WEBVTT - What David Barse Learned From Watching A Credit Fund Blow Up 0:00:11.920 --> 0:00:15.440 Hello, and welcome to another edition of The Bots Podcast. 0:00:15.520 --> 0:00:21.000 I'm Tracy Alloway and I'm Joe. Joe. Do you remember 0:00:21.320 --> 0:00:25.720 what was happening in nineteen sixty two? I mean from 0:00:25.720 --> 0:00:28.880 a financial markets perspective. I thought I thought you were 0:00:28.920 --> 0:00:32.960 asking me, like what my personal recollection was from nineteen 0:00:33.880 --> 0:00:36.440 But no, not only do I not personally remember what 0:00:36.479 --> 0:00:40.159 happened in nineteen sixty two, probably couldn't actually tell you 0:00:40.240 --> 0:00:44.040 anything that I know about financial markets in nine sixty two. 0:00:44.080 --> 0:00:46.960 So I'm I'm drawing a blank here. Okay, well you're 0:00:46.960 --> 0:00:49.440 going to enjoy this, then I find this really interesting. 0:00:49.479 --> 0:00:51.880 I think you will too. But in nineteen sixty two, 0:00:51.920 --> 0:00:55.680 there was a little stock market crash and it became 0:00:55.760 --> 0:00:59.360 known as the Kennedy Slide. Not many people remember it now, 0:01:00.080 --> 0:01:02.360 but it was really interesting because it was basically the 0:01:02.400 --> 0:01:06.160 first crash that happened in a stock market that had 0:01:06.480 --> 0:01:10.080 mutual funds in it, because mutual funds hadn't really been 0:01:10.120 --> 0:01:15.720 around in nine or in the Great Depression, So it's interesting. 0:01:15.800 --> 0:01:19.959 So it was the crash associated with something mechanically with 0:01:20.040 --> 0:01:22.360 the funds or is it was it just sort of 0:01:22.360 --> 0:01:24.880 like a coincidence that there are these new vehicles at 0:01:24.880 --> 0:01:28.000 the time. Ah okay, So this is where it gets 0:01:28.040 --> 0:01:32.479 really interesting because as stocks started to fall on this 0:01:32.600 --> 0:01:36.520 one particular week in nineteen sixty two, there was this 0:01:36.640 --> 0:01:41.119 real concern that all these new fangled mutual funds we're 0:01:41.120 --> 0:01:45.000 going to end up making the crash worse. Basically, people 0:01:45.040 --> 0:01:47.520 thought that investors would be able to sell their holdings 0:01:47.640 --> 0:01:51.440 much more easily because they were in they were wrapped 0:01:51.480 --> 0:01:54.680 up in these mutual funds. Now, in the end that 0:01:54.720 --> 0:01:57.840 didn't actually happen. The mutual funds actually came in and 0:01:57.960 --> 0:02:00.760 bought a bunch of stocks, so they ended up supporting 0:02:00.800 --> 0:02:04.160 the market and everyone was kind of saved thanks to 0:02:04.240 --> 0:02:07.840 mutual funds. But it's clearly interesting because it gets to 0:02:07.920 --> 0:02:11.839 this big question of how open ended funds behave when 0:02:11.880 --> 0:02:14.520 there's trouble. And you and I both like to talk 0:02:14.520 --> 0:02:17.760 about market structure. We talk a lot about the rise 0:02:17.760 --> 0:02:21.679 of passive investing, but we also talk about e t 0:02:21.919 --> 0:02:25.480 f s and sometimes mutual funds, right exactly, and you 0:02:25.560 --> 0:02:29.560 hear it a lot these days, people warning about e 0:02:29.720 --> 0:02:32.200 t f s are getting so big and so enormous, 0:02:32.200 --> 0:02:35.160 and there's so many, they're so liquid, and people are 0:02:35.160 --> 0:02:38.320 concerned about the underlying assets in them, and we haven't 0:02:38.360 --> 0:02:42.920 really seen any big structural systematic problems yet. But if 0:02:42.960 --> 0:02:44.920 you ask people like, oh, what are you most worried 0:02:44.960 --> 0:02:48.079 about or what could bring on another financial crisis, even 0:02:48.120 --> 0:02:50.040 if people are sort of vague and hazy about how 0:02:50.080 --> 0:02:54.960 it would work, there's like this suspicion that modern rappers 0:02:55.000 --> 0:02:59.920 of assets or modern vehicles are somehow going to be involved. Right, 0:03:00.120 --> 0:03:03.680 that's exactly right. And of course there's an overwriting discussion 0:03:03.680 --> 0:03:06.520 as well about how mutual funds are constructed and how 0:03:06.560 --> 0:03:10.040 the benchmarks that they follow are actually defined and constructed. 