E343: The Death of the 60/40 Portfolio (And What Comes Next)

Hi, you worked at one of the top family offices in Cleveland before starting Vaterra five and a half years ago. What hole did you see in the market? It's actually very expensive to build out a family office until your assets are in like the high hundred millions or a billion. It's actually not cost effective to build out an office, which is kind of crazy. The truth is, is that by the time you hit around a hundred million dollars in assets, your needs are really different than the average person. You're talking about generational wealth. You need to be thinking about estate planning, portfolio construction, taxes. And you really want to figure out how to source and invest in alternative investments and thinking about how to construct a portfolio, including those in them. So I saw that there were a lot of families who really wanted access to alternative investments. So that would include private equity, real estate and other alternatives. And they weren't, they didn't know how to source or vet these investment opportunities. And the thing that's actually most interesting about this hole in the market is that actually some of the best opportunities are actually in these smaller, niche year strategy. When I was at Parkwood, we would find sometimes a small fund and it's not actually going to make an impact if you can only get, let's say, $50 million in and you're a multi-billion dollar portfolio. But then conversely, if you're a small family, you may not know how to source these opportunities. So we were really trying to say, we want to be an institutional quality firm that can source these smaller investments and provide this service for families that really it would be hard for them to build out the infrastructure themselves. Do you think that's the hard part, the alternative side of the book, the public side, you could go to a large bank or you could kind of figure it out through indexes, but it's the private side that's difficult? Alternatives have the most impact and will have the biggest impact on our performance. First of all, I think the private markets have the ability to outperform. And I think also in public markets, there's like complicating factors, especially if you're a taxable investor, compared to an index fund, if you invest in an index fund, for example, it's not taxable until you sell. If you try to invest with someone that's going to be a stock picker, you have to deal with the tax piece. Some of that's being figured out with active ETFs, but I think that it's just like lower hanging fruit. It's easier to outperform, I think, in private markets than in public markets. Last time when we chatted, you said that most families are over-indexed on the sexy products, the cool products. Why do you think that is? And give me an example of that. I'm not necessarily sure it's only families that are over-indexed to those, but I think that there's something called FOMO. People hear about the latest fundraise for SpaceX or Databricks or some other AI company. Everyone's talking about it. It's exciting to be part of something really... These are amazing companies and they're really cool. And the problem is, and by the way, I'm not nixing either of those companies, they're actually both amazing companies. The real question is, what's the right price? And one thing that always gets me worried is if I talk to someone, I'm like, oh, have you looked at this deal and I say to them, what's the price? And many of them don't really know what the price is. And so I think that that's really the issue. And by the way, sometimes the coolest and most fun investments can be good, but they're not good in and of themselves. Well, that problem is further compound in the private market because not only do not have it publicly trading, so there's not just one price you could buy it at. You also have these layered SPVs. You have this two and 20 SPVs sometimes within another two and 20 SPVs. So you might be paying four and 40. Sometimes the secondary is being marked up by 10%. There's no real source of truth in terms of share price and fully diluted share account, all these things. So you could really be making orders of magnitude errors versus the public market. Yes. You absolutely brought up a very good point that there's also these structures that are available, that are available to families that really can get them into trouble. We've definitely seen that where there's the details like you really need to get into the details of the structure. Sometimes it's actually a good investment, but there's so many layers of fees in there that it actually makes it no longer interesting. Which is one of the reasons why I think that we think that we add value is that we really, it's not just finding the opportunity, but really digging in on the legal docs, understanding what we're paying and how they get paid and various things like that. What's the opposite of something that's sexy, cool and overindexed? What should family offices be more exposed to? One that you and I have talked about actually is trend following. It's not in the private markets, but it is a part of the portfolio that very few individual investors are in. In the institutional world, it is starting to gain a lot of traction. I think that institutional investors are starting to think if they don't end up in trend following that they're going to be missing out. And there's good reasons for that, that trend following is a really important part of the portfolio that's just completely ignored. How would you explain trend following in a simple way? Trend following is actually similar to what it sounds like. And