Speaker 1: Vias is Masters in Business with Barry Ridholts on Boomberg Radio.
Speaker 1: This week on the podcast, I have a special guest.
Speaker 1: His name is Andrew Beer. He has really a fascinating
Speaker 1: background and career in finance. He's a managing member at
Speaker 1: Dynamic Beta Investments, which is one of the oldest firms
Speaker 1: doing liquid alternatives. Really quite fascinating. Their goal is to
Speaker 1: roll out things that look like hedge funds, but with
Speaker 1: full transparency, liquidity, and none of the high fees it
Speaker 1: It's really a fascinating space, sort of bringing the philosophy
Speaker 1: of Jack Bogel to the hedge fund space. If you're
Speaker 1: at all interested in liquid alts or managed futures, or
Speaker 1: want to learn how these things work, I think you'll
Speaker 1: find this to be a fascinating and wonky conversation. So,
Speaker 1: with no further ado, my conversation with Dynamic Beta's Andrew Beer.
Speaker 1: Vias is men Steers in Business with Barry Ridholts on
Speaker 1: Bloomberg Radio. My special guest this week is Andrew Beer.
Speaker 1: He is a managing member at Dynamic Beta Investments, one
Speaker 1: of the older firms in the liquid ault space. Their
Speaker 1: goal is to deliver hedge fund like returns, but with
Speaker 1: reasonable fees and daily liquidly UH their long short hedge
Speaker 1: funny t F was up for the year in while
Speaker 1: their managed futures fund was flat. Andrew Beer, Welcome to Bloomberg.
Speaker 1: Thank you, Barry. It's a pleasure to be on the
Speaker 1: call today. So let's start with your background. How did
Speaker 1: you find your way to the investment management industry? So,
Speaker 1: I it wasn't clear. I guess um. I started as
Speaker 1: an em and a banker in the early UH and
Speaker 1: back then, if you were an energetic young m and
Speaker 1: a banker, you wanted to go into the aldo business.
Speaker 1: That's where all the kind of same and glory was.
Speaker 1: And so I went back to business school. One of
Speaker 1: my second year of business school, I I got a
Speaker 1: job at one of the LBO firms, a very well
Speaker 1: respected firm in Boston run by guy named Tom Lee.
Speaker 1: And in my so I was kind of in my
Speaker 1: second year of business school and thinking about where I
Speaker 1: was going to go in that industry, and I heard
Speaker 1: about the secretive investment firm bow Post that had been
Speaker 1: started by some Harvard Business School professors and was hiring.
Speaker 1: So I applied. And I don't think I knew what
Speaker 1: a hedge fund was but I really really like it.
Speaker 1: I'd get focusing on these weird niche investment opportunities. So
Speaker 1: instead of going into the LBO business or possibly doing
Speaker 1: a PhD, I became a hedge fun guy. And you know,
Speaker 1: twenty six years later, I'm I'm stuck in that role.
Speaker 1: So let's stay with bout post for a minute. It's
Speaker 1: run by Seth Clarman, a legendary investor. His book Margin
Speaker 1: of Safety was published years ago and then went out
Speaker 1: of print. Copies go for some crazy two thousand dollars
Speaker 1: a copy on Amazon. What was it like working with
Speaker 1: a legend like Seth Clarman? So it was, I mean,
Speaker 1: it says it's extraordinary. I mean he is. He is
Speaker 1: absolutely brilliant. And I think the interesting thing about Seth,
Speaker 1: which is uh, is that Seth was a value investor,
Speaker 1: probably from the day that he was born. It wasn't
Speaker 1: something it wasn't a study that he read about. It
Speaker 1: wasn't an academic paper that that resonated with him. Um.
Speaker 1: He just thought of things in terms of value. Uh.
Speaker 1: And but I think it's it's really important to note
Speaker 1: that this was in the early stages of the industry.
Speaker 1: The hedge fund industry was really a cottage industry back then.
Speaker 1: Just to put it in perspective, bow Post had two
Speaker 1: percent of the assets then that it has today, and
Speaker 1: it was still considered one of the ten largest hedge funds. Um. So,
Speaker 1: so what you can do with six million versus one
Speaker 1: point eight million is very very different. And then you know,
Speaker 1: and then a lot of these markets that people invest
Speaker 1: in today were also in their infancy um so um.
Speaker 1: You know, so he really was. It was an extraordinary
Speaker 1: learning experience, and I think I think there are probably
Speaker 1: three big things that I learned from Seth. And I
Speaker 1: think the first was you should try to get the
Speaker 1: area right um. In other words, it's much better to
Speaker 1: find a dirt cheap area and spend your time then
Speaker 1: then spend your time trying to find the best idea
Speaker 1: in an expensive one. Um. And then I think the
Speaker 1: second is that that things should be cheap for a reason. Uh.
Speaker 1: And there's a certain humility in that. I think Seth
Speaker 1: never thought that he could look at some big, large
Speaker 1: cap stock that everybody else was looking at and think
Speaker 1: he had a meaningful advantage. But if he could see
Speaker 1: banks unloading real estate assets or UM, you know, because
Speaker 1: they had a certain regulatory requirement where they had to
Speaker 1: get rid of them. Well, that gave you a reason
Speaker 1: why something might be selling it a discount. And I
Speaker 1: think the third point is that risk isn't a statistic um.
Speaker 1: That there are a lot of qualitative and other judgments
Speaker 1: that go into thinking about the riskiness of an asset.
Speaker 1: So the whole idea of margin of safety UM is
Speaker 1: really embedded in in this kind of complex, multidimensional thinking.
Speaker 1: And in part it was that UM, I think in
Speaker 1: in more recent years, as I've thought about those years,
Speaker 1: I think it's one of the reasons that concluded that value,
Speaker 1: the value factor per se was really missing something. But
Speaker 1: that's part of a much larger discussion. I think, well,
Speaker 1: we're definitely gonna get to the value factor a little later,
Speaker 1: you know. Your your comment about bow Post having two
Speaker 1: of the assets in the hedge fund space reminds me
Speaker 1: of a comment that Jim Chano's famously made. He said
Speaker 1: thirty years ago when he was launching his funds, Uh,
Speaker 1: there were a hundred hedge funds, they all created Alpha.
Speaker 1: Today there's over ten thousand hedge funds. But it seems
Speaker 1: like it's still those hundred hedge funds that are creating alpha.
Speaker 1: Is that an overstatement or is there some truth to that?
Speaker 1: So I think the hardest thing about hedge funds is
Speaker 1: um is we're always looking at who is doing well today,
Speaker 1: and people have a natural bias to assume that's going
Speaker 1: to continue. UM. And so if you go back in time,
Speaker 1: it's a little bit like the mutual fund industry. I remember,
Speaker 1: back when I was at Bell Post, I was talking
Speaker 1: to Guide Fidelity and he said, you know, we started
Speaker 1: twelve new mutual funds every year, and we killed six
Speaker 1: of them by June, and by the end of the year,
Speaker 1: we've got three great performers. Um. The hedgehoan industry isn't
Speaker 1: quite like that, But when you do look at hedge
Speaker 1: funds today, people tend to focus on those hundreds that
Speaker 1: have done well. What was interesting about was that as
Speaker 1: as much as you repressed about guys, you know, having
Speaker 1: historically good years, there are plenty of guys who had
Speaker 1: middling years and and and you know plenty of guys
Speaker 1: who at awful years and so um. You know. So
Speaker 1: the hedgewood industry as a whole, I think had a
Speaker 1: difficult but not nearly as bad as as it was
Speaker 1: portrayed in the press. So let's talk about that, because
Speaker 1: the reputation, especially since the Great Financial Crisis, was the
Speaker 1: performance has been lacking. That the joke is come for
Speaker 1: the high fee, stay for the under performance. Do you
Speaker 1: think that's too hard or is that there for certainly
Speaker 1: the bottom half of the hedge fund community, if not
Speaker 1: more so. Here's an interesting it's interesting statistic that if
Speaker 1: you could pick the top quartile of hedge funds in advance,
Speaker 1: you'd be up thirty percent a year with no down years.
Speaker 1: No one would care about fees, right, It's it's a
Speaker 1: little bit. It's a little bit like saying, I mean,
Speaker 1: the hedge fund industry is even probably more so than
Speaker 1: the mutual fund industry today, is replete with this idea
Speaker 1: that you know, we're going to find the guy who's
Speaker 1: going to go up. Um. In reality, people found find
Speaker 1: the guy who went up and so, but that issue
Speaker 1: aside um, uh. There. The disappointment about hedge funds in
Speaker 1: the Tents comes from three areas. The first is that
Speaker 1: as that two thousand and eight was quite bad um,
Speaker 1: and it wasn't just that hedge funds went down more
Speaker 1: than expected, but that made off blew up large parts
Speaker 1: of the business, and there was widespread suspension of capital
Speaker 1: for investors who wanted to get out. Uh. So you know,
Speaker 1: this was a It was about as bad as it
Speaker 1: could have been from a pr perspective for hedge funds UM.
Speaker 1: And it was also in in in stark contrast to
Speaker 1: the previous bear market, where hedge funds uh, you know,
Speaker 1: actually made money during the bear market, something quite extraordinary. UM.
Speaker 1: But the second issue in the two thousand tens is
Speaker 1: that easy things did better um in the two thousand tens.