0:03:10.080 --> 0:03:13.919 And that's something that we've spoken about before in terms 0:03:13.960 --> 0:03:17.840 of these worries over mutual funds or e t F 0:03:18.080 --> 0:03:21.600 basically open ended vehicles wrapped around certain assets. There was 0:03:21.680 --> 0:03:26.600 one moment in time that happened relatively recently, certainly much 0:03:26.600 --> 0:03:30.160 more recently than in nineteen sixty two. Do you remember 0:03:30.200 --> 0:03:33.480 that one, Joe, Yeah, I think it was was that 0:03:33.560 --> 0:03:38.840 late and everyone started reading white papers about the connection 0:03:38.960 --> 0:03:42.240 between junk bond ETFs and junk bonds and whether that 0:03:42.360 --> 0:03:46.080 was going to create a problem. Yeah, that's exactly right. 0:03:46.160 --> 0:03:49.840 And we also had a credit fund. Uh, you know. 0:03:50.200 --> 0:03:52.240 I think at one point this credit fund was worth 0:03:52.240 --> 0:03:56.400 about three point five billion dollars, the Third Avenue Credit Fund, 0:03:56.520 --> 0:04:00.680 and it experienced about of redemptions that base sickly spooked 0:04:00.720 --> 0:04:03.800 the entire market. Yeah, I remember that. And in the end, 0:04:04.080 --> 0:04:06.960 the market overall was fine and we didn't have many 0:04:07.000 --> 0:04:10.160 sort of big systemic problems. But people sort of thought 0:04:10.160 --> 0:04:12.040 it was like, Okay, this could be like a harbinger. 0:04:12.120 --> 0:04:14.680 I mean, hey, I think people were relieved that it didn't, 0:04:14.720 --> 0:04:17.480 but it seemed like the type of thing that spoke 0:04:17.560 --> 0:04:20.719 to a lot of these anxieties which we've been talking 0:04:20.720 --> 0:04:25.640 about for a while. Yeah, exactly. So today I'm I'm 0:04:25.760 --> 0:04:29.479 quite excited about our guest because our guest is actually 0:04:29.560 --> 0:04:33.920 the former CEO of Third Avenue. It's David Bars and 0:04:34.160 --> 0:04:36.920 he's not only going to be talking about his experience 0:04:37.279 --> 0:04:40.680 at the fund and his opinions about general liquidity and 0:04:41.160 --> 0:04:43.600 mutual funds and e t f s, but we're also 0:04:43.640 --> 0:04:48.760 going to go into a really interesting discussion about indexes specifically, 0:04:48.839 --> 0:04:51.480 and also his new venture, which is kind of an 0:04:51.560 --> 0:05:04.680 interesting tweak on existing index investing. I can't wait. Alright, So, 0:05:04.800 --> 0:05:08.720 without further ado, David Clarks welcome to the show. So 0:05:08.920 --> 0:05:10.560 it's great to be here. I thought when you mentioned 0:05:10.680 --> 0:05:12.640 nineteen sixty two you were going to talk about that 0:05:12.720 --> 0:05:15.040 was the year I was born, and this was the 0:05:15.160 --> 0:05:18.000 significance of that, And you came up with this very 0:05:18.080 --> 0:05:20.800 interesting story that I didn't know about myself. So so 0:05:21.000 --> 0:05:23.720 you as your your barn you like me, You don't 0:05:23.720 --> 0:05:28.599 have any recognition now I do not, but I do 0:05:28.680 --> 0:05:31.000 have a pretty good recollection of what happened in two 0:05:31.000 --> 0:05:35.839 thousand fifteen. Shall we start with that then, um, and 0:05:36.200 --> 0:05:38.960 I wish that I could claim the nineteen sixty two 0:05:39.000 --> 0:05:41.839 thing is the result of my um deep research ahead 0:05:41.880 --> 0:05:44.839 of this podcast, but unfortunately it's just a happy coincidence. 