: the SMP five hundred of weekly SMP five hundred returns,

571
00:34:50,360 --> 00:34:54,360
Speaker 1: it has very steadily climbed over the last thirty years, UH,

572
00:34:54,600 --> 00:34:57,359
Speaker 1: jumping in two thousand eight, but continuing to climb through

573
00:34:57,400 --> 00:35:00,560
Speaker 1: the two tents. So I think there's an argument markets

574
00:35:00,560 --> 00:35:05,560
Speaker 1: are moving further faster. Uh. They are. You're seeing more

575
00:35:05,560 --> 00:35:09,200
Speaker 1: greater extremes with greater frequency. But that's the environment we're in.

576
00:35:09,320 --> 00:35:13,080
Speaker 1: So what we ultimately chose to do this year, Let's say, look,

577
00:35:13,120 --> 00:35:15,200
Speaker 1: we we think the type of trend following approach that

578
00:35:15,239 --> 00:35:19,200
Speaker 1: we were using may not work in this market regime,

579
00:35:19,239 --> 00:35:23,319
Speaker 1: and so we need to introduce different features UM into

580
00:35:23,360 --> 00:35:26,600
Speaker 1: the portfolio, not only diversify the way in which we're

581
00:35:26,640 --> 00:35:30,480
Speaker 1: managing risk beyond just trend following, to include things like

582
00:35:30,880 --> 00:35:35,120
Speaker 1: UM convexity on the downside with put options UH, stylistic

583
00:35:35,200 --> 00:35:39,719
Speaker 1: tilts with inequities themselves, and overlay to bond futures to

584
00:35:39,760 --> 00:35:42,239
Speaker 1: try to capture that flight to safety premium but on

585
00:35:42,280 --> 00:35:44,839
Speaker 1: the upside as well, we're just going to lean into

586
00:35:44,840 --> 00:35:46,920
Speaker 1: the momentum in many ways, we're going to create some

587
00:35:47,040 --> 00:35:51,920
Speaker 1: upside convexity using options to try to benefit from the

588
00:35:51,960 --> 00:35:55,240
Speaker 1: same gamma that a lot of these retail option investors

589
00:35:55,239 --> 00:35:58,520
Speaker 1: are benefiting from. If if that's what's going on in markets,

590
00:35:58,800 --> 00:36:01,640
Speaker 1: then our job is to play the hand we're dealt.

591
00:36:02,120 --> 00:36:06,560
Speaker 1: Speaking of, um, the world getting tail riskier. One of

592
00:36:06,560 --> 00:36:09,200
Speaker 1: the I like following Tracy on Twitter because she always

593
00:36:09,239 --> 00:36:12,359
Speaker 1: informs us when events happen in the market that are

594
00:36:12,360 --> 00:36:15,920
Speaker 1: only supposed to happen one every two million years, according

595
00:36:15,960 --> 00:36:19,000
Speaker 1: to the math, happened multiple times in a cycle. You're

596
00:36:19,040 --> 00:36:21,720
Speaker 1: you're always on top of that one, Tracy. I only

597
00:36:21,800 --> 00:36:24,960
Speaker 1: do it so that people can have an opportunity to

598
00:36:25,080 --> 00:36:28,319
Speaker 1: show that they've read to Leb's books. Everyone likes to

599
00:36:28,400 --> 00:36:32,520
Speaker 1: do that, right, Well, according to black Swan, Yeah, you're

600
00:36:33,000 --> 00:36:36,120
Speaker 1: it's really a public service. Okay, Um, oh god, you're

601
00:36:36,120 --> 00:36:37,759
Speaker 1: gonna want to get to live on, aren't you? I

602
00:36:37,800 --> 00:36:41,919
Speaker 1: can tell all right. Um, here's my other question. So,

603
00:36:42,080 --> 00:36:48,759
Speaker 1: if we think that the world is becoming more tail riskier,

604
00:36:49,280 --> 00:36:55,719
Speaker 1: and if we think that market stresses are becoming more important,