it's exactly what you would think in terms of trend. If a market's trending up, then you're going to be buying. If a market's trending down, then you're going to be selling. There's many details that the individual managers have to decide in terms of how they construct these portfolios, how they decide when to sell, how they decide when to buy, what's their lookback period. But that's in a nutshell what trend following is. Expert calls have always been one of the most powerful ways to build conviction. But today, investors are asked to cover more companies, move faster, and do it with leaner teams. With AlphaSense AI led expert calls, their Tejas call service team sources experts based on your research criteria and lets the AI interviewer get to work. The magic is in the AI interviewer, purpose built and knowledgeable based information to conduct high quality context stretch conversations on your behalf. Acting as a trusted extension of your team. Then they take it one step further. Your call transcripts flow natively into your AlphaSense experience and become queryable, searchable, and comparable. So your primary insights plug directly into earnings prep, digital work streams, and pitch books with zero tool switching. And with AlphaSense expert call services, the AI led expert calls are just one option because we know the importance of a hybrid expert research approach. AI for coverage and efficiency, humans for complexity and conviction. It's the institutional edge that scales research without scaling headcount. For hedge funds, that means validating thesis assumptions across dozens of experts before earnings instead of a handful. For private equity, it means faster pre IOI scans and deeper commercial diligence. For investment banks and asset managers, it means pulling real operator perspective straight into models and sector positioning without disconnected tools or manual handoffs. All of it lives inside the AlphaSense platform trusted by 75% of the world's top hedge funds alongside filings, broker research, news, and more than 240,000 expert call transcripts. Turning raw conversations into comparable, auditable insight. Take advantage of AlphaSense AI led expert calls now. The first to see wins. The rest follow. Learn more at alpha-sense.com slash how I invest. Is the underpinning of trend following and why it works out of strategy because the market is essentially reflexive. People start making money on something. Other people start wanting to buy those things and kind of these waves. Or is it something much more sophisticated? There's two pieces in terms of why I think trend following works and then why it's really important for a portfolio. So in terms of why trend works, the question is how do you know it's going to work? How do you know it's going to continue to work in the future? There are certain things that don't change. I think that that's human nature. There may be changes in AI and things like that, but human beings are always be human beings. And the way it generally works is that when people make decisions, there's often some kind of like pioneer making a decision saying, I think that this is interesting. And then if it's actually good, then they show it to their friend. And then if their friend thinks it's good, then they're going to start coming in and doing it also. And then as more people see that they're doing it, that it starts gaining traction. It makes sense with almost anything. This is true with like think about something like Bitcoin. Many of us were around to watch that gain traction. In the beginning, there were like these early adopters and everyone. Most people thought those people in Bitcoin were crazy. And then eventually more and more people started doing it. And now today, some of the larger institutional investors have gotten involved in Bitcoin. And so they're buying it. Markets work this way too. And you see that things start moving in a certain direction. And then it happens like a lot. If you think about like with COVID, people started like seeing it was going on in China and then in Europe. And people started getting worried about what it meant for markets. And markets started like trending downwards. And then people started experiencing what it meant. And then as the world started shutting down, then people really started selling. And then it started like really selling very, very hard. And so if you think about that intuitively, that makes sense that the market would have trended that way. That is first started selling slowly, and then it started selling in like a very, very dramatic fashion. We saw this recently with oil prices in terms of the war. There was the war in Iran. The oil prices started trending up, getting worried. And then as things started exacerbating, it really started spiking up. It's gone a lot of different directions recently, but that's kind of what happens with trends. Now, the thing about trend and why trend is so useful in portfolios is because of the fact, is that many times these trends happen when markets are falling. Because there's a lot of things moving in that direction. Things like clouds are starting to form. And that's why certain markets are starting to move in a certain direction. And as more and more people realize just how bad things are moving, you start seeing that. And I'm sure many people have heard things like markets correlate to one during those crisis periods, like in 2008, it wasn't just that equities were falling, but we were also seeing the yen gaining strength. We were also seeing oil prices falling. Many times during crisis periods, there's many, many markets that are trending very strong. As a result, trend-falling