0:05:45.400 --> 0:05:48.320 Let's start with late two thousand fifteen. David, do you 0:05:48.320 --> 0:05:51.160 want to maybe just explain what was going on at 0:05:51.200 --> 0:05:53.880 that time? Yeah, I mean, look, the name of the 0:05:53.920 --> 0:05:58.600 fund was the third Avenue Focused Credit Fund. Focused being 0:05:59.080 --> 0:06:03.520 emphasized here for making the point that we were a 0:06:03.600 --> 0:06:11.760 concentrated portfolio of highled and distressed securities that you could 0:06:11.760 --> 0:06:15.280 not get in that format in a liquid mutual fund 0:06:15.320 --> 0:06:19.400 format pretty much anywhere else. We were unique in what 0:06:19.480 --> 0:06:25.080 we had created for the marketplace. But the The fact 0:06:25.200 --> 0:06:29.400 that people thought of that fund as some representation for 0:06:29.440 --> 0:06:32.680 an overall market is sort of a misnomer because if 0:06:32.680 --> 0:06:35.880 you think back to the financial crisis, where you had 0:06:35.920 --> 0:06:40.880 many many funds git themselves in effect right put up 0:06:40.880 --> 0:06:44.600 the gates which there were permitted to do, you really 0:06:44.600 --> 0:06:47.479 didn't have much of a different story here. This was 0:06:47.520 --> 0:06:51.280 a fund that was the focused credit fund was set 0:06:51.360 --> 0:06:55.159 up to offer investors really an alternative to to a 0:06:55.200 --> 0:06:57.960 hedge fund, to a private vehicle. Uh and we were 0:06:57.960 --> 0:07:01.479 doing it in a in a public format. So what 0:07:01.560 --> 0:07:05.800 happened with that one fund really was not representative representative 0:07:05.800 --> 0:07:07.520 what was going on the markets. That weren't any other 0:07:07.560 --> 0:07:11.360 funds like that fund. So how did you have the 0:07:11.440 --> 0:07:14.440 idea originally before we get to even the events of 0:07:14.520 --> 0:07:18.320 late tell us a little bit about the evolution of 0:07:18.360 --> 0:07:22.600 the fund itself and how you saw an opportunity to 0:07:22.760 --> 0:07:27.920 offer access to a concentrated portfolio of these assets in 0:07:27.960 --> 0:07:32.680 that liquid vehicle. Okay, so two thousand eight, the financial 0:07:32.720 --> 0:07:37.960 crisis is is coming upon us. We were deep value investors. 0:07:38.680 --> 0:07:42.960 Pretty much most of our assets under management were in 0:07:43.600 --> 0:07:49.600 publicly listed equity securities. We had had a historical participation 0:07:49.720 --> 0:07:54.280 in debt and distress debt, both in public and private vehicles, 0:07:54.320 --> 0:07:57.960 but had really not had much exposure to that asset 0:07:58.040 --> 0:08:01.000 class leading up until the financial crisis. But as the 0:08:01.000 --> 0:08:04.600 financial crisis came upon us, obviously being higher up in 0:08:04.640 --> 0:08:07.400 the capital structure of a business is a safer way 0:08:07.400 --> 0:08:12.520 to invest. And our idea was to try and gather 0:08:12.640 --> 0:08:17.680 assets into that wave, if you will, and and do 0:08:17.720 --> 0:08:19.960 that in a in a way in which we can participate, 0:08:20.000 --> 0:08:22.920 cause we were like any other opportunistic value investor. That's 0:08:22.960 --> 0:08:26.280 where we saw the value really and really were excited 0:08:26.280 --> 0:08:29.360 about the opportunity. The problem is, how do you raise 0:08:29.440 --> 0:08:32.199 money going into a financial crisis when most people are 0:08:32.200 --> 0:08:35.040 taking money off the table, and we were experiencing that 0:08:35.120 --> 0:08:39.280 with our open and mutual funds, the equity funds. So 0:08:39.360 --> 0:08:42.079 the only solution that I could come up with at 0:08:42.080 --> 0:08:46.000 the time, because I was out pitching investors literally the 0:08:46.040 --> 0:08:50.440 week before and after Lehman Brothers went into bankruptcy, was 0:08:50.520 --> 0:08:53.880 to launch an open and mutual fund because that's what 0:08:53.920 --> 0:08:59.040 we had successfully done historically. And it took about nine 0:08:59.040 --> 0:09:01.360 months to get that done. So it's August two thousand 0:09:01.480 --> 0:09:05.880 nine and we read we file our third Avenue focused 0:09:05.920 --> 0:09:08.920 credit fund, and the opportunity was pretty clear, right. You 0:09:09.000 --> 0:09:15.480 had high yield trading at twelve hundred over as a spread, 0:09:15.520 --> 0:09:18.000 and and so you could pretty much pick your litter. 