605
00:36:55,960 --> 00:37:01,239
Speaker 1: for the FED. Is there an opportunity in investing in

606
00:37:01,480 --> 00:37:07,400
Speaker 1: identifying potential pressure points in the market and actually exploiting

607
00:37:07,440 --> 00:37:10,719
Speaker 1: them on the assumption that if they blow up, the

608
00:37:10,760 --> 00:37:13,480
Speaker 1: central bank is going to have to come in and

609
00:37:13,600 --> 00:37:15,600
Speaker 1: rescue the system. I mean this kind of goes back

610
00:37:15,640 --> 00:37:18,919
Speaker 1: to Joe's point. Is the conclusion just by the dip,

611
00:37:19,440 --> 00:37:21,840
Speaker 1: but in a slightly more I guess sophisticated way, is

612
00:37:21,880 --> 00:37:24,200
Speaker 1: the conclusion, try to find the weak points in the

613
00:37:24,239 --> 00:37:29,400
Speaker 1: financial system, arbitrage opportunities, free money basically, and get as

614
00:37:29,440 --> 00:37:32,239
Speaker 1: much as you can out of it. I think the

615
00:37:32,239 --> 00:37:34,799
Speaker 1: way we've tried to attack this problem is almost thinking

616
00:37:34,840 --> 00:37:37,840
Speaker 1: about it as a game of musical chairs. I certainly

617
00:37:37,920 --> 00:37:41,480
Speaker 1: think that there are players out there who can survey

618
00:37:41,520 --> 00:37:45,399
Speaker 1: the landscape and try to identify those fault lines and

619
00:37:45,640 --> 00:37:50,160
Speaker 1: position themselves on it. I guess it's largely been my

620
00:37:50,280 --> 00:37:54,560
Speaker 1: view that that is very, very difficult, because truly exogenous

621
00:37:54,560 --> 00:37:56,440
Speaker 1: shock is going to be something that is going to

622
00:37:56,520 --> 00:38:00,520
Speaker 1: be sort of unknown. I think, you know COVID nineteen.

623
00:38:00,760 --> 00:38:02,399
Speaker 1: I think a lot of us were scratching our heads

624
00:38:02,400 --> 00:38:05,640
Speaker 1: in February why it wasn't impacting markets more and maybe

625
00:38:05,640 --> 00:38:08,759
Speaker 1: this liquidity cascades. Answer is exactly why, because markets were

626
00:38:08,760 --> 00:38:12,560
Speaker 1: being flow driven, not fundamental driven in February, uh, and

627
00:38:12,560 --> 00:38:15,600
Speaker 1: then we saw the reverse in March. But ultimately, I

628
00:38:15,600 --> 00:38:17,759
Speaker 1: think it's not so much a question of what's going

629
00:38:17,800 --> 00:38:20,440
Speaker 1: to take the market down versus if we just know

630
00:38:20,600 --> 00:38:23,799
Speaker 1: the market is going to move further faster, both on

631
00:38:23,840 --> 00:38:27,000
Speaker 1: the melt up and the meltdown, how do you reposition

632
00:38:27,239 --> 00:38:31,120
Speaker 1: a traditionally allocated portfolio for that? I would argue, if

633
00:38:31,160 --> 00:38:33,920
Speaker 1: the game of musical chairs is playing, we need to

634
00:38:34,040 --> 00:38:36,640
Speaker 1: lean into the momentum. We need to lean into the

635
00:38:36,719 --> 00:38:40,800
Speaker 1: upside convexity, but not leave ourselves naked on the downside.

636
00:38:40,800 --> 00:38:42,920
Speaker 1: And I think that's the important point. It's trying to

637
00:38:42,960 --> 00:38:46,400
Speaker 1: create this sort of asymmetric profile where we can harvest

638
00:38:46,440 --> 00:38:50,880
Speaker 1: that edge and recognize that flows really are potentially changing markets.