strategies tend to do very, very well at the exact moment when you need them. You have a part of your portfolio that's performing very well when virtually nothing else is. It's truly inversely correlated because the trend is going down. It is, but it's actually not negatively correlated. And that's the part that's beautiful. It was negatively correlated. You wouldn't expect it to have a positive return over time. But actually, trend-falling does have a return that's similar to equities over time. In fact, there's also periods of time where trend actually does well, even if equities don't do well. So for example, 2014 was like a killer year for trend. And equities were doing fine in 2014, but trends did well because, I don't know if you remember, but oil prices went from like the hundreds to like, I think like high 20s or something. And then also the euro really depreciated versus the dollar that year. And so many trend managers were up like a lot that year. And similarly, actually in 2024, when markets actually did really well, many trend managers did well in the first quarter of 2024 because cocoa markets were on fire. There's some trendy markets even without an equity drawdown. You're not the first person to talk about trends. A lot of even underlying LPs and Dowments have been telling me about trends. And I've tried to really take a critical eye on it and think deeply about why this is now happening. And I think it's easy to discount it and put in this bucket of momentum or memetic copying. Somebody makes money on Microsoft and their neighbor wants to basically copy them and fund managers. I think that's maybe one layer of it. But I do think there's two other layers to it. One is essentially a lot of people are using similar models. So a lot of the trades end up being levered one way or another. We saw this with Bitcoin. People are very familiar with this when it goes down by 10%. It then goes down another 10% because people have to unwind their lever trades. Some people are just copying the same index and strategy other people are doing. So when they sell, they sell, when they buy, they buy. And then I think there's also ironically a fundamental research aspect to it on the upside. So I saw this within Circle. So it was an unloved stock for a few months. And then it started to go up. And then I started seeing analysts start to cover it and people talking about it. And the reason for that is not necessarily because it went up. It's second order from it going up. So it went up by let's say 10%, 15%. And then people started looking at it and thinking about, well, why is it up? Oh, let me do some real fundamental research. They did the research, figured out or came to the conclusion that was under price and started to bid it up. So it's not necessarily just superficial or FOMO or greed or fear. It's also, it could literally bring people's attention to something that they could then underwrite from a first principle basis. Absolutely. I think that you're basically making the case for why, as I mentioned earlier, why intuitively trend works. And some of it is that people are, how people make decisions that like you said, that some people feel more comfortable making decisions on their own. But then there's more analysts, there's maybe more attention, there's more light on something. And so it gets more attention. In the case of COVID, you might say it's that things actually fundamentally got worse. And so that's why markets are falling more. But yes, there's also this trendiness in terms of just the way people think. Someone might just have like, I'm not going to spend time on this until it's going up, or I'm not going to spend time on any stock that's not covered by a certain number of analysts or something. Or some people might use an analyst to decide whether or not to pick up a stock. And so all of those things like kind of like add to this crowding of what happened in markets. And why then markets move that way. I've talked to some of the most famous public investors of all time. And they always state that's very difficult to pick the catalysts. If you're buying a stock and you think it's 300% underpriced, yes, that could be great fundamental research, but it's very difficult for them to figure out the catalyst. Because I think the catalyst is more psychological than financial in nature. Somebody tweets about something. Was that even predictable? Was it predictable that Elon Musk was going to tweet about the stock? Or that there would be a Netflix movie about GameStop. And some of these things are not even financial in nature. They're psychological in nature. And actually, that's one of the parts that's so challenging about investing in stocks. Because you can be right. You can say, I like the stock, but then until it starts gaining some momentum from other people, it's just going to be sitting there. Because if you think about it, if you're a stock picker, you say, okay, I found this company. It's great. It's so undervalued. But then you think, if I buy this stock and it just sits there undervalued, and even like fundamentally, every year, it's like EBITDA is going up, and then it just becomes increasingly cheap, and it's like not keeping up with the market, that stock picker is going to eventually lose all of its investors. Because no one cares that they're like, but I own the stock, and EBITDA has been doubling, but the market doesn't care. It's only focusing on NVIDIA or some of these bigger stocks. That's what makes investing in markets really hard. You need to be thinking about what are the right investments, and how do I, how do you time it? And there's a lot of sure ways people answer