0:09:18.120 --> 0:09:20.080 It was like shooting fish in a barrel, quite frankly, 0:09:20.880 --> 0:09:24.839 because you could buy very plentiful supply of securities out 0:09:24.840 --> 0:09:27.480 there that you could buy and diversify the portfolio even 0:09:27.480 --> 0:09:29.600 though it's a focus fund, but diverse by the portfolio 0:09:29.600 --> 0:09:33.760 across industry, and that was an easy opportunity for us. 0:09:33.960 --> 0:09:37.960 The challenge was there weren't many funds being launched in 0:09:38.000 --> 0:09:41.000 that format. In fact, I believe we were the only one, 0:09:41.640 --> 0:09:45.440 and most people, if they were trying to access these securities, 0:09:45.440 --> 0:09:48.439 were doing it in private funds and hedge funds, So 0:09:48.559 --> 0:09:51.320 we were very unique. And in fact, I remember going 0:09:51.400 --> 0:09:56.520 on CNBC to announce the launch of the fund and 0:09:56.840 --> 0:09:59.480 a lot of folks took interest in what we were 0:09:59.760 --> 0:10:01.520 try iring to do at that time. So that was 0:10:01.559 --> 0:10:05.120 the that was the spirit for the launch. The idea 0:10:05.440 --> 0:10:09.880 and the opportunity was clearly there. Did it ever cross 0:10:09.920 --> 0:10:13.680 your mind to start a hedge fund or a private 0:10:13.720 --> 0:10:16.120 fund like other people were doing. I mean, you mentioned 0:10:16.160 --> 0:10:19.240 that you you've had success in other open ended mutual funds, 0:10:19.240 --> 0:10:22.679 so that was your expertise. But did you ever even 0:10:22.960 --> 0:10:26.360 think about it? Not just thought about it, attempted it 0:10:26.559 --> 0:10:33.040 in different derivations, especially since we had going into the 0:10:33.040 --> 0:10:36.040 financial I think two thousand seven rssets under management peaked 0:10:36.040 --> 0:10:38.240 at close to thirty one billion dollars, so we had 0:10:38.240 --> 0:10:43.040 a pretty broad client base. But those clients in two 0:10:43.040 --> 0:10:45.720 thousand eight were more interested in getting their money back 0:10:46.200 --> 0:10:50.720 than allocating capital, and so raising funds in a private format. 0:10:51.120 --> 0:10:54.760 And even though we had that kind of a u M, 0:10:54.800 --> 0:10:58.320 we were in a private fund what you call a 0:10:58.400 --> 0:11:03.640 first time fund man GERM, right, because most of our funds, 0:11:03.640 --> 0:11:06.319 in fact, all of our funds were in public format, right, 0:11:06.360 --> 0:11:09.000 and mutual funds or separately managed accounts. So when you 0:11:09.080 --> 0:11:13.720 launch a private fund, private fund investors like to see 0:11:13.760 --> 0:11:16.680 track records, and this is why you have many of 0:11:16.679 --> 0:11:19.480 the successful private equy firms out there launching Fund seventeen 0:11:19.600 --> 0:11:22.599 right now, because there they've got track records for the 0:11:22.640 --> 0:11:26.959 sixteen prior funds that investors make their decisions on. Unfortually, 0:11:26.960 --> 0:11:30.439 we are backward looking industry, right, So that was the 0:11:30.520 --> 0:11:35.640 challenge for us, and and it became really uh almost 0:11:36.360 --> 0:11:38.320 the only way we could get the money was to 0:11:38.360 --> 0:11:42.720 do it through this public format. Now, one of the 0:11:42.800 --> 0:11:46.080 concerns that was that we were already talking about and 0:11:46.120 --> 0:11:50.360 that was really spotlight in late is this idea of 0:11:50.400 --> 0:11:53.679 a sort of liquidity mismatch. People want daily liquidity, or 0:11:53.720 --> 0:11:55.880 if it's in an e t F form, they want 0:11:56.040 --> 0:12:02.200 a minute by minute liquidity, but just dressed assets, junk bonds, 0:12:02.280 --> 0:12:04.439 they don't just trade. You know, a minute by minute 0:12:04.520 --> 0:12:06.600 is easily is the same the same way as a 0:12:06.640 --> 0:12:09.920 stocks do. When you launched the fund, was this something 0:12:09.960 --> 0:12:12.560 that was on your mind as a concern, Yeah, of course, 0:12:12.600 --> 0:12:14.160 and and so the goal was to get to a 0:12:14.200 --> 0:12:20.200 critical mass so that you could have size and enable 0:12:20.280 --> 0:12:23.600 yourself to have a diversified portfolio, not have any heavily 0:12:23.640 --> 0:12:29.240 concentrated positions where liquidity constraints would mismatch investors needs or desires. 0:12:29.240 --> 0:12:33.000 Because investors in mutual funds have the right to redeem daily. 