639
00:38:50,920 --> 00:38:53,360
Speaker 1: I saw a wonderful little note this morning on Twitter

640
00:38:54,000 --> 00:38:58,840
Speaker 1: where an analyst had demonstrated that YESG funds and green funds,

641
00:38:58,840 --> 00:39:01,480
Speaker 1: which have had phenomen coominal performance year to date and

642
00:39:01,480 --> 00:39:04,160
Speaker 1: we're only I don't know halfway through January, if you

643
00:39:04,280 --> 00:39:08,800
Speaker 1: segmented them between funds that had just a few holdings

644
00:39:08,920 --> 00:39:13,040
Speaker 1: versus more diversified funds, the performance was very, very different,

645
00:39:13,080 --> 00:39:15,560
Speaker 1: and it seemed to be driven almost entirely by flows.

646
00:39:16,000 --> 00:39:19,360
Speaker 1: That large flows into these highly concentrated funds were actually

647
00:39:19,480 --> 00:39:22,680
Speaker 1: driving up the prices of the underlying securities. And so

648
00:39:22,719 --> 00:39:24,799
Speaker 1: if we think this is a flow driven market, if

649
00:39:24,800 --> 00:39:28,080
Speaker 1: we think that there's an outsize influence of retail investors

650
00:39:28,080 --> 00:39:31,719
Speaker 1: who are speculating using options with Robin Hood, I can

651
00:39:31,719 --> 00:39:34,200
Speaker 1: either sit on the sidelines and and cross my arms

652
00:39:34,239 --> 00:39:36,920
Speaker 1: and be upset about it, or I can take that

653
00:39:37,000 --> 00:39:40,719
Speaker 1: into account, try to recognize where I think flow is

654
00:39:40,760 --> 00:39:46,680
Speaker 1: potentially influencing prices, try to maximize our exposure to that momentum,

655
00:39:46,719 --> 00:39:49,040
Speaker 1: and then again make sure that I'm I'm hedged on

656
00:39:49,080 --> 00:40:07,840
Speaker 1: the downside. Let me ask you, you know, uh trade

657
00:40:07,880 --> 00:40:10,800
Speaker 1: As Tracy said, you know, some investors they do seem

658
00:40:10,840 --> 00:40:12,640
Speaker 1: to get angry and they go on TV and wind

659
00:40:12,640 --> 00:40:14,919
Speaker 1: about the fad. You don't do that at all. And

660
00:40:15,120 --> 00:40:16,440
Speaker 1: that was one of the reasons I want to chat

661
00:40:16,520 --> 00:40:18,520
Speaker 1: with you, just because of you know, how sort of

662
00:40:18,560 --> 00:40:22,640
Speaker 1: like transparent open you are, and you're talking about lessons

663
00:40:22,719 --> 00:40:28,600
Speaker 1: learned in UM. It's just like it's extremely refreshing. Uh,

664
00:40:28,600 --> 00:40:31,360
Speaker 1: it's much more useful than uh and some of the

665
00:40:31,360 --> 00:40:34,480
Speaker 1: other stuff out there. What is the conversation like with

666
00:40:34,760 --> 00:40:39,080
Speaker 1: clients in terms of how you're sort of explaining how

667
00:40:39,080 --> 00:40:42,399
Speaker 1: you're incorporating these new ideas, and also, you know you're

668
00:40:42,440 --> 00:40:44,920
Speaker 1: you're sort of point your point about how a true

669
00:40:44,960 --> 00:40:48,359
Speaker 1: systemic strategy is selling something of a call option. You're

670
00:40:48,400 --> 00:40:51,839
Speaker 1: diminishing some of that optionality for the purpose of sort

671
00:40:51,840 --> 00:40:54,960
Speaker 1: of taking human human emotion out of it. How are

672
00:40:54,960 --> 00:40:58,520
Speaker 1: you thinking about that going forward? Because may not be

673
00:40:58,560 --> 00:41:01,600
Speaker 1: the last time where you sort of identify that certain

674
00:41:01,680 --> 00:41:04,040
Speaker 1: rules aren't working in real time as much as you

675
00:41:04,760 --> 00:41:07,000
Speaker 1: expected they would. So how are you thinking and sort