Speaker 1: Sort that in the two thousands we had essentially a
Speaker 1: lost decade for US equities. You know, the SMP was
Speaker 1: down over the decade, NASAC was down something and in
Speaker 1: the two thousand tents, just by owning large cap us
Speaker 1: and tech, I mean that pretty much destroyed everything else. Um.
Speaker 1: And then the last is that is that fees are
Speaker 1: too high. And this is something I've written a lot about,
Speaker 1: but basically, when somebody's earning three or four percent and
Speaker 1: they're taking half of every dollar that they make, um Uh,
Speaker 1: people get more frustrated with that over time. And so
Speaker 1: it's it's sort of it's sort of a combination of factors,
Speaker 1: and they're of psychological reasons. Um why But I think
Speaker 1: actually the most interesting thing is that look a lot better.
Speaker 1: That discussion of fees kind of leads me to a
Speaker 1: different place, which is there have been some fairly innovative
Speaker 1: new concepts in fees, not just the compression, but but
Speaker 1: things like pivot fees where there's a participation to the
Speaker 1: upside only if the fund is beating its benchmark, and
Speaker 1: there's even a giveback if the fund is underperforming it's benchmark.
Speaker 1: What what do you think that looks like in the future?
Speaker 1: Are we going to see some innovation around traditionally higher
Speaker 1: hedge fund fees? So? Um, I think it's going to
Speaker 1: be mixed. I think a lot of the industry. Um.
Speaker 1: You know, one of the one of the reasons there
Speaker 1: there are a couple of reasons that hedge fund fees
Speaker 1: have remained so high. Um. The the stark reality is
Speaker 1: that most people who allocate two hedge funds, it's not
Speaker 1: their money, so they really don't care. At the end
Speaker 1: of the day, you know, they're they're investing in a
Speaker 1: hedge fund because I mean, if you read the Financial Times,
Speaker 1: or um or Bloombergs had some very good articles recently
Speaker 1: on hedge funds that have gone up a hundred percent.
Speaker 1: People will be lining up at the door and completely
Speaker 1: in different defeats because it's much easier for people to say, UM,
Speaker 1: you know, I don't care about fees as long as
Speaker 1: my net returns are high. The problem is is when
Speaker 1: you've got twenty guys and you're paying away six out
Speaker 1: of every ten dollars that they make in fees, and
Speaker 1: you look back over three or five years and um
Speaker 1: uh and hedge funds have the hedge fund managers have
Speaker 1: made billions of dollars and clients really happened. And there
Speaker 1: was one article recently a better firm called Brevan Howard,
Speaker 1: which is by all accounts run by Kindaman Alan Howard,
Speaker 1: who's one of the greats of the hedge fund industry.
Speaker 1: UM and those articles are talking about the fact that
Speaker 1: his funds had historically good year. What they don't mention
Speaker 1: is that when he had thirty billion dollars in assets,
Speaker 1: they went through a five year period of time where
Speaker 1: by my estimate, management made two to three billion dollars
Speaker 1: while clients lost money. UM so, so fees are are
Speaker 1: a real perpetual issue in terms of fulcrum fees and
Speaker 1: things like that. I doubt most hetch ones will do it.
Speaker 1: I think you'll have a bifurcation of products where some
Speaker 1: will be expensive, um, some will be worth it, a
Speaker 1: lot won't be worth it, and then you'll have a
Speaker 1: suite of lower cost options for allocators to pick from.
Speaker 1: Quite quite fascinating, So let's talk about this area. It's
Speaker 1: quite fascinating. When did liquid alternatives begin to take off?
Speaker 1: What does the space look like today? So it's a
Speaker 1: it's a great question, and I think I think the
Speaker 1: backdrop of liquid alts, You know, why do people care
Speaker 1: about liquid als in the first place, basically comes down
Speaker 1: to two things. The first is that the whole wealth
Speaker 1: management industry has evolved tour trying to push clients into
Speaker 1: model portfolios, and model portfolios by by definition, have diversification
Speaker 1: between stocks, bonds, and hopefully other things. And so you know,
Speaker 1: when you're building a model portfolio and you can include
Speaker 1: a lot of different asset classes um in general, your
Speaker 1: risk goes down and you get a smoother return profile
Speaker 1: if you add in things that have diversification benefits. And
Speaker 1: you know, the analog for this, or the precedent for
Speaker 1: this is in the institutional space, where a corporate pension
Speaker 1: plan forty years ago may have had one or two
Speaker 1: asset classes in it, and today it might have thirty
Speaker 1: or forty. So you know what liquid also are really
Speaker 1: designed to do, or to bring hedge fund like strategies
Speaker 1: that have proven diversification benefits, but make them available to
Speaker 1: investors who can't meet the high minimums, don't have the
Speaker 1: ability to, aren't a credited investors, um uh, can't bear
Speaker 1: the i liquidity of investing in these products. Um. The
Speaker 1: real liquid al market really took off in my mind
Speaker 1: around two thousan and twelve, and that was when Fidelity
Speaker 1: gave money to a hedge fund firm called Harden to
Speaker 1: create a multi manager mutual fund and a lot of
Speaker 1: people thought this was going to be the resurgence of
Speaker 1: the fund of hedge fund industry, which had gotten battered
Speaker 1: during the Great Financial Crisis, and um and it launched
Speaker 1: this whole wave of alternative multi manager funds that were
Speaker 1: designed to give you index plus like exposure to the
Speaker 1: hedge fund space. So they have you know, a couple
Speaker 1: of equity long short guys, a couple of credit guys,
Speaker 1: a couple of macro guys, etcetera. And and what it
Speaker 1: really did is it turned the attention of asset managers
Speaker 1: to this area when they looked across the world and
Speaker 1: they said, look at all these target date funds out there,
Speaker 1: you know, look at all these e t F based
Speaker 1: model portfolios. These things are are are in our minds,
Speaker 1: under diversified because they don't have exposure to the same
Speaker 1: kinds of strategies that a big pension plan might have.
Speaker 1: And so it really kicked off this arms race among
Speaker 1: fund nigment companies. And there were forty or fifty of
Speaker 1: these funds that were launched within the next couple of
Speaker 1: years and they were um and then and then since then,
Speaker 1: there's really been this wave of wave after wave of
Speaker 1: new products that have been launched. And so now there
Speaker 1: are hundreds of products out there, but um, you know.
Speaker 1: But it's one of the things we've written about is
Speaker 1: is that we think actually the products are are uh,
Speaker 1: shouldn't be shouldn't have investors, product should be shut down
Speaker 1: because they don't do what they were originally designed to do.
Speaker 1: So let's talk a little bit about both of those things.
Speaker 1: What are these products designed to do. Is it simply
Speaker 1: we're going to capture a premium that your stocks and
Speaker 1: bonds aren't and give you daily liquidly. Is that the
Speaker 1: concept behind hedge fund replication et s, so hedge fund replications.
Speaker 1: So I think one change is that people generally don't
Speaker 1: think of hedge funds as a single massive strategy um
Speaker 1: and just to go back to the definition of hedge funds,
Speaker 1: I mean hedge funds, there are dozens and dozens of
Speaker 1: different kinds of substrategies of hedge funds um. The the
Speaker 1: the common theme in hedge funds, which which I think
Speaker 1: is very important but but can be lost in some
Speaker 1: of this, is that in general hedge funds are a
Speaker 1: lot more flexible than mutual funds or et f so
Speaker 1: they're equivalent. So a guy who was a you know,
Speaker 1: invested primarily in tech stocks at the end of two
Speaker 1: thousand nineteen might be heavily invested in emerging market stocks
Speaker 1: today and he doesn't have allocators, you know, wondering why
Speaker 1: he burst out of his his strategy bucket. And the
Speaker 1: other thing of the hedge funds no style boxes. I mean,
Speaker 1: the institutions have tried to put style boxes on it,
Speaker 1: but which has actually been negative for the industry. But
Speaker 1: but it's nothing like what you see in the mutual
Speaker 1: fund space. And the other is that these guys generally
Speaker 1: have their own money on the line. So I don't
Speaker 1: know many mutual funds where you've got the mutual fund
Speaker 1: manager as a billion dollars his own capital sitting alongside you.
Speaker 1: And that enforces a particular intellectual honesty in it that
Speaker 1: if they think, uh, if they've just made a killing
Speaker 1: on you know, having owned Apple and Amazon over the
Speaker 1: past five years and they're taking profits, it doesn't mean
Speaker 1: that they have to turn around and go into Maderna
Speaker 1: or Teslas they think those stocks are overpriced, Um, they can.
Speaker 1: They can go to different areas and find cheaper opportunities
Speaker 1: and so um. So you know, I think when people
Speaker 1: are looking at these strategies and thinking about as a
Speaker 1: portfolio perspective in the wealth management space, you start with
Speaker 1: the idea that there are specific strategies equity long short,
Speaker 1: you know, managed futures, um, uh, certain other strategies that
Speaker 1: can be building blocks into portfolio, and you can look
Speaker 1: at the very very long term returns of these strategies
Speaker 1: put them into your asset allocation model and make a
Speaker 1: determination as to how much diversification benefit they provide and
Speaker 1: whether they should be in your portfolios. And so I
Speaker 1: think I think when the liquid alternative space, their move
Speaker 1: being away from some of these broad strategies that that
Speaker 1: that cover the whole universe to strategy specific building blocks,
Speaker 1: and that's what we really focused our time. So who
Speaker 1: are the owners of these liquid alls? Who are the allocators?