0:12:33.600 --> 0:12:36.280 Uh you know, there are certain redemption fee features that 0:12:36.280 --> 0:12:38.120 you can put on funds, but that's that's the nature 0:12:38.120 --> 0:12:40.439 of the vehicle. So of course we were very conscious 0:12:40.440 --> 0:12:41.719 of that, and we wanted to get the size that 0:12:41.840 --> 0:12:45.640 we did quite. I think my recollection is that the 0:12:45.679 --> 0:12:48.559 fund got to about seven million in a u M 0:12:48.640 --> 0:12:51.480 and within three or four months, which was sort of 0:12:51.520 --> 0:12:55.520 an unprecedented at the time raise, especially given the time 0:12:55.520 --> 0:13:00.920 framework in right, it's the fall winter of two thousand nine, right, 0:13:01.040 --> 0:13:04.680 still anount of time when people were thinking about getting 0:13:04.720 --> 0:13:06.840 back into the market. Right, we hadn't even had the 0:13:06.880 --> 0:13:11.160 green shoots conversations yet. So it was it was a 0:13:11.240 --> 0:13:14.319 very successful launch, if you will, and that helped create 0:13:15.120 --> 0:13:17.959 liquidity for investors if they chose. And there were points 0:13:17.960 --> 0:13:20.040 of time, especially as you think about what happened in 0:13:20.040 --> 0:13:24.360 two thousand eleven with the downgrade of US treasuries, right, 0:13:25.040 --> 0:13:27.880 you know, you had issues over time where markets were 0:13:28.000 --> 0:13:31.199 volatile and people wanted to take look, take capital off 0:13:31.200 --> 0:13:33.040 the table. So we have to be able to manage 0:13:33.040 --> 0:13:37.280 that through that period. The ultimate demise here was the 0:13:37.320 --> 0:13:40.960 fact that you know, you have I had a portfolio 0:13:41.000 --> 0:13:43.760 manager in charge of the fund who who made some 0:13:43.840 --> 0:13:46.680 bad investments. And at the end of the day, in 0:13:46.880 --> 0:13:51.000 any construct, whether it's a mutual fund or or a 0:13:51.000 --> 0:13:55.240 private fund, you have to be making good investments. That's 0:13:55.280 --> 0:13:58.240 what you're charged with doing. And and when you have 0:13:58.520 --> 0:14:02.920 investments that turn out to be non performers. That's what 0:14:03.160 --> 0:14:06.920 ultimately lead to the challenges with the fund. It wasn't 0:14:06.920 --> 0:14:10.880 the market issue as much as it was individual investments. 0:14:12.000 --> 0:14:15.040 So can I ask, if you were doing it all again, 0:14:15.640 --> 0:14:18.559 is there something that you would do differently or what's 0:14:18.600 --> 0:14:21.880 your biggest takeaway from that experience? Well? Yeah, I think 0:14:21.920 --> 0:14:26.200 if you're that the learning is twofold. Work harder to 0:14:26.200 --> 0:14:28.760 try and raise a private fund. That's a that's an 0:14:28.760 --> 0:14:31.720 easy one. And secondarily, if you're going to do something 0:14:31.800 --> 0:14:35.840 in a in a public format where investors can can 0:14:35.840 --> 0:14:39.640 access you daily and redeem you daily, then the only 0:14:39.640 --> 0:14:44.880 way to properly manage risk is to massively diversify the portfolio. 0:14:45.320 --> 0:14:48.680 So it's it's sort of what has ended up really 0:14:48.720 --> 0:14:53.120 transforming into the high yeld marketplace. You have. Most hield 0:14:53.120 --> 0:14:57.680 funds are basically benchmark trackers, right They own wildly diversified 0:14:57.720 --> 0:15:04.160 portfolios of securities that track the high heeled index. So basically, 0:15:04.400 --> 0:15:08.240 if you're going to have a daily vehicle or liquid 0:15:08.320 --> 0:15:12.520 vehicle for the public, your lesson now is there's almost 0:15:12.600 --> 0:15:16.120 no way to do it on a concentrated basis. It 0:15:16.240 --> 0:15:20.160 just has to roughly more or less everything. That's correct 0:15:20.880 --> 0:15:24.800 if investors are going to demand daily liquidity. Right when 0:15:24.880 --> 0:15:28.680 it comes to credit market liquidity in general, we hear 0:15:29.520 --> 0:15:33.760 so much noise about, you know, trading having become more difficult, 0:15:33.920 --> 0:15:36.680 the market any more liquid, more