this question. But it's funny, I think that the reason why I feel so strongly about trend following is because you see trend following works because of exactly all of these behavioral biases that exist in the market all the time in many, in it. It shows itself in many, many ways. You're jumping on a podcast talking about trend following. You know, I'm going to ask you, how is it performed historically? First of all, what's the index for trend following, and then talk to me about historical performance? One of the indexes that we use for looking at trend following would be the SGTrend index. It's not a perfect index, but it gives you a sense at least how trend has done since the index was created back in 2000. From January 2000 through January of 2026, the SGTrend index was returned 6.3%. And one thing I'll just say is that this is to compare it to equity. So I adjusted the volatility to be similar to an equity volatility. So over that same time period, the equity, which is the global equity index, during that same period, that market was 6.8%. So you've got 6.8% for the global equity index and 6.3% for the trend index. But here's the part that's pretty cool. It's diversifications, the one free lunch. If you invested half of your money in trend and half of your money in the equity over that 26-year period and you rebalanced your investment monthly, you actually would get a return that was 7.3%. So you actually end up with a return that's better than either one and lower volatility. So the reason why I like trend plus equities so much is a couple of reasons. So first of all, you can adjust the volatility for trend however you want. And the reason why I say that is because trend following uses futures. So in order to get your exposure, your invest, you basically need to use margin for your futures. So you can decide how much cash you want to hold for that investment versus how much futures you have. And so you can adjust, you can target your volatility to really whatever you want it to be. So I just said, let's just target our volatility to equity volatility. So you get a sense of what is your return per unit of risk for each of those. So what you find for that 26-year period, they're pretty similar. But then when you invest in the two of them together, they do even better. And the reason why is that trend following has positive skew, which means that it's subject to large positive outliers and equities has negative skew, which means it's subject to large negative outliers. So what happens is if you're investing in equities, it kind of goes up a little, up a little, up a little, up a little, and then you have like 2008 where it like crashes down really bad. And then what is trend following? Trend following like doesn't do anything, doesn't do anything, doesn't do anything, doesn't do anything, doesn't do anything, and then it has a big up move. So if you start from like one point over here and you go all the way here, they're going to end up maybe stopping and starting in a similar spot. But along the way, their path looks very different. But then the part that's so beautiful is that because you're constantly rebalancing, trend, for example, in 2008, Kui said like their biggest drawdown, that's when trend had a really strong year. And so now you're rebalancing, taking your cash from trend and reinvesting it at the bottom. And then similarly what happens is as markets are getting expensive, you're not trying to time a market, but as equities are making money, you're trimming from equities and you're putting into trend, trimming from equities, putting it into trend. And by doing that, you're taking it out, you're selling markets when they're rich, and then you're having cash to reinvest in them just as they're hitting a drawdown. And so in terms of like, what was the performance? It's not just that that 7.3% versus the 6.8 over those 26-year period. Over that same period, the AQUI had a drawdown of 55%. And this combined strategy, the worst drawdown was actually only 24. It's a smoother route, right? It's a much smoother route. And so to me, it's kind of, this is like kind of a no-brainer. This is what we should be doing. This is why portfolios should be constructed. Dell PCs with Intel inside are built for the moments that matter, for the moments you plan and the ones you don't. Built for the busy days that turn into all night study sessions, the moment you're working from a cafe and realize every outlet's taken, the times you're deep in your flow and the absolute last thing you need is an auto update throwing off your momentum. That's why Dell builds tech that adapts to the way you actually work, built with long lasting batteries so you're not scrambling for the closest outlet, and built an intelligence that makes updates around your schedule, not in the middle of it. They don't build tech for tech's sake, they build it for you. Find technology built for the way you work at dell.com slash Dell PCs. Built for you. Support for today's episode comes from Square, the all-in-one way for business owners to take payments, book appointments, manage staff, and keep everything running in one place. Whether you're selling lattes, cutting hair, running a boutique, or managing a service business, Square helps you run your business without running yourself into the ground. I was actually thinking about this the other day when I stopped by a local cafe here, they use Square and everything just works. Check out as fast, receipts are instant, and sometimes I even get loyalty rewards automatically. There's something about businesses that use Square, they just feel more put together. The experience is smoother for them, and