Speaker 1: Is it foundations? Institutional investors are a s. Who are
Speaker 1: the buyers of these It's a good question. I have
Speaker 1: to say, I don't know the granular data. I suspect
Speaker 1: most of it is is ori as and wealth management
Speaker 1: firms that institutions who particularly those who don't have liquidity constraints,
Speaker 1: tend to like hedge actual hedge funds more than they
Speaker 1: like liquid alternatives. I would say five years ago I
Speaker 1: saw some consulting firms building liquid alts efforts, and that
Speaker 1: seems to have somewhat died out. I guess there are
Speaker 1: there are two big problems with liquid aults. The first
Speaker 1: is that a lot of hedge fund strategies. When you
Speaker 1: take a guy who's been earning eight percent per annum
Speaker 1: in his hedge fund and you ask him to do
Speaker 1: the same thing in a mutual and uh, you often
Speaker 1: end up with three, four or five. So so you
Speaker 1: lose a lot of performance on the top just based
Speaker 1: on on the constraints. And that was the problem with
Speaker 1: Fidelity its original investments is and this is something I
Speaker 1: think we were one of the few people who realized
Speaker 1: it pretty early on, is that they were losing four
Speaker 1: to five basis points of pre few returns just by
Speaker 1: asking these guys to do what they were doing within
Speaker 1: a mutual fund constraint UM. So broadly across the industry,
Speaker 1: Liquid Alts and willsher has good data on this, but
Speaker 1: broadly across the industry, will Liquid also under performed by
Speaker 1: twohundred basis points. And that doesn't mean hedge funds were
Speaker 1: doing ten and these guys were doing eight. It means
Speaker 1: hedge ones were doing five and these guys were doing three. UM.
Speaker 1: And the other issue with single manager risk and you know,
Speaker 1: the of the products are simply single manager funds that
Speaker 1: have been poorted into into a mutual fund. And the
Speaker 1: problem with that from a diversification perspective is that hedge
Speaker 1: funds strategies like equity long short as a strategy can
Speaker 1: provide or miniatutures as a strategy can provide valuable diversication benefits,
Speaker 1: but x y Z manager within that space generally does not.
Speaker 1: And and the analog that we use is that if
Speaker 1: you know, if you like, many people today are saying
Speaker 1: US markets has gotten very expensive relative to say, emerging markets,
Speaker 1: and we want to move to emerging We want to
Speaker 1: add exposure to emerging markets. You don't pick a stock
Speaker 1: in emerging markets and call it a day. But that
Speaker 1: whole idea of saying we like equity long short and
Speaker 1: we're going to give it to Bob is a terrible,
Speaker 1: terrible idea because Bob, like every other guy in the space,
Speaker 1: no matter what kind of a terror he's been on,
Speaker 1: he is going to blow up on you in the
Speaker 1: next couple of years. Mean reversion is a cruel mistress
Speaker 1: to say the least you mention managed futures as a
Speaker 1: form of liquid alts. I have to confess I have
Speaker 1: never seen the attraction to this. It feels like the
Speaker 1: and I tend to think of this as the commodity traders,
Speaker 1: even though that's not fair. The rock star commodity traders
Speaker 1: tend to trade their own portfolios and everybody else tries
Speaker 1: to raise outside capital. Convince me I'm completely wrong about that. Sure,
Speaker 1: so you're not, I would say, Um, you're not at
Speaker 1: all completely wrong. The there are two great benefits of
Speaker 1: managed tutures in the context of a larger portfolio. And
Speaker 1: let's take a step back and talk about what manner
Speaker 1: tutures is, right, So manor tutres, it's called futures because
Speaker 1: these guys go along and short futures contracts, and it's
Speaker 1: managed because they're not doing it in a passive way. Um. So, really,
Speaker 1: what it means if you walk onto uh, you know,
Speaker 1: walk into the office of a man of tutres hedge fund,
Speaker 1: You've got a bunch of guys with computers who are
Speaker 1: trying to identify in general, trying to identify trends and
Speaker 1: momentum among different markets. So if gold has been going up,
Speaker 1: is it is it likely to continue going up? If
Speaker 1: ten your treasury yields have been rising, should they be
Speaker 1: shorting um the ten year treasury um? And then you know,
Speaker 1: and then and then the art and the science of
Speaker 1: it is figuring out which markets do you want to
Speaker 1: be long and short? When do you rebalance, etcetera. So
Speaker 1: that's where you get into the whole managed side of it. UM. Historically,
Speaker 1: manitutors have had two very very powerful benefits relative to
Speaker 1: UH for for a diverse fied portfolio, particularly of stocks
Speaker 1: and bonds. The first is they tend to have zero
Speaker 1: correlation to both over time UM and although I will
Speaker 1: tell you that because they are long and short different
Speaker 1: things at different times, the correlations will go up and
Speaker 1: down over time. So it's not something like you're buying
Speaker 1: I don't know, like a private debt instrument that you
Speaker 1: don't mark to market. It does go up and down.
Speaker 1: And the second is that they've tended to do very
Speaker 1: well in the worst equity markets. So they were up
Speaker 1: fifteen in two thousand and then continue to to do
Speaker 1: well in in um UH during that bear market, and
Speaker 1: then they were up in two thousand eight and then
Speaker 1: did well in two thousand fourteen UM. So the and
Speaker 1: that's great, right because you know, even if you have
Speaker 1: a small FEP of two percent allocation to manage futures
Speaker 1: in in your standing with a client in the beginning
Speaker 1: of two thousand nine, and you have this you know,
Speaker 1: small beacon of green in the sea of red, you
Speaker 1: look like a hero. UM. The two issues with mannered futures,
Speaker 1: which are very very real, is that first, managed tuture's
Speaker 1: fees and expenses are still ridiculously high, and by that
Speaker 1: I mean even in a big hitch fund product. But
Speaker 1: at time eight dollar gets back to clients, it's been
Speaker 1: after something like five basis points in fees and expenses.
Speaker 1: And in the nineteen eighties and the early nineteen nineties,
Speaker 1: when you know, these strategies were completely esoteric and nobody
Speaker 1: knew how to do these things, this is one of
Speaker 1: the most expensive areas in the in the hedge fund space,
Speaker 1: I mean manager Bloomberg had an article that showed that
Speaker 1: one fund was charging about ten for an um UH
Speaker 1: and so fees have come down a lot, but not
Speaker 1: nearly as much as they should have UM and so
Speaker 1: as returns have come down as markets have become more efficient,
Speaker 1: it means that basically, for the past five years, every
Speaker 1: dollar these guys have made has gone to them and
Speaker 1: their counterparties, not to clients UM. And then the second
Speaker 1: is single manager risk. Right, So now you have an
Speaker 1: area that's attractive but that on average has been earning
Speaker 1: zero and you want to add to its space because
Speaker 1: you believe in the long term diverstication benefits. What do
Speaker 1: you do. You find the one guy who killed it
Speaker 1: over the past two years. Right, And the problem in
Speaker 1: the manage futures is the second problem is what we
Speaker 1: call single manager risk. When a guy outperforms everybody else
Speaker 1: I in our fifteen percent a year for two or
Speaker 1: three years. It's luck, not skills that they happen to
Speaker 1: be overweight treasuries in March, and they happen to be
Speaker 1: long gold at the time the gold took off. And
Speaker 1: so what happens again and again in this space is
Speaker 1: that people say I want managed futures, I give it
Speaker 1: to this guy, and then he blows up on me.
Speaker 1: And you know, the poster child for this is a Qure,
Speaker 1: which did something phenomenally positive for the UH managed futures
Speaker 1: mutual fund space in two thousand ten when they launched
Speaker 1: what was a at that point a remarkably low cost
Speaker 1: product of a hundred and twenty one basis points um.
Speaker 1: But they went through a good period and they became
Speaker 1: the default allocation in everybody's portfolio. So you'd have guys
Speaker 1: who would have a diversified portfolio and then five with
Speaker 1: a q r UM for their managed Future sleeve, and
Speaker 1: that fund went to fourteen and a half billion in assets.
Speaker 1: And then like every managed sutures fund that's been on
Speaker 1: a hot streak, it underperformed by over the next year
Speaker 1: two and now it's lost its assets. So so our
Speaker 1: approach to it was really, we've got to solve If
Speaker 1: we want the two first benefits, you've got to solve
Speaker 1: those two issues. And the best way that we found
Speaker 1: to solve it is you replicate. So you basically imitation
Speaker 1: is the greatest form of flattery. You replicate twenty of
Speaker 1: the largest managators hedge funds, but you replicate what they're
Speaker 1: doing the four fees, so if they're long gold, by
Speaker 1: will go along gold. And but we don't have a
Speaker 1: hundred basis points of treating costs. We don't have three
Speaker 1: basis points and fees. So we get you back to
Speaker 1: what these strategies can do before fees and and and
Speaker 1: pass those diversification benefits back to clients. Last question on
Speaker 1: this space, when you reference these sort of esoteric areas
Speaker 1: the academics would have us eve they're really outperforming. Part
Speaker 1: of it, as you mentioned, was luck. Part of it
Speaker 1: is just inefficiencies in these lesser thinner markets, lesser traded
Speaker 1: thinner markets that when everybody eventually piles into those inefficiencies,
Speaker 1: eventually get arbitraged away. What what are your thoughts on
Speaker 1: on some of the academic criticisms of this. So I
Speaker 1: think there's a huge problem with academic finance in general. Um.