676
00:41:07,040 --> 00:41:10,640
Speaker 1: of the long term strategy and your long term career

677
00:41:10,680 --> 00:41:16,640
Speaker 1: approach about the role of flexibility and maintaining that. I'll

678
00:41:16,640 --> 00:41:19,400
Speaker 1: start by saying, I appreciate the kind words my wife

679
00:41:19,400 --> 00:41:22,279
Speaker 1: will tell you. I wine plenty, so's I'm just taking

680
00:41:22,320 --> 00:41:25,200
Speaker 1: it out in a different avenue. So as it relates

681
00:41:25,239 --> 00:41:28,719
Speaker 1: to client conversations, I do think it really all is

682
00:41:28,760 --> 00:41:33,359
Speaker 1: going to depend upon your relationship with your clients. I

683
00:41:33,360 --> 00:41:36,200
Speaker 1: think we have great relationships with our clients. We work

684
00:41:36,320 --> 00:41:38,919
Speaker 1: very hard at that. We worked very hard at constant communication,

685
00:41:39,560 --> 00:41:42,120
Speaker 1: and so for us. The process of transition this year

686
00:41:42,520 --> 00:41:46,120
Speaker 1: was not I won't say it wasn't unexpected. We were

687
00:41:46,840 --> 00:41:52,120
Speaker 1: in contact with our clients and stakeholders the entire process

688
00:41:52,400 --> 00:41:55,440
Speaker 1: of the research we were doing and sharing with them

689
00:41:55,480 --> 00:41:57,840
Speaker 1: what we were finding and the questions we were asking.

690
00:41:57,880 --> 00:42:00,640
Speaker 1: And it's hard to be that transparent it right, this

691
00:42:00,719 --> 00:42:07,080
Speaker 1: is an industry where confidence really does sell. Hubris Cells, Um,

692
00:42:07,280 --> 00:42:09,320
Speaker 1: you're the only one on Twitter that didn't gain a

693
00:42:10,120 --> 00:42:13,759
Speaker 1: last year. Well that's true, that is true. But if

694
00:42:13,840 --> 00:42:17,080
Speaker 1: if Hubris Cells, I would hope that humility ultimately survives.

695
00:42:17,560 --> 00:42:20,080
Speaker 1: And so my view is that if we can have

696
00:42:20,120 --> 00:42:24,280
Speaker 1: that conversation, that hard but transparent conversation with our clients,

697
00:42:24,800 --> 00:42:26,799
Speaker 1: they're either going to say, look, I bought you for

698
00:42:26,840 --> 00:42:30,400
Speaker 1: a particular position in my portfolio. I wanted you to

699
00:42:30,440 --> 00:42:34,279
Speaker 1: fill that position. You're changing and therefore I I no

700
00:42:34,320 --> 00:42:36,000
Speaker 1: longer want to allocate to you, which I think is

701
00:42:36,040 --> 00:42:38,720
Speaker 1: totally fine. Right. If they wanted an intermediate term trend

702
00:42:38,719 --> 00:42:41,040
Speaker 1: follower and we're not going to do that anymore, then

703
00:42:41,080 --> 00:42:43,520
Speaker 1: I think from their portfolio composition, they do need to

704
00:42:43,520 --> 00:42:46,520
Speaker 1: find another manager. But for other clients who are saying, look,

705
00:42:46,520 --> 00:42:48,839
Speaker 1: I was really just trying to allocate to you for

706
00:42:49,000 --> 00:42:53,480
Speaker 1: resilient equity exposure. If you think market structure has changed

707
00:42:53,560 --> 00:42:58,480
Speaker 1: and you need a to change your process to increase

708
00:42:58,560 --> 00:43:01,560
Speaker 1: the amount of diversifiers are holding in your portfolio to

709
00:43:01,680 --> 00:43:04,200
Speaker 1: adapt to this new market environment, well that's what we

710
00:43:04,320 --> 00:43:06,840
Speaker 1: ultimately are hiring you to do. So please give yourself

711
00:43:06,880 --> 00:43:09,040
Speaker 1: the flexibility, Please come back to us when you think

712
00:43:09,040 --> 00:43:11,319
Speaker 1: you have the solution. And so it really I think

713
00:43:11,640 --> 00:43:13,719
Speaker 1: if you have a good relationship with your clients, this

714
00:43:13,760 --> 00:43:17,280
Speaker 1: is something that you can make that transition over time.