it's smoother for me as a customer. Square makes it easy to sell wherever your customers are, in store, online, on your phone, or even at pop-ups, and everything stays synced in real time. You could track sales, manage inventory, book appointments, and see reports instantly whether you're in your shop or on the go. And when you make a sale, you don't have to wait days to get paid. Square gives you fast access to your earnings through Square checking. They also have built-in tools like loyalty and marketing. Your best customers keep coming back. And right now, you can get up to $200 off Square hardware when you sign up at square.com slash go slash how I invest. That's sqare.com slash go slash how I invest. With Square, you get all the tools to run your business with none of the contracts or complexity. Run your business smarter with Square, get started today. Support for today's episode comes from Square, the all-in-one way for business owners to take payments, book appointments, manage staff, and keep everything running in one place. Whether you're selling lattes, cutting hair, running a boutique, or managing a service business, Square helps you run your business without running yourself into the ground. I was actually thinking about this the other day when I stopped by a local cafe here, that you square and everything just works. Check out as fast, receipts are instant, and sometimes I even get loyalty rewards automatically. There's something about businesses that you square. They just feel more put together. The experience is smoother for them and it's smoother for me as a customer. Square makes it easy to sell wherever your customers are in store, online, on your phone, or even at pop-ups, and everything stays synced in real time. You could track sales, manage inventory, book appointments, and see reports instantly whether you're in your shop or on the go. And when you make a sale, you don't have to wait days to get paid. Square gives you fast access to your earnings through Square checking. They also have built-in tools like loyalty and marketing. Your best customers keep coming back. And right now, you can get up to $200 off Square hardware when you sign up at square.com. Slash go Slash how I invest. That's sqare.com Slash go Slash how I invest with Square, you get all the tools to run your business with none of the contracts or complexity. Run your business smarter with Squares, get started today. I guess the default is not necessarily all stocks for institutional grade portfolio stocks and bonds. So you're almost replacing the bonds with trend following. Everyone should figure out for themselves how much bonds or how much trend they should have. Many times, when you look at the way people are constructing the portfolio, they basically start with, okay, what's your risk profile? They say, you're a moderate risk investor, so then 60% of your portfolio should be stocks and 40% of your portfolio should be in bonds. Really, what they're saying is, I'm willing to take 60% equity risk, and then I need to mute the volatility or mitigate the volatility with this other thing, which is we know going to be a drag on performance, but it provides some stability and liquidity. I think it makes a lot more sense to invest in something that can actually mitigate the volatility without dragging on your returns. I'm not saying you should have no cash and no bonds, but I think that this is a really important way that you can reduce the volatility, smooth the returns without giving up the risk, and over long periods of time, returns will be better. And the pros and cons at least looking back to 2000 is that the stock with the trend falling would have done better, but the stock with the bonds would have done worse, but the bonds would have more of a smoother return in terms of return. So if you look at this chart here that's up on the screen, you can see it actually shows you the returns going back to 2000 of the Miski All Country World Index, which is the Global Equity Index, and then also various portfolios constructed using 50% equities, 50% hedge funds, 50% bonds, 50% equities, and then 50% equities, 50% trend. And what you can see is that you don't really get a lot of benefit whether or not you add hedge funds or bonds to the portfolio, but the trend portfolio really just blows all of them out of the water in terms of the performance over that 25-year period. And even the drawdowns, you can't actually see the numbers, you can just kind of look at the lines of the growth of a dollar. But if you dig in on the numbers, you'll actually see that not only does the trend and equity portfolio do better over that period, the drawdowns are mitigated, you have much lower drawdowns. And the reason why we use the SG trend index when we show this is just because it kind of has performance history going back to 2000. We believe that we add additional value over that in terms of the trend managers we choose because we specifically look for trend managers that maximize crisis alpha so that the returns end up being in line with the trend index, but that during the drawdown periods like the 2008 or 2020 type periods, you actually have better performance. In terms of the performance, the performance of bonds over that period is worse if you looked at specifically during the drawdown periods, bonds are generally positive during those drawdowns just like trend, but the difference is they're kind of just up whatever they're up. Bonds are whatever, 2% to 6% or something. Maybe they had like, depending on how much duration are in your bond portfolio, bond prices sometimes go up during those crisis periods because the Fed's lowering rates. And