Speaker 1: The first problem is that most academic finance guys are
Speaker 1: also practitioners. So this whole notion that academic finances some
Speaker 1: objective assessment of these markets, um uh is often clouded
Speaker 1: by the fact that you know, these guys have another
Speaker 1: paper where they're trying to sell you something. Um the um.
Speaker 1: But but but this notion that markets get more efficient
Speaker 1: over time is absolutely true. Um. And I think you know,
Speaker 1: my criticism of the value factor is that, you know,
Speaker 1: what Fauma identified in nineteen was that these cheap, beaten
Speaker 1: up stocks, we're cheap and they were built to stay
Speaker 1: that way. I mean, think think about what it was
Speaker 1: like for Warren Buffett in the nineteen sixties to find
Speaker 1: a stock like Berkshire Hathaway. He had to pick up
Speaker 1: the phone, probably a rotary phone at that point, you know,
Speaker 1: call information wherever this company was located, have them mail
Speaker 1: annual reports to him. He gets them two months later,
Speaker 1: he's calculating by hand the market cap. You know, he may.
Speaker 1: I mean, it's just it's just the level of information
Speaker 1: of just trying to get information on these companies was
Speaker 1: was was incredibly difficult, and there was no glory in that.
Speaker 1: You know, this wasn't uh An m and a banker
Speaker 1: being you know, kind of showing up on the cover
Speaker 1: of Forbes. These guys were poiling in basements, in his case,
Speaker 1: in an attic. And so you know, now today you
Speaker 1: can pull up carefully curate, curated financial information on every
Speaker 1: publicly traded stock UM, you can screen them, you can
Speaker 1: run analytics on it. It is the world has changed
Speaker 1: and the world has become more efficient, and there are
Speaker 1: you know, I think one of the things that I've
Speaker 1: been asked to do was write a book on this
Speaker 1: UM and just to use examples of kinds of things
Speaker 1: that people are doing thirty years ago that if you
Speaker 1: could go back thirty years ago, you would say, by everything,
Speaker 1: it's like, forget about whether you're paying eight cents and
Speaker 1: and farallon you know is paying seventy eight and some
Speaker 1: other guy in Soros is, you know, is willing to
Speaker 1: pay a D two just by everything because the world
Speaker 1: has become much more difficult for active managers. Venture capitalist
Speaker 1: Mark Andresen said something very similar. Go back and look
Speaker 1: at at all the original investments they made in these
Speaker 1: pre public companies. Would would it have mattered if they
Speaker 1: paid twice as much for Facebook? Although admittedly there's a
Speaker 1: touch of survivorship bias in that. Let's talk a little
Speaker 1: bit about the approach dynamic beta takes. What is unique
Speaker 1: about it. How do you guys go about replicating all
Speaker 1: of those single manager firms. So what we do a
Speaker 1: thing called hedge fund replications, and replication is a terrible
Speaker 1: term because it's I think a lot of people here
Speaker 1: and they think of mediocrity. But let me frame it
Speaker 1: in a slightly different way. If the only way that
Speaker 1: you today could invest in the five hundred stocks in
Speaker 1: the S and P was by investing with active managers
Speaker 1: who charged three hundred basis points, and someone came along
Speaker 1: and said, we can directly access four to five hundred
Speaker 1: of those stocks and we'll charge you a hundred basis
Speaker 1: points for it, it would be a pretty clear decision
Speaker 1: that the latter is not only likely to give you
Speaker 1: the benefits of investing in the SMP five, but it's
Speaker 1: probably gonna do a lot better than those active managers.
Speaker 1: And so what hedge fund replication basically is is it's
Speaker 1: using models to try to understand how hedge funds are
Speaker 1: position today across equities, rates, currencies, commodities, and then copy
Speaker 1: their asset allocation in a low cost form. And so
Speaker 1: on our side, we really pioneered this idea. And by
Speaker 1: the way that the whole concept of hedge fund replication
Speaker 1: has been around since the mid two thousand's and it's
Speaker 1: really the only area of the liquid old space that
Speaker 1: has worked consistently and reliably. And it's not just us.
Speaker 1: I mean, the way you would analyze this is you
Speaker 1: would you would look at what we've done, but also
Speaker 1: look at at other firms who've been in the space,
Speaker 1: um and um, and it's it's But what sort of
Speaker 1: remarkable about about this whole concept is that you don't
Speaker 1: just do as well as hedge funds. You tend to
Speaker 1: do better. And the reason you do better is entirely
Speaker 1: through cutting out fees. Before the crisis in this space,
Speaker 1: people generally thought if we can create something that does
Speaker 1: just as well as this leading hedge fund index, but
Speaker 1: offers daily liquidity and low fees. We're gonna be heroes, right,
Speaker 1: this is gonna be We're gonna be the John Bogels
Speaker 1: of of the alternative investment industry. And remarkably, they did
Speaker 1: it right, and we did it and so but after
Speaker 1: the crisis, we said, maybe we can even do better,
Speaker 1: because when we're seeing this portfolio of hedge funds delivering
Speaker 1: six percent per anum, maybe they're really doing ten be
Speaker 1: four fees. And if we can replicate eight or nine
Speaker 1: or even ten of the ten and charge less, it
Speaker 1: won't just be like an index product, it will be
Speaker 1: an index plus product and um. And so I think
Speaker 1: I think we're now known as the only firm at
Speaker 1: least that I'm aware of, that has been able to
Speaker 1: consistently outperform portfolios of hedge funds, so similar to what
Speaker 1: you would think of fund of funds would do, but
Speaker 1: with better draw down characteristics, low fees and daily liquidity.
Speaker 1: And so in two thousand eighteen, UM, a fast growing
Speaker 1: French institutional investor called i AM Global Partner was doing
Speaker 1: this multi year analysis of the liquid dolt space and said,
Speaker 1: you know, we think these guys have the best mouse trap,
Speaker 1: but they don't have any products that are available to
Speaker 1: a broader range of investors. And that's when they partnered
Speaker 1: up with us and then launched these two ETFs around
Speaker 1: existing strategies. In two is the plan to eventually become
Speaker 1: the vanguard of the alternative space. Are you guys going
Speaker 1: to roll out more products or are you going to
Speaker 1: stay focused on just a handful of products. We've been very,
Speaker 1: very focused on what we do, and I expect us
Speaker 1: to continue to be narrowly focused. Um, there are only
Speaker 1: certain strategies for which this works incredibly well. In the
Speaker 1: mannered future space. Uh, we've basically found a way to
Speaker 1: outperform la large hedge funds by four basis points brandom
Speaker 1: with less risk. So if you're deciding how do you
Speaker 1: want to get exposure to manage features, this should be
Speaker 1: the obvious choice. We run into all sorts of agency
Speaker 1: and behavioral issues in that you know, for the same
Speaker 1: reason that that that allocators fought paths of investing for years,
Speaker 1: But that's that's changing and we'll we'll continue to change.
Speaker 1: But you know, in our case, I think actually and
Speaker 1: going back to think about seth uh. One of the
Speaker 1: best things you can do and asset management is decide
Speaker 1: what not to do. And so when you ask the
Speaker 1: questions about the history of the liquid all space, every
Speaker 1: time there was a new wave of products, we try
Speaker 1: to look at it with an open mind and say, hey,
Speaker 1: maybe this does something better than what we're doing, Maybe
Speaker 1: we should do this instead. And every time we concluded
Speaker 1: that these were products that we're being you know, that
Speaker 1: look great on paper, that wouldn't work in practice. And
Speaker 1: I think we've been write six out or six times
Speaker 1: on that. So it's possible that we would introduce new products,
Speaker 1: but I don't expect to do it broadly. Our goal
Speaker 1: right now is that for anybody who's managing a diversified
Speaker 1: portfolio who thinks that and we can help to make
Speaker 1: the argument who thinks that hedge fund type strategies and
Speaker 1: then in this mean I mean specifically equity long short
Speaker 1: and managed futures um has a role in their portfolios.
Speaker 1: The argument that we would make is that the way
Speaker 1: that we do it is more predictable, more reliable, has
Speaker 1: tends to outperform over time. And therefore, if you're thinking
Speaker 1: in five or ten year increments in terms of how
Speaker 1: your clients you know, are going to end up viewing
Speaker 1: this portfolio and how you're going to be this portfolio.
Speaker 1: We should become the default allocation. So let's talk about
Speaker 1: one of the e t F in the space that
Speaker 1: you guys manage, the long shorthead strategy to dB H
Speaker 1: had a great year was up. Tell us how that
Speaker 1: sort of e t F is constructed, what goes into
Speaker 1: that and who do you think that's appropriate for. So
Speaker 1: that's a strategy that we It's based on a strategy
Speaker 1: we originally developed in two thousand twelve, which is that
Speaker 1: we we look at forty of the largest equity long
Speaker 1: shortage funds and diversified across a lot of different strategies
Speaker 1: fundamental value, fundamental growth, UM, emerging markets, sector specialists, etcetera.