715
00:43:18,000 --> 00:43:20,279
Speaker 1: As it relates to the role of discretion I think

716
00:43:20,320 --> 00:43:23,520
Speaker 1: this is a really interesting one. I will say the

717
00:43:23,600 --> 00:43:27,399
Speaker 1: market trend within investing over the last decade has been

718
00:43:27,480 --> 00:43:32,960
Speaker 1: towards greater and greater, greater and greater pushed towards systematic strategies.

719
00:43:33,040 --> 00:43:35,160
Speaker 1: We've seen it through the adoption of smart Beta. We've

720
00:43:35,200 --> 00:43:39,240
Speaker 1: seen it as people move away from traditional discretionary, especially

721
00:43:39,239 --> 00:43:44,080
Speaker 1: within equities, and so I continue to get pushed back

722
00:43:44,200 --> 00:43:48,200
Speaker 1: both among prospects as well as clients of US adopting

723
00:43:48,200 --> 00:43:51,359
Speaker 1: any discretionary To be honest that the question is how

724
00:43:51,400 --> 00:43:54,719
Speaker 1: are you going to make this systematic? I think what

725
00:43:54,880 --> 00:43:57,640
Speaker 1: is interesting is I think there's certain areas where I

726
00:43:57,760 --> 00:44:01,200
Speaker 1: will continue to be systematic. I think within our stylistic

727
00:44:01,320 --> 00:44:06,719
Speaker 1: tilts of equities, um, momentum exposure, defensive styles that we

728
00:44:06,800 --> 00:44:12,319
Speaker 1: implement UM. So whether that's quality tilts or UH statistical

729
00:44:12,480 --> 00:44:14,839
Speaker 1: measures a risk like low ball or low bait up,

730
00:44:14,880 --> 00:44:17,319
Speaker 1: those will continue I think to be systematic because I

731
00:44:17,320 --> 00:44:20,359
Speaker 1: haven't seen a lot of evidence that we can add

732
00:44:20,360 --> 00:44:23,200
Speaker 1: a lot of value. On the discretionary side, where I

733
00:44:23,239 --> 00:44:27,000
Speaker 1: think it's harder to be systematic, where we've given ourselves

734
00:44:27,080 --> 00:44:30,560
Speaker 1: more flexibility and being discretionary is in those types of

735
00:44:30,600 --> 00:44:36,520
Speaker 1: positions that are going to have a very strong path dependency. So,

736
00:44:36,640 --> 00:44:40,279
Speaker 1: for example, are options that we hold a ladder of,

737
00:44:40,280 --> 00:44:41,960
Speaker 1: say out of the money call options and out of

738
00:44:41,960 --> 00:44:45,640
Speaker 1: the money put options. When you want to monetize those

739
00:44:45,680 --> 00:44:49,520
Speaker 1: positions is going to be very very path dependent on

740
00:44:49,600 --> 00:44:52,080
Speaker 1: the nature of the type of draw down that you're seeing.

741
00:44:52,560 --> 00:44:55,400
Speaker 1: And so you can try to enumerate all the rules

742
00:44:55,480 --> 00:44:57,840
Speaker 1: in a systematic manner, but I think ultimately at the

743
00:44:57,880 --> 00:44:59,160
Speaker 1: end of the day, you just end up with this

744
00:44:59,239 --> 00:45:03,480
Speaker 1: sort of infinite long list versus having some sort of

745
00:45:03,520 --> 00:45:06,880
Speaker 1: ad hoc you know, or maybe some rules of thumb

746
00:45:07,160 --> 00:45:10,399
Speaker 1: about when you might want to monetize, but recognizing you're