e t f s, 0:15:36.720 --> 0:15:39.960 more open ended funds that are investing in you know, 0:15:40.080 --> 0:15:43.200 high old bonds and things like that. Are those valid 0:15:43.240 --> 0:15:46.920 concerns in your opinion? Well, I haven't seen it manifest 0:15:46.960 --> 0:15:50.680 itself in any way that that would cause me to 0:15:50.720 --> 0:15:52.800 be concerned about it. I think you had a point 0:15:53.040 --> 0:15:55.120 a little less than a year ago, maybe in January 0:15:55.120 --> 0:15:58.239 of this year, where HYLD was almost trading at perfection, 0:15:58.960 --> 0:16:02.560 probably maybe unprecedented in terms of where it was from 0:16:02.560 --> 0:16:07.440 a from a yield basis, and and the spread as 0:16:07.760 --> 0:16:10.080 as thin as I think it's ever been, and you 0:16:10.120 --> 0:16:14.360 didn't really have any any issues, and we weathered through 0:16:14.800 --> 0:16:17.880 what was a pretty challenging energy market a couple of 0:16:17.960 --> 0:16:20.720 years ago that we're now seeing. I think there were 0:16:20.880 --> 0:16:24.040 articles about it today that energy is now maybe the 0:16:24.120 --> 0:16:27.840 largest percentage of the High Heeled index right now, and 0:16:27.880 --> 0:16:32.000 you're seeing a sort of a robust demand for securities 0:16:32.000 --> 0:16:34.960 in that sector. So the market has seemed to evolve 0:16:35.040 --> 0:16:40.480 itself into a pretty stable place, notwithstanding all of these 0:16:40.840 --> 0:16:44.720 traditional metrics that might cause concern for folks, But it 0:16:44.760 --> 0:16:48.840 hasn't done anything to um to spook the market from 0:16:48.840 --> 0:16:52.480 what I can see. So the going back to a 0:16:52.520 --> 0:16:55.040 couple of years ago when we had the energy crash 0:16:55.080 --> 0:16:57.520 and a lot of high old dead tied to energy, 0:16:57.640 --> 0:17:00.560 that was obviously when people were most worried. In your view, 0:17:01.080 --> 0:17:03.640 the fact that we got through that period that it 0:17:03.680 --> 0:17:06.760 was pretty smooth, that none of the concerns really turned 0:17:06.800 --> 0:17:10.119 out too much, it's pretty good evidence that the market 0:17:10.160 --> 0:17:12.720 structure roughly works. Yeah, And if you had asked how 0:17:12.840 --> 0:17:15.160 old investors what their biggest concerns where maybe a year 0:17:15.200 --> 0:17:17.320 ago that's a healthcare was going to be the next 0:17:17.600 --> 0:17:21.440 energy sector and where what happened? Right, We haven't read 0:17:21.480 --> 0:17:24.600 or heard much about that sector getting disrupted in a 0:17:25.200 --> 0:17:27.359 in any kind of material way. So I I just 0:17:27.400 --> 0:17:30.840 think people keep trying to look for problems. It's just 0:17:31.000 --> 0:17:33.280 for the sake of looking for problems, and and the 0:17:33.320 --> 0:17:36.560 market seems to have worked itself out pretty efficiently, which 0:17:36.920 --> 0:17:40.640 tends to happen. So David, let's talk about your new venture. 0:17:41.280 --> 0:17:43.760 I alluded to it in the intro. But it's kind 0:17:43.800 --> 0:17:47.040 of an interesting take on investing. And I guess the 0:17:47.080 --> 0:17:50.160 clue is in the name. You know, you're now principal 0:17:50.280 --> 0:17:54.320 and co founder at outvest Capital. Can you tell us 0:17:54.400 --> 0:17:59.560 quickly what exactly it does, what the what the mandate is? Yeah? 0:17:59.600 --> 0:18:06.120 So out test is is really an intuitive, simple, scalable 0:18:06.280 --> 0:18:13.080 idea for how to do two things. One take advantage 0:18:13.080 --> 0:18:15.680 of what we think is the most forward facing risk 0:18:16.760 --> 0:18:20.159 for all investors, which is the rate of technological change 0:18:20.680 --> 0:18:26.520 and how tech is disrupting all industries. And secondarily, the 0:18:26.720 --> 0:18:32.480 wave of flows into the passive index investing marketplace, which 0:18:32.480 --> 0:18:36.040 I personally witnessed in my prior role, and as something 0:18:36.080 --> 0:18:40.959 that I think is going to continue infinitum. And so 0:18:41.760 --> 0:18:45.600 what simply one should think about is it may be important, 0:18:45.600 --> 0:18:48.160 more important what you leave out of your portfolio than 0:18:48.200 --> 0:18:50.479 what you put in. And thus the name and branding 0:18:50.520 --> 0:18:55.359 of our enterprise called outvest Capital. So this is really interesting. 