Speaker 1: And we analyze how those guys have been making money
Speaker 1: the four feets and our goal and what our research
Speaker 1: has basically shown is that UM that the way these
Speaker 1: guys primarily generate alpha over time is by getting is
Speaker 1: through better asset allocation. And and this goes all the
Speaker 1: way back to you know what I mentioned about about
Speaker 1: Seth Klarman and this whole idea of get the area
Speaker 1: right if you look at you know, for instance, over
Speaker 1: the past twenty years in the equity long short space,
Speaker 1: they preserved capital and made money in two thousands through
Speaker 1: two thousand too, not because they picked a particular stock
Speaker 1: and short at a particular stock, but they were very
Speaker 1: long small cap value stocks and very short large cap
Speaker 1: growth stocks at the time the markets fell apart, I mean.
Speaker 1: But then by the mid two thousands they had pivoted
Speaker 1: into emerging markets and they rode the brick wave and
Speaker 1: that was on the long side entirely. And interestingly in
Speaker 1: the two thousand tens, they did get the markets right.
Speaker 1: They were went into US quality stocks in two thousand
Speaker 1: twelve before those stocks took off, and then ultimately embraced
Speaker 1: tech stocks towards the end of the decade. The problem
Speaker 1: with the Ladder two was that they don't have that
Speaker 1: much of an edge in terms of picking which tech
Speaker 1: stock is going to take off. So when you compare
Speaker 1: them to the NASDAC or or or particularly two, or
Speaker 1: to the SMB five fight or, they don't look as good.
Speaker 1: So what we try to do is basically figure out
Speaker 1: you know, if you if you if you could look
Speaker 1: through each of these guys portfolios today and see exactly
Speaker 1: how much they were long and short every single stock.
Speaker 1: How much could we group into the s, how much
Speaker 1: can we group into small cap stocks, mid cap stocks,
Speaker 1: emerging markets, you know, non us developed into those major buckets.
Speaker 1: And if we get that right, then that ends up
Speaker 1: explaining their preview returns. So how do you that information?
Speaker 1: How could you tell what these private and not very
Speaker 1: transparent funds are doing in order to replicate what the
Speaker 1: broad industry is doing. So the way that you can
Speaker 1: do it most reliably is actually by analyzing recent performance.
Speaker 1: So looking at thirteen filings doesn't doesn't give you much
Speaker 1: valuable information, believe it or not. Um Uh, you know,
Speaker 1: even reading prime brokers reports isn't terribly helpful. The way
Speaker 1: to do it most reliably is you simply run a
Speaker 1: what's called the multi factor regression against recent performance. And
Speaker 1: to be very clear, this does not work with a
Speaker 1: particular hedge fund. Doesn't work terribly well with a particular
Speaker 1: hedge fund because they will change what they do faster
Speaker 1: than than than the models can pick up. But in
Speaker 1: the case of a pool of forty of these guys,
Speaker 1: um it's a little bit like do you ever read
Speaker 1: Jim Sirwicki's The Wisdom of Crowds? So it's basically that idea.
Speaker 1: It's that it's that you know, whether one guy is
Speaker 1: long or short, a particular stock or a particular area
Speaker 1: is much less important than than you know than these guys,
Speaker 1: they're they're collective wisdom. You're looking more or less it
Speaker 1: quarterly returns for the group and reverse engineering what they're
Speaker 1: doing based on how broader asset classes are performing. What
Speaker 1: would have gotten them to their quarterly numbers? Is that
Speaker 1: ballpark exactly with the with the with the one correction
Speaker 1: that it's monthly not quarterly. So you look at you
Speaker 1: look at the past fourteen months of data. Is the
Speaker 1: way that we do it. And so so if you
Speaker 1: take a year like last year, um, you know, the
Speaker 1: equity long short space overall was up seventeen and a half,
Speaker 1: let's say, so, really a remarkably good year for hedge
Speaker 1: funds in that equity long short guys were up as
Speaker 1: much as the SMP but with you know a half
Speaker 1: of the risk. But pre see they were up twenty
Speaker 1: three or twenty four. So so our goal is can
Speaker 1: we get all twenty three or twenty four only charge
Speaker 1: basis points in an ETF and get all that x so. So,
Speaker 1: so hedge funds overall maybe did five hundred basis points
Speaker 1: of alpha. We get closer to a thousand. That's quite fascinating.
Speaker 1: You have previously written that we are on the cusp
Speaker 1: of a new golden age for hedge funds. Explain. So
Speaker 1: the first thing that I would say is that is
Speaker 1: that just in terms of my my my credibility in
Speaker 1: terms of writing that article. I've been a very well
Speaker 1: known critic of hedge funds in many circumstances. So this
Speaker 1: is not somebody who is dogmatically pitching a party line. Uh.
Speaker 1: In fact, my friends used to say, if my car
Speaker 1: broke down in GreenEDGE or Mayfair, I should lock the
Speaker 1: doors and call hots to rescue. Um. So the the
Speaker 1: But but we saw something really interesting last year in
Speaker 1: that about mid year in our portfolios we started to
Speaker 1: see what ultimately became the value and E M pivot
Speaker 1: and hedge funds got a lot of things right last year.
Speaker 1: So the first thing they did right, so they and
Speaker 1: by the way to understand positioning, they went in with
Speaker 1: the tech bias um into two thousand twenty. Overall, some
Speaker 1: some firms were you know, we're long airline stocks and
Speaker 1: got run over. But but overall the industry had had
Speaker 1: had somewhat of a tech bias, And it kind of
Speaker 1: blows up the academic notion that hedge funds are always
Speaker 1: long value, because in fact, what we've seen is that
Speaker 1: what hedge funds do as much more dynamic and changes
Speaker 1: over time. But um, but then they didn't. They didn't
Speaker 1: cut risk in the draw down, and as we started
Speaker 1: coming back uh in the second quarter, they bought into
Speaker 1: the recovery. They bought into the availability of the vaccine
Speaker 1: at some point, and and and the depth and of
Speaker 1: the fiscal and monetary stimulus. So they were adding risk
Speaker 1: as the market came back. And then really interestingly, we
Speaker 1: started to see a pivot where tech stocks um. Whereas
Speaker 1: they increased risk, they weren't adding more to tech stocks,
Speaker 1: they were taking it and adding it to emerging markets
Speaker 1: and small cap stocks and non US developed and so
Speaker 1: a lot of quant value investors have been waiting for
Speaker 1: this rotation into value to happen for years and and
Speaker 1: and we think it happens in a slightly different way,
Speaker 1: which is that if you're a hedge fund, you know,
Speaker 1: as I mentioned, that's had a tech stock that's tripled
Speaker 1: over the past three years and has just gone up
Speaker 1: you know in the second quarter. A prudent investor will
Speaker 1: take profits on it, and then where do you put it.
Speaker 1: You don't have to go back into tech stocks. So
Speaker 1: they started to look for cheaper areas. And so because
Speaker 1: of that, I think what you've seen is that hedge
Speaker 1: funds and this whole idea of asset allocation, the opportunity
Speaker 1: set for them in the looks great because back in
Speaker 1: two thousand sixteen or two and seventeen, people were starting
Speaker 1: to say the US looks expensive relative to emerging markets.
Speaker 1: And then the US took off and emerging markets didn't,
Speaker 1: and then it was you know that small cap stocks
Speaker 1: might look cheap, and you know, then you had more
Speaker 1: years of of US large cap dominating. And so you know,
Speaker 1: this this evaluation rubber band has been stretching and stretching,
Speaker 1: and we've seen hedge funds pivoting into it. And so
Speaker 1: when if you're the reason this is really important is
Speaker 1: if you have a portfolio today, like most wealth managment
Speaker 1: portfolio that is heavily biased towards US large cap stocks
Speaker 1: and fixed income instruments, you have a really big problem.
Speaker 1: I mean, US large cap stocks are historically expensive, and
Speaker 1: fixed income instruments the expected returns are close to zero,
Speaker 1: So so you know, how can you add something that
Speaker 1: does better? And I think what we're seeing is the
Speaker 1: opportunity set for hedge funds now because these valuation disparities
Speaker 1: are so wide and they have the flexibility to really
Speaker 1: take advantage of it. They have a clear role in
Speaker 1: investors portfolios over the next ten years. So that's a
Speaker 1: really interesting observation. The US has certainly been much pricier
Speaker 1: than overseas and emerging markets for way over a decade,
Speaker 1: and you could say the same is truth for growth
Speaker 1: over value in large cap over small cap. What sort
Speaker 1: of persistency might hedge funds have in these spaces. Do
Speaker 1: you find generally they're willing to ride out that rotation
Speaker 1: for a long period of time or or does it
Speaker 1: you mentioned a decade? The reputation is a little bit
Speaker 1: of the flavor of the month sort of thing, and
Speaker 1: whatever next shiny object comes along is going to draw
Speaker 1: their attention again. I I always have to say, is
Speaker 1: that an exaggeration or does it not apply to everybody.
Speaker 1: Is in an overstatement or is there some truth to that?