747
00:45:10,400 --> 00:45:13,879
Speaker 1: gonna need a little bit more discretion in those types

748
00:45:13,920 --> 00:45:18,320
Speaker 1: of market environments because those situations can change rapidly. Liquidity

749
00:45:18,400 --> 00:45:21,000
Speaker 1: can change rapidly. You don't want to just lock yourself

750
00:45:21,040 --> 00:45:24,680
Speaker 1: into making a decision beforehand without giving yourself a little

751
00:45:24,680 --> 00:45:29,360
Speaker 1: bit of flexibility to recognize how how environments are changing. Corey,

752
00:45:29,520 --> 00:45:31,959
Speaker 1: that was great. You do such a good clear job

753
00:45:32,080 --> 00:45:35,600
Speaker 1: of explaining this, and I really appreciate you coming up well.

754
00:45:35,600 --> 00:45:37,880
Speaker 1: Thank you so much for having me, and you didn't

755
00:45:37,920 --> 00:45:40,239
Speaker 1: whine about the FED at all. I can if you

756
00:45:40,280 --> 00:45:44,239
Speaker 1: want me to next next when we do the follow up,

757
00:45:44,400 --> 00:45:47,480
Speaker 1: when they change the rules again next year, then we'll

758
00:45:47,480 --> 00:45:50,000
Speaker 1: have you back for that. But no, that was really great.

759
00:45:50,000 --> 00:45:52,520
Speaker 1: It's so so clear and helpful, and I learned a lot.

760
00:45:53,239 --> 00:46:08,759
Speaker 1: Good luck. Thanks, Cory. That was really good. Corey is great.

761
00:46:09,040 --> 00:46:11,120
Speaker 1: It is super clear. You know, like one thing I

762
00:46:11,200 --> 00:46:13,880
Speaker 1: kept thinking back to. It's like when we first you know,

763
00:46:13,880 --> 00:46:16,439
Speaker 1: when I was thinking about this episode, I was thinking

764
00:46:16,440 --> 00:46:19,920
Speaker 1: about it, Okay, this is gonna be talking about quantitative stuff,

765
00:46:19,920 --> 00:46:21,960
Speaker 1: of the challenge of quantum investing, and it is. But

766
00:46:22,040 --> 00:46:27,000
Speaker 1: it's interesting how many conversations come back to this point

767
00:46:27,280 --> 00:46:31,600
Speaker 1: about the degree to which the FED is sort of

768
00:46:31,680 --> 00:46:34,200
Speaker 1: in this corner where they're the only player in the

769
00:46:34,239 --> 00:46:40,360
Speaker 1: game and everyone has to buy assets, and how linked

770
00:46:40,680 --> 00:46:43,040
Speaker 1: the real economy is to financial markets. It's such a

771
00:46:43,080 --> 00:46:46,200
Speaker 1: recurring theme of so many of the guests we talked

772
00:46:46,239 --> 00:46:50,279
Speaker 1: to from all all different perspective, right, this idea that

773
00:46:50,360 --> 00:46:54,959
Speaker 1: you have the central bank suppressing volatility, which then leads

774
00:46:54,960 --> 00:46:58,319
Speaker 1: to risk taking, which leads to further suppression of volatility

775
00:46:58,480 --> 00:47:02,440
Speaker 1: until something kind of um gets knocked out of whack

776
00:47:02,520 --> 00:47:04,920
Speaker 1: in the system, and then you get stresses, and then

777
00:47:04,960 --> 00:47:08,560
Speaker 1: they kind of cascade in the opposite direction. You get

778
00:47:08,880 --> 00:47:11,920
Speaker 1: sell off, you get a big burst of volatility, and

779
00:47:11,920 --> 00:47:15,520
Speaker 1: then the central bank comes in, pours cold water on

780
00:47:15,600 --> 00:47:18,040
Speaker 1: whatever fire has set the whole thing off, and then

781
00:47:18,560 --> 00:47:21,719
Speaker 1: the cycle begins again. I think that's definitely a theme

782
00:47:21,800 --> 00:47:25,400
Speaker 1: that's come up in a bunch of our conversations. But