so you get a little bit of a push there, but you're not seeing the kind of strong performance that you're getting from trends. So for example, in 2022, the first nine months of 2022 stocks were down I think around 25%. The bond index was down maybe like 15 to 18%. And that was actually because bonds actually didn't protect that year because rates were going up, but trend was actually up. You also end up with lower returns for bonds all at the end of the 26 years. I had the former CIO of Northern Trust jump on the podcast and he talked about what went on in the stock and bond market, which was fascinating is people kept on wanting to get more and more juice out of the bonds out of the 60, 40 portfolios. So they kept on buying higher performing, also known as lower quality bonds. Michael Nielken famously coined this junk bonds in the 80s, but lower and lower quality bonds up to the point where they were essentially one to one correlated with the stocks. So what you had is 60% of your portfolios in equities, 40% of your portfolios correlated 100% with equities, but in lower returning bonds, which was actually inferior than the 100 and zero mark. So you might as well just have 100% of your money and equities. His solution to this was creating levered treasuries, which are negatively correlated, but have a higher returns. It's interesting how these behavioral dynamics play into the markets. Levered treasuries and treasuries in generally have a spot in your portfolio, but I think it's important when you're thinking about portfolio construction to think about what does well in which kind of time period and trend falling can do very well in rising rate environments and they can do very well in inflationary environments. And there's very few asset classes that can do that. A lot of these, I would say, biases in the markets is because of principal agent problems. So if you have something in your portfolio that does below average or does poorly, like trend falling may make a couple percent for seven years, and you are managing somebody else's money for seven years, they're unhappy with you, they're probably going to leave you before on year eight, it goes up. There's these principal agent issues that really affect large pools of capital and how much of capital in the market is actually somebody's own capital. Maybe that's indexes retail, I think it's somewhere around 25%. So another way 75% of the market has a principal agent mismatch in terms of how it's managed. And certainly in the role I'm in, I'm not running my own family office money, I'm running other people's money. And so yeah, that's exactly what I need to be thinking about. I need to think about what is the right, what is the strategy that I can create that is going to be something that they can hold on to for the long run. And that's one of the reasons why I actually don't recommend trend falling on its own for any of my clients. I only recommend it within this structure for a few reasons. First of all, we are doing monthly rebalancing, so operationally there's some work that needs to get done, so we'd rather do it for them. But also, it's very hard emotionally to do it, it's even for us, we have very, very rigid processes in place to make sure that we are consistently rebalancing. And I can tell you that during 2022, when trend was doing really, really well and equities were going down and you're just thinking to yourself, you kind of want to just let trend run a little bit more, but we didn't. We were like, no, no, no, we need to rebalance because that's our strategy. We're emotional beings, all of us, even if you're a really brilliant trader, you're subject to this. I actually recently heard a podcast with Stan Druckenmiller, who's way smarter than me, he's one of the best investors out there. And I was surprised, I didn't know this, that he actually said that during the late 90s and early 2000s, he was watching equities going up and he was like, they're too expensive, they're too expensive. And he actually capitulated in like the early 2000s and bought some tech stocks and obviously it was a mistake. But I was like, no one is not subject to those biases. And then conversely, I also recently heard a podcast with Jeremy Grantham who talked about the fact that they did stick to their needs. They were only in value stocks and their assets went all the way down to 40 million in 2000 because no one was like, no one could take it. So I think like someone who's sitting in my scene needs to be thinking, what is a strategy that I can come up with that's going to work for me and that's going to work for my clients? And that's really hard. So I think it's a combination of, first of all, structuring it well. I think that investing in trend plus equities works because of the diversification, the rebalancing. But also when you look at the performance of this combined return, it's easier to invest because the drawdowns are mitigated and even the trend piece where you sometimes have periods where they're kind of underperforming, it doesn't like look as bad. And I would say if you looked at like on an annual basis, there aren't too many years where we're really underperforming the market. I'm going to coin a new term, strategic ignorance, a form of structural alpha. What does that mean? That means if you're in venture and half of your portfolio goes to zero, one will go to 20X, a couple will do two to three X. The structure of putting in a fund and being strategically ignorant about the individual assets in that fund, at least on a high level and how you get your reporting, could improve your returns because it's all fine. Dandy, if a strategy, quote unquote, works, it's