Speaker 1: So the core of what hedge funds do is to
Speaker 1: get these multi year trends right. The attention often is
Speaker 1: two short term shifts. So, for instance, hedge funds are
Speaker 1: have been short the US dollar. You know, the general
Speaker 1: view among hedge funds is that um, other parts of
Speaker 1: the world are recovering faster than the US. The FED
Speaker 1: is likely to let the economy run on hot, which
Speaker 1: could be more inflationary for the U S and other
Speaker 1: parts of the world. But you know, what we've seen
Speaker 1: over the past five years is is that that you know,
Speaker 1: and that view leads them to want to own more
Speaker 1: emerging markets over time. If something materially broke down that view, UM,
Speaker 1: if the FED announced tomorrow that they were going to
Speaker 1: hike rates, then you would then you would see a
Speaker 1: shift and a change, and that's what you want hedge
Speaker 1: funds to do. But you know, again, I think that
Speaker 1: always the the the issue with looking at hedge funds
Speaker 1: is is it's the difference between you know, the individual
Speaker 1: data point, the anecdote that's being circulated versus what's happening
Speaker 1: more broadly in the industry, and so I wouldn't expect
Speaker 1: if hedge funds are long emerging mar because they're buying
Speaker 1: emerging markets today. I wouldn't guarantee you that they would
Speaker 1: be long in five years, but these tend to be
Speaker 1: pretty stable and persistent. Um. But I think the other
Speaker 1: thing that's that's you know, so when you think about that,
Speaker 1: that grates with how a lot of people think about
Speaker 1: hedge funds and that they want to hear something special
Speaker 1: about this stock or that stock, or some particular trade
Speaker 1: that nobody's thought about. But the competitive advantage of hedge
Speaker 1: funds is that when they like a market and they
Speaker 1: see an opportunity, they can go big. And so back
Speaker 1: to that example that I used in the mid two
Speaker 1: thousand's when I first started looking at this space and
Speaker 1: whether this idea would work, it showed that hedge funds
Speaker 1: on average had about a thirty five percent long position
Speaker 1: and emerging markets. But you would never see you would
Speaker 1: never walk into a wealth manager in the US who
Speaker 1: likes or even a pension fund who is very optimistic
Speaker 1: about emerging markets and see a thirty five percent emerging
Speaker 1: markets position. You might see they if they love it,
Speaker 1: they go from four to six. And so that flexibility
Speaker 1: is very, very powerful over time, because you know, over
Speaker 1: the period that I've described in the mid two thousand's,
Speaker 1: emerging markets outperformed the SMP by thirty pc a year.
Speaker 1: So acid allocation was giving hedge funds a thousand basis
Speaker 1: points of alpha year. It didn't matter what you owned
Speaker 1: an emerging markets, it's that you you picked the right area.
Speaker 1: And so I think what we have over the next
Speaker 1: decade again is, you know, is the easy money in
Speaker 1: the SMP has been made. The easy money in the
Speaker 1: nattack has been made and couldn't go on for two years.
Speaker 1: Of course it could, but looking back ten years from now,
Speaker 1: it is hard to see. I think it's statistically impossible
Speaker 1: to see the SMP putting up another decade with annual returns.
Speaker 1: It makes a lot of sense historically you should start
Speaker 1: to see some mean reversion. You have referenced the second
Speaker 1: holy grail of hedge funds. I always think of the
Speaker 1: first holy grail as alpha. What's the second holy grail?
Speaker 1: So let me let me first start with it with
Speaker 1: the term alpha. So pete to use alpha in a
Speaker 1: lot of different ways. Um, The interesting thing about going
Speaker 1: back to the nines. Nobody talked in terms of alpha.
Speaker 1: I mean alpha was a concept that was applied to
Speaker 1: hedge funds by institutional allocators who are trying to justify
Speaker 1: an allocation UM. And it is statistically problematic um because
Speaker 1: it all depends on what you're comparing one return stream
Speaker 1: to another UM. But but the basic idea of the
Speaker 1: first holy grail of hedge funds back in the mid
Speaker 1: two thousand's was what I described. Can you find Seth
Speaker 1: Carman in two when he's just hired to build and
Speaker 1: run Bell Post, you know, can you find George Soros
Speaker 1: and Julian robertson the nineteen seventies, Can you find I
Speaker 1: don't know, you know, even today Christiam Way when when
Speaker 1: he launched Higher Global um but um but and and
Speaker 1: that's what the business lives in breathes on that that
Speaker 1: you know that if you if you try to identify
Speaker 1: a guy today, he's going to continue to put up
Speaker 1: or he's not going to continue to put up spectacular numbers,
Speaker 1: or or he is, you know, so smart and so
Speaker 1: capable that that's exactly what he's going to do over
Speaker 1: the next ten years. The reality is that's nearly impossible. UM.
Speaker 1: And if you could do it, you know, you should
Speaker 1: give all your money to three guys, go home and
Speaker 1: come back in ten years. UM. So the second only
Speaker 1: grail was was we like the divers ocation benefits of
Speaker 1: the broad of the industry broadly, but god, it's frustrating
Speaker 1: to pay these high fees. You know. It's it's difficult
Speaker 1: to invest in something that's a liquid where sometimes we
Speaker 1: don't get our money back at exactly the wrong time. UM.
Speaker 1: You know, these things blow up with frustrating frequency. So
Speaker 1: if you could deliver the performance of hedge funds broadly
Speaker 1: but with low fee's, daily liquidity, better downside characteristics, transparency,
Speaker 1: that this should have a role in every single hedge
Speaker 1: fund portfolio that you don't then necessarily have to just
Speaker 1: pick ten or fifteen different liquid hedge funds. You could
Speaker 1: have of your assets in this liquid, low cost vehicle
Speaker 1: and and then pick and shoots how you how you
Speaker 1: invest UM. So it makes it makes all of hedge
Speaker 1: fund investing UM not just more efficient, but also it
Speaker 1: tends to um. It actually tends to improve returns and
Speaker 1: improve performance over time. And so you know, if this
Speaker 1: had been embraced by institutional investors back in in in
Speaker 1: two thousand's uh, in the sorry or in the two
Speaker 1: thousand ten you know, they would have saved hundreds of
Speaker 1: billions of dollars in fees over the next decade. Um.
Speaker 1: But but the whole concept of it runs into the
Speaker 1: same issues that the active versus passive debate has has
Speaker 1: been dealing with in in you know, the rest of
Speaker 1: the asset managed industry for thirty years. So you touch
Speaker 1: upon two things that I have to ask before we
Speaker 1: get to my favorite questions. One is that active passive debate. Again,
Speaker 1: going back to the academics, you would think that as
Speaker 1: more people become passive, that should create inefficiencies that make
Speaker 1: it easier for the stock pickers to make it easier
Speaker 1: for the active players. Do you think that is accurate?
Speaker 1: And why have we seen so many active managers fail
Speaker 1: to adjust to the money flows into passive. It's a
Speaker 1: great question, right, does does passive make active more difficult? Um?
Speaker 1: And I will tell you that I honestly do not
Speaker 1: do not know the answer to it. In theory, you
Speaker 1: are correct, right, I mean hedge funds should be out
Speaker 1: there saying here's this stock, it's undervalued because it's not
Speaker 1: included in this index, um, And all we have to
Speaker 1: do is by it is by it today and wait,
Speaker 1: and you know this big dumb elephant of an investor
Speaker 1: is going to come up and buy of the assets
Speaker 1: in one day of the float in one day. UM.
Speaker 1: I think that you know, there are a lot of
Speaker 1: um uh, there are a lot of myths about hedge
Speaker 1: fund um that that have been perpetuated for a long
Speaker 1: time because there I would say they're convenient myths. UM.
Speaker 1: One that I've heard repeatedly that I've been asked about
Speaker 1: is is, oh, hedge funds aren't making money today because
Speaker 1: because the markets aren't volatile enough. Um. That I haven't
Speaker 1: seen any good data that actually supports the contention that
Speaker 1: a normally more volatile market is necessarily good for hedge funds. UM.
Speaker 1: What I do think, though, you can say is that
Speaker 1: when when markets trend aggressively over some period of time,
Speaker 1: that hedge funds can be very good on at at
Speaker 1: at jumping in and capitalizing on those trends, whether it's
Speaker 1: managed futures or other areas. Um. So um you know. So,
Speaker 1: I think I think passive is has has been a
Speaker 1: little bit of a buggy man that people have put
Speaker 1: up there. UM. But again, I, you know, I will
Speaker 1: admit that I don't have a strong conclusion on this,
Speaker 1: and maybe tomorrow somebody will show me something that that
Speaker 1: is dispositive, but I haven't seen it. And early in
Speaker 1: your career you were pretty heavily involved in the Comaliti
Speaker 1: space and the Greater China region. Do you still track
Speaker 1: China closely and do you have anything particular to say
Speaker 1: about what's been going on over there lately? I don't, UM,
Speaker 1: I would say, my so, my experience with China was
Speaker 1: that around two thousand UM I had these these came
Speaker 1: up with these two macro themes. One was that commodities
Speaker 1: would become much more important than they had been in years,
Speaker 1: and the other was that the Greater China region really
Speaker 1: specifically China was going to become an important areavaset management
Speaker 1: and so I you know, within a couple of years,
Speaker 1: I'd started to hedge funds in completely different businesses UM
Speaker 1: with guys to to to capitalize on both of those. Um.