783
00:47:25,920 --> 00:47:28,239
Speaker 1: I'm thinking of a couple right now, Chris Cole and

784
00:47:28,360 --> 00:47:32,000
Speaker 1: Ben Effort, which of course Corey mentioned as an inspiration

785
00:47:32,040 --> 00:47:35,879
Speaker 1: for his Liquidity Cascades paper, but also, yeah, I mean

786
00:47:36,120 --> 00:47:39,040
Speaker 1: all of those, and then also I'm thinking like uh,

787
00:47:39,200 --> 00:47:42,560
Speaker 1: stream of us to Vedanta and Paul McCulley and like,

788
00:47:42,800 --> 00:47:45,880
Speaker 1: how much of this situation where the FED is the

789
00:47:45,920 --> 00:47:49,120
Speaker 1: only game in town is downstream from the fact that

790
00:47:49,200 --> 00:47:54,600
Speaker 1: economic policies deprive the private sector of the income it

791
00:47:54,760 --> 00:47:58,279
Speaker 1: needs to have a sustainable economy, and so therefore you

792
00:47:58,360 --> 00:48:01,280
Speaker 1: end up with this situation where so many people's fortunes

793
00:48:01,320 --> 00:48:04,160
Speaker 1: are not really linked to GDP per se, but to

794
00:48:04,360 --> 00:48:08,799
Speaker 1: asset markets specifically. So it's like, there is like this

795
00:48:08,960 --> 00:48:11,319
Speaker 1: weird There are tons of guests that we talked to

796
00:48:11,440 --> 00:48:13,560
Speaker 1: last year that all sort of like talked about this

797
00:48:14,080 --> 00:48:16,279
Speaker 1: same phenomenon. I don't know what he's going with that.

798
00:48:16,400 --> 00:48:18,920
Speaker 1: It's just it always seems to come back to this phenomenon,

799
00:48:19,040 --> 00:48:22,040
Speaker 1: regardless of the sort of perspective that the person is

800
00:48:22,080 --> 00:48:25,440
Speaker 1: coming from. Now, I think that's a big deal for

801
00:48:25,600 --> 00:48:30,439
Speaker 1: the way the world act. That's another one who's sort

802
00:48:30,440 --> 00:48:32,520
Speaker 1: of in that. Yeah, yeah, I mean it's a big deal.

803
00:48:32,560 --> 00:48:35,120
Speaker 1: And but I I think one of the reasons it's

804
00:48:35,120 --> 00:48:38,279
Speaker 1: important is because, well, first of all, it deals with

805
00:48:38,320 --> 00:48:41,359
Speaker 1: the gap between the reality of the economy and what's

806
00:48:41,360 --> 00:48:43,320
Speaker 1: happening in markets, which we've seen a lot of people

807
00:48:43,360 --> 00:48:48,840
Speaker 1: complain about last year. But it also explains why there's

808
00:48:49,520 --> 00:48:54,359
Speaker 1: the sense of um again, dissatisfaction both among financial professionals,

809
00:48:54,400 --> 00:48:58,080
Speaker 1: but also between people who are set out of the

810
00:48:58,080 --> 00:49:01,640
Speaker 1: stock market rally versus people who are included in it.

811
00:49:01,800 --> 00:49:04,239
Speaker 1: Or you know, this idea of the K shaped recovery

812
00:49:04,440 --> 00:49:09,120
Speaker 1: in I think that disconnects, you know, Yeah, go ahead, No,

813
00:49:09,239 --> 00:49:11,080
Speaker 1: I was just gonna say, it's interesting, there's something I

814
00:49:11,160 --> 00:49:13,239
Speaker 1: meant to bring up with Corey. But you know, it's

815
00:49:13,280 --> 00:49:17,040
Speaker 1: their signals were obviously for a long time after March,

816
00:49:17,560 --> 00:49:21,440
Speaker 1: obviously not telling them to get back into the markets aggressively.