not really helpful if you can't execute it, if you can't actually hold. Listen, I'll tell you as a mom, I did that with my kids this morning. They're going to watch this podcast and laugh, but I actually hid half a bag of rice frozen cauliflower in their peanut butter banana shake and they loved it. And honestly, if I told them that there was cauliflower in there, they wouldn't have eaten it. It's funny with my kids, it kind of may be like trickery, but the way I like to think about it is the story with the sirens and how you need to bind yourself to the boat so that you don't get swayed by the sirens. And I think that that's the way to think about like recognizing our human feelings that we're going to be subject to these emotional feelings and create a process that you can stick to. And that's the point of that. So you have to do some education with investors and also create structures that make it easier for you to hold on to those. It's funny that you mentioned Stanley Drunkenmiller. One of my favorite quotes is Stanley Drunkenmiller, which is, nothing gets as cheap as after it's gone off 40%. And I had the same exact interpretation of that, which is if one of the world's greatest traders, one of the most steady hands in the world has these emotional biases, then you shouldn't try to outstanding Drunkenmiller, Stanley Drunkenmiller. That's not something that you should strive for. And you should strive more to either be A, aware and B, structurally solve for that. I had my first heroic trade, which was actually heroically not selling circle when it was down, like I think more than 50%. Now it's been up to X. I learned from this podcast exactly what you should be doing these times, which is Cliff Asnes talks about when the market's down, the ideal thing is not actually to lock yourself up and to just be heroically holding no matter what. It's constantly reevaluating your priors. So every day he would go into the office, he would talk to everybody and say, what am I not seeing? Basically, trying to figure out why the market's down. The interesting thing about the markets, people talk about it as if it's this known factor analysis. Most people still don't know why Black Monday happened in the 80s. They have some theories about different contributing, but no one could actually definitively tell you because no one knows the books, no one knows the psychology behind the traders. And with circle, I kept on talking to my venture friends, thinking about the stablecoin, thinking about the underpinnings of the thesis. Maybe I'd missed something, maybe it was somehow correlated to maybe there was something legislatively, there was some issues on a legislative basis with crypto. So instead of just sitting around saying, I'm going to hold no matter what, I kept on reassessing and I found nothing. Doesn't mean that nothing was there. Maybe something changed. Obviously, they had bad earnings, but there's no clear reason why the perspective on the market has shifted enough to justify this run-up. And all those things being said, it was still very painful, even though I didn't sell a single share, which I'm very proud of. Good for you, David. Obviously, it could have gone down as well, so not investment advice, but even through all that, it still took an emotional toll on me. So even though I quote-unquote did the right thing, it was still difficult, which there are structures that kind of solve these things I think everybody should use them. So I wanted to go to the lower mill market, which is another part of the market that you love. Why do you love lower mill market P? Because if you look at where capital is going in the private markets, the vast majority is flowing to the mega funds. Roughly three-quarters of all the money recently raised went to billion dollar plus funds. But then if you look at the universe of private companies, they are actually, most of them are too small for those large funds to buy. So there's really an imbalance there. There's a lot of capital competing for the largest deals, and there's fewer buyers in the lower middle market. So when you have that dynamic, markets tend to be less efficient. You'll also see lower purchase price multiples there, less leverages used. And the other thing I love about this part of the market is that the types of businesses you can buy, so many of them haven't been institutionalized. They might be found around companies where the owner might have run it as a lifestyle business, optimize the operations or the growth strategy. So if you compare that to the large end of the private equity, where firms are often buying companies from other private equity firms, by the time it gets to that stage, the obvious improvements have already been made. Because of those dynamics, actually historically, the data shows that returns in the lower middle market can actually be higher than those mega funds. It's an interesting two-sided thesis, which is there's a lot of capital going into the large, the KKRs, the Blackstones of the world, which there's always an inverse relationship between capital and returns. So that's a difficult part of the market. But on top of that, the second order effects of that is that now these large funds have huge pools of dry capital, which they have to deploy at some point. What are they buying? They're buying the lower middle market, the companies that are maturing from the lower middle market. So there's not only less capital for the original deals, there's actually more capital upon exit as well. Because of that, if you're buying those companies at lower multiples, but if you can grow them to be of the size that these larger private firms