Speaker 1: I would say, the experience that we that that we
Speaker 1: had with China was that, uh, capitalism in China is done,
Speaker 1: or at least back then was done. With a different
Speaker 1: set of rules um. And that that you know, the
Speaker 1: idea of sporting UM, standards of of of conduct as
Speaker 1: it relates to two Chinese business activities often meant that
Speaker 1: the guy who had those standards was somehow the guy
Speaker 1: who walked out of the room with no money. Um.
Speaker 1: And and clearly there's a lot more government intervention in
Speaker 1: the economy. I remember a guy at one of the
Speaker 1: private equity firms who had investments in China basically saying
Speaker 1: that you know, he was talking about how the government
Speaker 1: would let them have two out of one out of
Speaker 1: three or two out of three investments would make money,
Speaker 1: and if the third one is making money, then have
Speaker 1: to somehow give it back. Um. So um. I've spoken
Speaker 1: to some people recently about China who have continued to
Speaker 1: do business there and and those those concerns, concerns are
Speaker 1: still out there, but at a granular level, I'm not
Speaker 1: I'm not close to it today. Quite interesting. I know
Speaker 1: I only have you for a limited amount of time,
Speaker 1: so so let's jump to our favorite questions that we
Speaker 1: ask all of our guests. Tell us what you're streaming
Speaker 1: these days, what's keeping you entertained during a Lockdown either Netflix,
Speaker 1: Amazon Prime podcast. What what are you keeping busy with?
Speaker 1: So this is going to be the most depressingly boring
Speaker 1: answer for you, I'm sure everyone, but um My dad
Speaker 1: is eighty six years old and he's a lifelong opera fan,
Speaker 1: and he lives in New York and last year, at
Speaker 1: this time, he was going to the opera three times
Speaker 1: a week and I was trying to join him there.
Speaker 1: He obviously can't go to the opera this year. UM,
Speaker 1: So I've been streaming operas on Amazon Prime to either
Speaker 1: watch with him or or talk to him about. Um
Speaker 1: I do get another things as well, but it's not
Speaker 1: it hasn't been a priority for me. That's not boring.
Speaker 1: Opera is kind of interesting. Even if you're not an
Speaker 1: opera buff. It's still, you know, not running the television.
Speaker 1: The poor guy used to take me when I was
Speaker 1: young and and I would fall asleep. I'd have, you know,
Speaker 1: a big lunch and then fall asleep every time. So
Speaker 1: I think in my in my fifties, i'm I'm, I've
Speaker 1: had sort of a renewed interest in it, and it's
Speaker 1: it's wonderful to be able to share it with him.
Speaker 1: Tell us about your early mentors who helped to shape
Speaker 1: your career. So I think the earliest one is uh
Speaker 1: is my late uncle Amo hotn Um. It's h o
Speaker 1: u g h t o n um he Uh. He
Speaker 1: was this really extraordinary guy who unfortunately passed away earlier
Speaker 1: this year at age three. But he had run a
Speaker 1: company called Corning Glass, which was a business that his
Speaker 1: slash my family started back in the eighteen fifties. But
Speaker 1: then he went to Washington and my first job was
Speaker 1: working for him as he was a young congressman. And
Speaker 1: you know, I hope people listening to this will go
Speaker 1: read his obituary because if there was ever an example
Speaker 1: of somebody that we need in Washington today, it's him. Uh.
Speaker 1: He went to Washington, he served as a congressman, He
Speaker 1: tried to be bi partisan, he was friends with people
Speaker 1: across the aisle. Um. He really I think set the
Speaker 1: standard um and and he I think just taught me
Speaker 1: ultimately just a level of decency in business. Um Uh.
Speaker 1: You know, ultimately you are responsible for for for conduct
Speaker 1: and it's not always about just making money. Um. And
Speaker 1: I think you know, I think another guy is is
Speaker 1: Jim Wolfinson, who was when I was gave me my
Speaker 1: first job as an m and a investment banker, and
Speaker 1: then he later went on to run the World Bank.
Speaker 1: But he was just he was just an extraordinary guy.
Speaker 1: And in his you know, when I knew him back then,
Speaker 1: he just had this um, this energy in terms of
Speaker 1: wanting to learn. He picked up the cello when he
Speaker 1: was forty or something and was performing with Yo Yo
Speaker 1: ma um within within ten years. Just just just extraordinary,
Speaker 1: And I think there was something about he had. He
Speaker 1: had almost a Warren Buffett like um enthusiasm for things. UM.
Speaker 1: I had the pleasure of actually visiting with Buffett in
Speaker 1: two thousand sixteen on on election day, believe it or not.
Speaker 1: We were talking about value investing and seth and and
Speaker 1: and all these things, and you know, and the guy,
Speaker 1: at whatever age he was, was just still bouncing off
Speaker 1: his share with enthusiasm of talking about things. And I
Speaker 1: think there's something really inspiring about that. UM. And then
Speaker 1: I think, you know, I think the one who's who's
Speaker 1: not an early mentor, but I think one of the
Speaker 1: people I do admire at most in the industry today
Speaker 1: or you know, over the past couple of decades is
Speaker 1: John Bogel, because he was right. You know, he was right,
Speaker 1: and he stuck to his guns in the face of
Speaker 1: withering criticism and gale force hat wins and um, you know,
Speaker 1: I think I was as I was thinking about this,
Speaker 1: I wanted to see if I could there are there
Speaker 1: are two quotes that I thought, I is it okay
Speaker 1: with you if I if I share two quotes, but
Speaker 1: I think are just sort of fascinating, really active in passivate.
Speaker 1: So if you so. John Bogel, part of what he
Speaker 1: was influenced by was was Nobel lawyer at Paul Samuelson's
Speaker 1: whole idea of index funds and investing in the market.
Speaker 1: And what Paul Samuelson said about John Bogel in the
Speaker 1: first index fund was quote this Vogel invention along with
Speaker 1: the invention of the wheel, the alphabet Gudenberg printing right,
Speaker 1: And so it was basically, look how extraordinary this index
Speaker 1: fund is. And I remember in the I think because
Speaker 1: the late nine nineties early two thousand's, one of the
Speaker 1: luminaries of the LBO industry was had this great quote
Speaker 1: which said, after the wheel, God's greatest invention was to
Speaker 1: carry and that to me, those two quotes summarized to
Speaker 1: be the whole active and passive debate. Is the role
Speaker 1: of asset managers to put their clients first and try
Speaker 1: to get as much money as they can reasonably get
Speaker 1: back to their investors, or is it to maximize the
Speaker 1: profits of an asset management industry? And uh uh, you
Speaker 1: know I've gost fourty years, I've cast my lot with
Speaker 1: with Bogel. That's funny. You know you referenced the Financial
Speaker 1: Times earlier. They were the first ones who had the
Speaker 1: quote out that a hedge funds is a system by
Speaker 1: which a savvy manager transfers wealth from naive investors to himself.
Speaker 1: And I certainly think Bogel understood that, as did the
Speaker 1: person who was talking about the carry. Let's go to
Speaker 1: everybody's favorite question. Tell us about what you're reading these days?
Speaker 1: Are what are some of your favorite books? So? Um? So,
Speaker 1: my my favorite books keep changing. UM. I go through
Speaker 1: phases where I got kind of obsessed with a particular
Speaker 1: topic and then kind of move on. UM. The one
Speaker 1: one book that I keep going back to um and
Speaker 1: it has a lot to do with the hedge fund industry,
Speaker 1: although it has nothing to do with the hedge fund industry,
Speaker 1: which is a book that believe it or not was
Speaker 1: written in nineteen sixty two by again, I'm Thomas Kotten,
Speaker 1: and it's called the Structure of Scientific Revolutions. And what
Speaker 1: he basically identified was that, um, that you know that
Speaker 1: that that progress, in his case, scientific progress doesn't just
Speaker 1: happen in the sort of gradual way that most people
Speaker 1: who have been you have an existing paradigm, and most
Speaker 1: people who have been been been brought up in that paradigm,
Speaker 1: They've been trained in it. They want to believe in
Speaker 1: the paradigm. The self selected into the paradigm, and they
Speaker 1: will not abandon the paradigm until there was something new
Speaker 1: that has established that they can safely hop over to,
Speaker 1: and that's where they had fund industry is today. So
Speaker 1: I go back and I keep reading this because because
Speaker 1: every year that you know, I still face these these
Speaker 1: headwinds in the industry. Um uh. But but we see
Speaker 1: them abating and we see more and more people buying
Speaker 1: into it. But I keep going back and reading it
Speaker 1: because I want to make sure that I'm not, you know,
Speaker 1: completely insane. Um. And then the other thing I did also,
Speaker 1: and I would encourage people to go back and read
Speaker 1: books they read twenty years ago, particularly about business, because
Speaker 1: you see what a different world it was. And I
Speaker 1: recently reread so I do have a copy of Staff's
Speaker 1: Margin of Safety that he gave me when I joined UM.