0:18:55.560 --> 0:18:59.560 We typically think of funds as trying to select the 0:18:59.640 --> 0:19:03.440 very best assets within some sort of broader family, whether 0:19:03.440 --> 0:19:07.840 it's large caps or small caps, whatever. Your view is 0:19:08.000 --> 0:19:11.040 that perhaps the best way to go is to more 0:19:11.119 --> 0:19:14.000 or less by the index, but try to avoid the 0:19:14.000 --> 0:19:16.000 losers of the index so that you can gain from that. 0:19:16.359 --> 0:19:20.320 What is the Is there an academic research or backward 0:19:20.320 --> 0:19:22.960 looking data that suggests that that may be a better approach, 0:19:23.359 --> 0:19:26.560 So there isn't that we could identify. We wrote our 0:19:26.600 --> 0:19:30.120 own white paper which talks to this concept because if 0:19:30.119 --> 0:19:32.320 you really think about what you when you go to 0:19:32.359 --> 0:19:37.200 business school, you're given Harry Markowitz's book on modern portfolio theory, 0:19:37.320 --> 0:19:42.679 and it is pick concentrated portfolios of best ideas and 0:19:42.760 --> 0:19:46.720 over time you will beat the market. Right, that's the 0:19:47.280 --> 0:19:50.080 basis for the way most people are educated today, and 0:19:50.119 --> 0:19:54.120 still today we take issue with that and actually say 0:19:54.160 --> 0:19:59.080 that really flip the investment process and it's more important 0:19:59.119 --> 0:20:01.040 what you leave out than with you put in. Because 0:20:01.440 --> 0:20:05.280 the market has evolved, index funds are the market today. 0:20:05.320 --> 0:20:08.520 They are continuing to grasp more and more of what's 0:20:08.520 --> 0:20:13.280 happening where flows are going. And we decided to launch 0:20:13.359 --> 0:20:16.600 this concept after simulating back testing it for a little while. 0:20:17.080 --> 0:20:20.320 But we have chosen the SMP five hundred, the most 0:20:20.359 --> 0:20:25.480 broadest based domestic US market where more flows are going 0:20:25.560 --> 0:20:30.360 than in any other index, and simply by excluding as 0:20:30.400 --> 0:20:33.120 you call them the losers. We look at it as 0:20:34.000 --> 0:20:38.119 we're trying to eliminate from the portfolio those companies that 0:20:38.240 --> 0:20:42.720 are or likely will be disrupted by technology. And again 0:20:42.800 --> 0:20:48.959 technology disruption being a forward facing risk. And there's no 0:20:49.040 --> 0:20:52.040 better example for me to to share, and I think 0:20:52.080 --> 0:20:54.320 you you guys have talked about this in the past, 0:20:54.400 --> 0:21:00.200 is General Electric. General Electric was the top five i've 0:21:00.560 --> 0:21:04.040 company in the SMP from a market cap weighted basis, 0:21:05.119 --> 0:21:09.760 and now it's market cap is close to a hundred billions, 0:21:10.640 --> 0:21:13.280 and now I'll blow a hundred billions, Okay, So look, 0:21:13.320 --> 0:21:15.960 and that's happened in such a short period of time. 0:21:16.600 --> 0:21:18.399 And I think in May of two thousand seventeen, the 0:21:18.440 --> 0:21:21.080 Wall Street Journal wrote an article about how Jeff Emo 0:21:21.240 --> 0:21:26.120 was one of the great technology innovators in the way 0:21:26.160 --> 0:21:30.760 in which he'd you know, taken and transformed g GE. Well, 0:21:30.760 --> 0:21:34.480 that clearly hasn't happened. So it's it's think about that 0:21:34.520 --> 0:21:36.480 if you own the SMP, you were buying that stock 0:21:36.640 --> 0:21:39.600 at its weight, and if you've simply eliminated what kind 0:21:39.600 --> 0:21:42.080 of outperformance just from one security? Now we do this. 0:21:42.680 --> 0:21:45.440 We ended up out vesting through our process about a 0:21:45.520 --> 0:21:51.040 hundred and fifty close to of the market cap, and 0:21:51.080 --> 0:21:54.040 we have been able in eighteen months of live performance 0:21:54.800 --> 0:21:57.560 outperform the SMP by clist of five hundred basis points. 