817
00:49:21,640 --> 00:49:23,080
Speaker 1: But I think if you looked at a lot of

818
00:49:23,080 --> 00:49:26,040
Speaker 1: like non systemic investors, you have the same thing. I

819
00:49:26,080 --> 00:49:29,000
Speaker 1: remember talking to a someone at a broker dealer this

820
00:49:29,080 --> 00:49:32,800
Speaker 1: summer whose clients were mostly high net worth and family offices,

821
00:49:32,840 --> 00:49:35,720
Speaker 1: and he's like, everything, this is probably May or June,

822
00:49:36,000 --> 00:49:38,560
Speaker 1: and he's like, every single person I know is missing

823
00:49:38,640 --> 00:49:41,960
Speaker 1: the rally to some extent, Like everyone is under invested here.

824
00:49:42,040 --> 00:49:45,080
Speaker 1: And remember, there was just this general disbelief that amid

825
00:49:45,280 --> 00:49:48,520
Speaker 1: such an economic downturn, the market could be railing this much.

826
00:49:48,920 --> 00:49:51,120
Speaker 1: And so whether it's like people on a purely systemic

827
00:49:51,120 --> 00:49:53,200
Speaker 1: basis or just people going with their gut or whatever.

828
00:49:53,800 --> 00:49:57,320
Speaker 1: Lots of people had some sort of mitigating thing keeping

829
00:49:57,360 --> 00:50:00,279
Speaker 1: them out of the big rally. Well, so this gets

830
00:50:00,280 --> 00:50:04,279
Speaker 1: back to the flows versus prose phenomenon, which is that

831
00:50:05,000 --> 00:50:09,839
Speaker 1: if the entire market is moving based on momentum and inflows,

832
00:50:10,120 --> 00:50:13,480
Speaker 1: then the retail trader, you know, the guy sitting in

833
00:50:13,520 --> 00:50:17,640
Speaker 1: his basement who's reading the Reddit forums and looking at

834
00:50:17,640 --> 00:50:20,320
Speaker 1: a bunch of meme stocks, he might have a better

835
00:50:20,360 --> 00:50:23,400
Speaker 1: sense of those inflows and momentum than a lot of

836
00:50:23,400 --> 00:50:28,080
Speaker 1: professional investors do. Wow. As a very very provocative statement

837
00:50:28,080 --> 00:50:29,960
Speaker 1: to end, I don't know what to say, but let's

838
00:50:30,040 --> 00:50:33,040
Speaker 1: leave it there. Okay, it's late at night, maybe we

839
00:50:33,080 --> 00:50:36,560
Speaker 1: should end it. Okay, very provocative. Yeah, all right. This

840
00:50:36,640 --> 00:50:39,799
Speaker 1: has been another episode of the Odd Lots Podcast. I'm

841
00:50:39,840 --> 00:50:43,239
Speaker 1: Tracy Alloway. You can follow me on Twitter at Tracy Alloway.

842
00:50:43,280 --> 00:50:45,960
Speaker 1: And I'm Joe Wisenthal. You can follow me on Twitter

843
00:50:46,120 --> 00:50:49,120
Speaker 1: at the Stalwart. And you should definitely follow our guests

844
00:50:49,160 --> 00:50:53,680
Speaker 1: on Twitter. Corey Hofstein he's at Sea Hofstein Fountain Insights.

845
00:50:53,760 --> 00:50:56,200
Speaker 1: You heard just now extremely clear. Also check out all

846
00:50:56,239 --> 00:50:59,880
Speaker 1: of his research at I Think Newfound. Very provocative stuff.

847
00:51:00,480 --> 00:51:04,400
Speaker 1: Follow our producer Laura Carlson. She's at Laura M. Carlson.

848
00:51:04,719 --> 00:51:08,600
Speaker 1: Follow the Bloomberg head of podcast Francesco Levi at Francesca Today,

849
00:51:08,960 --> 00:51:11,839
Speaker 1: and check out all of our podcasts at Bloomberg under

850
00:51:11,880 --> 00:51:14,280
Speaker 1: the handle at podcasts. Thanks for listening.