Speaker 1: And and you know, when you hear what he was
Speaker 1: writing about UM and the kinds of things, the kind
Speaker 1: of opportunities that he uses examples, it is so clear
Speaker 1: that no hedge fund with any meaningful assets could do
Speaker 1: any of those things today. And if an opportunity like
Speaker 1: that came about, you know, it would be seventy sophisticated
Speaker 1: hedge funds competing for for for each trade opportunity, each
Speaker 1: investment opportunity. UM. So I do think that that. You know,
Speaker 1: there's another quote that I love. Um My, my great
Speaker 1: grandfather was very good friends with this guy named George
Speaker 1: Santayana who famously said those who forget history are doomed
Speaker 1: to repeat it. And and you know, I think, in
Speaker 1: the case of people who are in the asset management industry,
Speaker 1: five years ago is not history. Three years ago is
Speaker 1: not history. If you want to understand why quant based
Speaker 1: investment strategies are disappointing you today, you've got to go
Speaker 1: back and look at the nine nineties. You know and
Speaker 1: even better. Yet look at what they were saying in
Speaker 1: the nineties about the nineteen of these and um, and
Speaker 1: there's not enough of that the industry. Yeah, Ray Dalio
Speaker 1: has been a big His new book is all about that.
Speaker 1: Unprecedented doesn't mean it's never occurred. It's just never occurred
Speaker 1: in your lifetime. And if you go back through history,
Speaker 1: most of the things that seem to surprise us have
Speaker 1: happened time and time again after everybody forgets about the
Speaker 1: previous time. Absolutely, I mean, you know, because Mark Twain
Speaker 1: said history doesn't repeat itself. It at rhymes. Um. I
Speaker 1: think you can often find examples and sometimes and sometimes
Speaker 1: they're alarming examples. And if you look at the political
Speaker 1: situation today, you can point to very alarming, deserving examples
Speaker 1: where you had, you not established democracies, but democracies that
Speaker 1: were under threat in some way. And you can see
Speaker 1: the same kinds of you know, politicized debate around it.
Speaker 1: And um uh you know, I think it would do
Speaker 1: us a lot of good too, uh, focus on on
Speaker 1: on historical precedents and think about what they mean to do.
Speaker 1: Let's talk about the sort of advice you might give
Speaker 1: to a recent college grad who was interested in either
Speaker 1: hedge funds or liquid alts. What what sort of career
Speaker 1: advice would you give them? So I think the the
Speaker 1: I guess I would start with, um uh, the statement
Speaker 1: that you want to find an area of broadly that's
Speaker 1: likely to grow over the next twenty years. UM. And
Speaker 1: that probably has something to do with technology. UM. So.
Speaker 1: I mean, you know, one of the things I think
Speaker 1: is so incredibly sad about the coronavirus crisis is that
Speaker 1: you've had people whose lives were built around retail businesses
Speaker 1: that were built around um, movie theater chains that were
Speaker 1: built around things that are probably never coming back in
Speaker 1: the same way that they were twenty or thirty years
Speaker 1: ago when they made that decision. So maybe this is
Speaker 1: kind of a shadow of you know, Seth's original thing
Speaker 1: that find the right area. So if you're going to
Speaker 1: the active management this street, have conversations with people about
Speaker 1: what do they expect to be big and new, and
Speaker 1: maybe that's crypto. You know, I don't I'm not a
Speaker 1: I don't know an awful lot about crypto, but but
Speaker 1: I think you can point to it and say, crypto
Speaker 1: in twenty years or ten years is going to be
Speaker 1: bigger in some way, shape or form. Interestingly, the and
Speaker 1: I said, the only way you're gonna be able to
Speaker 1: figure that out is by doing a day to day
Speaker 1: One of the most interesting pieces of business advice I
Speaker 1: got was was ironically from from Mark Cuban in twenty
Speaker 1: two thousand one or two thousand two, UM, when I
Speaker 1: met with him and we're talking about the future of
Speaker 1: UH what. I said, what you know, how are you
Speaker 1: investing your money today? And he said that he was
Speaker 1: gonna willing to spend the hundred million dollars is money
Speaker 1: to invest in high definition television. And I asked him
Speaker 1: what that meant, and he said, I have no idea,
Speaker 1: I said. He said. It could be producing, it could
Speaker 1: be better pipes into the homes, it could be all
Speaker 1: the different things that But what I can tell you
Speaker 1: with certainty is that ten years from now, people are
Speaker 1: gonna want much better quality than the grainy TV that
Speaker 1: they have today. And and the only way that I'm
Speaker 1: going to know where the real opportunities are is by
Speaker 1: by doing it every day. It's not an academic exercise,
Speaker 1: and so I think when people are going into it,
Speaker 1: they should have that that that view of trying to
Speaker 1: think about what's going on around them and how it's changing,
Speaker 1: because if they're entrepreneurial, that's where they're going to see
Speaker 1: the opportunities. If not by writing a business plan, you know,
Speaker 1: by pulling down Wikipedia. And I think that you don't.
Speaker 1: Alongside that, I would stay flexible. You know, it's not
Speaker 1: it's it's um, it's not clear at at age twenty
Speaker 1: five or twenty seven or however old you are. UM,
Speaker 1: it's not clear where the opportunities are going to be.
Speaker 1: We know that things will look very different in five
Speaker 1: or ten years, and so you know, keep financial flexibility,
Speaker 1: keep yourself on your balls, balls of your feet so
Speaker 1: you can pivot as necessary. Quite interesting, and our final question,
Speaker 1: what do you know about the world investing today? You
Speaker 1: wish you knew twenty five years or so ago when
Speaker 1: you were first starting out. So I wish that I
Speaker 1: had understood how institutionalization of the alternatives business would play out. UM.
Speaker 1: So you know, we started this by talking about whether
Speaker 1: I was going to go into the LBO business or
Speaker 1: go into the hedge fund business. And my in one
Speaker 1: of in a shockingly bad conclusion, I thought the LBO
Speaker 1: business had probably seen its best days because the things
Speaker 1: that had made LBOs these profit generating machines, was a
Speaker 1: function of the nine eighties. It was a junk bond market.
Speaker 1: You could buy things with you know, five percent equity
Speaker 1: down and you go buy a reasonable company with it.
Speaker 1: Because of distortions in the junk bond market. You had
Speaker 1: terribly won companies with inactive boards that you could take
Speaker 1: over and clean up and and double their cash flow.
Speaker 1: And you had um uh, you know, companies had gone
Speaker 1: through conglomerization phases in the seventies and eighties, and we're
Speaker 1: selling off subsidiaries because you know x y Z hedge fund. Baron,
Speaker 1: I mean LBO Baron had dinner with the CEO and
Speaker 1: convinced them to sell it at six times cash flow.
Speaker 1: I mean, it was all of these things were you
Speaker 1: know that made LBOs in the ninet eighties. It's really
Speaker 1: really these great investments, um huge, huge, huge access returns
Speaker 1: what I didn't see. And by the way, when I
Speaker 1: was looking at this, you know KKR had bought r
Speaker 1: j R Nibisco and that it turned into kind of
Speaker 1: a fiasco and people thought, no one's ever gonna be
Speaker 1: able to raise a five billion dollar fund again. Today
Speaker 1: What I didn't understand was that institutions and consultants around
Speaker 1: institutions UM once that they had their own reasons for
Speaker 1: having these new asset class categories. So once they labeled
Speaker 1: LBO slash Private Equity and Asset Allocation UM, it was
Speaker 1: the first movers into that ended up getting new clients
Speaker 1: because they could say, we have special access, we know
Speaker 1: how they invest in this area, and their business would
Speaker 1: grow and then somebody else would look at them and say,
Speaker 1: oh my god, look at that. They just won that
Speaker 1: new client. And it seems to be in part because
Speaker 1: they know how to get invested in l b O
Speaker 1: s and we don't have that capabilities. Let's hire some
Speaker 1: people to do it. And this whole process builds on itself.
Speaker 1: And so now you have you know and and so
Speaker 1: you know, now this is why you have thirty billion
Speaker 1: dollar hedge funds, which people would have said was for
Speaker 1: posterous years ago, or people routinely raising ten or twenty
Speaker 1: billion dollar private equity funds and so UM. So I
Speaker 1: think if I'd known, if I'd understood that, I think
Speaker 1: there would have been different ways that I would have
Speaker 1: managed some of my businesses. But you know, next life
Speaker 1: Thank you Andrew for being so generous with your time.
Speaker 1: We have been speaking with Andrew Beer, managing member at
Speaker 1: Dynamic Beta Investments. If you enjoy this conversation, well be
Speaker 1: sure and check out any of our previous I don't
Speaker 1: know three nine such prior conversations. You can find those
Speaker 1: at iTunes, Spotify, wherever you feed your podcast fix. We
Speaker 1: love your comments, feedback and suggestions right to us at
Speaker 1: m IB podcast at Bloomberg dot net. Give us a
Speaker 1: review on Apple iTunes. You can sign up from my
Speaker 1: daily reads at Rid Halts dot com. Check out my
Speaker 1: weekly column at Bloomberg dot com slash Opinion. Follow me
Speaker 1: on Twitter at rit Halts. I would be remiss if
Speaker 1: I did not thank the crack staff that helps put
Speaker 1: these conversations together each week. Reggie Brazil is my audio engineer,
Speaker 1: Michael Boyle is my producer. Tracy Walsh is our project manager.
Speaker 1: Michael Batnick is my head of research. I'm Barry Ridults.
Speaker 1: You've been listening to Master's Business on Bloomberg Radio.