0:21:58.680 --> 0:22:00.840 So we're just trying to prove move this out. But 0:22:00.960 --> 0:22:04.159 that's where we're that's what we're doing. So how do 0:22:04.200 --> 0:22:08.280 you go about identifying those hundred fifty companies or how 0:22:08.280 --> 0:22:11.560 do you identify the next g e? And is the 0:22:11.600 --> 0:22:14.639 process for identifying something that you want to take out 0:22:14.720 --> 0:22:19.879 of your portfolio any different to identifying something you know 0:22:19.960 --> 0:22:22.960 under a traditional investment strategy that you would want to 0:22:23.000 --> 0:22:27.680 put in. So yes it is. And and the number 0:22:27.680 --> 0:22:29.280 of folks who we've talked about to say, why aren't 0:22:29.280 --> 0:22:32.480 you just doing a long short portfolio, because really the 0:22:32.680 --> 0:22:36.560 short selling mentality is to is to do that, to 0:22:36.720 --> 0:22:40.679 fundamentally select a security you think is going to not 0:22:40.840 --> 0:22:45.439 perform or under perform. But we're we're really trying to 0:22:45.440 --> 0:22:49.639 make this a scalable business, and short selling by definition 0:22:49.720 --> 0:22:52.680 has been non scalable. You have I think only one 0:22:52.720 --> 0:22:54.920 fund in the marketplace that's over a billion and a 0:22:55.080 --> 0:22:58.840 u M. So what our process entails is it's really 0:22:58.920 --> 0:23:03.680 two prong The for is simply dividing the index into 0:23:03.720 --> 0:23:08.520 industry groups through a technology taxonomy. In other words, we're 0:23:08.560 --> 0:23:13.479 not using the global industry classification codes to divide the index. 0:23:13.520 --> 0:23:18.200 We're using our own industry group determinations. And we we've 0:23:18.200 --> 0:23:20.760 divided the SMP into thirty four industry groups, and that 0:23:20.800 --> 0:23:24.720 may change depending upon how the SMP evolves over time, 0:23:24.760 --> 0:23:27.919 because there are new entrants and companies that leave the 0:23:28.000 --> 0:23:32.160 SMP from time to time. So we look at industry 0:23:32.160 --> 0:23:34.560 groups through our own lens and then we make a 0:23:34.640 --> 0:23:40.280 simple determination as that industry advantaged or disadvantaged by technology, 0:23:40.520 --> 0:23:43.520 and if it's advantaged, by default, that industry group and 0:23:43.520 --> 0:23:46.919 the securities in it will be in the portfolio. And 0:23:46.960 --> 0:23:50.520 if it's disadvantaged, that secure those securities and industry groups 0:23:50.520 --> 0:23:54.439 will be out vested from the portfolio or eliminated. So 0:23:54.480 --> 0:23:58.320 that's step one. It's a qualitative determination. It's an active approach, 0:23:58.680 --> 0:24:03.879 but it's merely making industry decisions, not company specific decisions. 0:24:04.640 --> 0:24:08.600 We then apply a quantitative model that we built to 0:24:08.760 --> 0:24:12.879 take that advantage group and make a decision whether to 0:24:12.880 --> 0:24:15.160 own it or not own it. So if it meets 0:24:15.200 --> 0:24:17.959 the quant screens, and the quant screens are are a 0:24:18.000 --> 0:24:22.040 lower bar for advantaged industries than they are for disadvantage. 0:24:22.040 --> 0:24:24.719 And similarly, if a company is in a disadvantaged industry, 0:24:24.720 --> 0:24:28.000 the quant screen will either keep it out or kick 0:24:28.080 --> 0:24:31.639 it back into the portfolio. So you can avoid situations 0:24:31.640 --> 0:24:34.840 where there are certain companies within an industry group. And 0:24:34.880 --> 0:24:37.760 I'll give you an example of that. Retail would clearly 0:24:37.800 --> 0:24:41.600 be a industry group that is likely to be disadvantaged 0:24:41.640 --> 0:24:44.199 by technology. I don't think many people would debate me 0:24:44.240 --> 0:24:47.440 on that, but there are companies within that industry group, 0:24:48.600 --> 0:24:52.800 like home depot, that we view as through our quant 0:24:52.880 --> 0:24:55.800 screen as having certain advantages and therefore it got kicked 0:24:55.880 --> 0:24:59.520