want to buy them, then you might be able to sell it for higher multiples. You have the double effect of that, like the benefit of fundamentally growing EBITDA, but then also selling it for a higher multiple, which is why the returns can be better. I've heard these figures anywhere from 40 to 150 trillion is coming in from retail. Where are they going to go? Are they going to go Blackstone KKR? Are they going to go the lower middle market? Obviously, they're going to go into the larger funds. This is a trend that's going to continue. Maybe one of our only disagreements from last time we chatted was on venture. You're not investing in venture. Why are you not investing in venture? Okay. So I wouldn't say no venture. I would say we're very cautious about it. If you look at the data, venture is an area where the dispersion of returns is very wide. And to really justify the risk you're taking, you really need to be invested in top-design managers. And the challenge is that those managers are very hard to access. So even if you get in some of these top firms, they'll say, okay, we'll let you into our best fund, but you also have to put more dollars into our new fund that we're getting access to a new geography or whatever, like their Asia fund, which may not actually be as compelling. So yeah, you got one fund that was really good, but then it's diluted the performance because you got into the other stuff. Not always, but in any case, it is hard to get into those funds. And then the other issue is actually also time horizon. If you're not in the top tier funds, I think probably early stage venture might be the best place to invest. And the opportunity set, I think, is a bit more attractive, but it can take 10 to 15 years before you really know your outcome. And many investors aren't comfortable locking their capital up for that long with such a wide range of potential outcomes. So our philosophy is that if you're patient, there are areas where you can find opportunities with venture like upside, with sometimes with the more attractive risk profile. So that's like going back to buyouts. We think sometimes you can find opportunities in small buyouts where the return profile is competitive with venture, but lower risk. And then also sometimes you can just find a unique deal. For example, we recently did an investment with an early stage natural gas development, where the upside potential really looked comparable to venture, but the underlying assets on the risk profile were much more attractive. So we're not anti-venture, but we're just selective and want to make sure the risk reward trade-off is really compelling. You talked about persistence. There's this famous study by University of Chicago, Professor Steve Kaplan, and he found that 52%, 52% of venture firms that were in the top quartile continue to be in the top quartile. So double of what should naturally occur. So there certainly is persistence in terms of brand access, talent, all those things. The problem is that the funds have gotten larger, and perhaps the real problem is all the top funds, these same access constrained funds are actually, most of them are 2.5 and 30. So the 2 and 20 is dead, now it's 2.5 and 30. And then if you're not in these top funds, it's hard to access the other later stage funds. There's no clear persistence there. And then you go into the emerging manager space. One of the things that I've been investigating is do emerging managers actually outperform later stage and the big funds historically? People will jump on and talk anecdotally. There's certainly like 100X funds. There's no dataset that I've seen without survivorship bias that shows that on average, emerging managers have outperformed. It's one of the dirty secrets of venture capital. That being said, of course, there's very talented managers. There's a lot of great managers, a lot of great emerging managers, but you really have to have a lot of resources to go and find these or you access them through a fund of funds that's focused on emerging managers. The other aspect of it is also behavioral. We've talked a lot about behavioral finance today, but if you're working with a family office and they're deploying into venture and their first investment doesn't get to 1X DPI for a decade, which is common for early stage managers, they're going to be sitting around for a decade and they're going to hate ventures. I do think there's a sequencing that makes sense for people that are going into venture, whether it's trying to get access to one of these difficult to access managers. Obviously, that's a great strategy or that's a strategy that has worked for a lot of people. There's also secondary funds, which minimize the J curve. You don't necessarily get the 30% net IRRs, but you get lower IRRs, but higher DPI and quicker so you get to see that venture works. Sequencing how you add something like venture in your portfolio is also in itself a very important thing because it goes back to the same point. It's all fine and dandy if you build a emerging manager portfolio for decades and you invest every single year, you're going to do well, but who could behaviorally deal with investing for nine vintages before getting their money back from the first vintage. It's easier said than done. This is the reason why, like I said, we avoid venture and we'll look at it by case-by-case basis. There are certain managers that figure out a way that in a niche or various ways that they can do it well and we feel that somehow we think that the probabilities that we're going to do well with them is moved over the probabilities to an acceptable outcome. Then we're going to consider it, but otherwise, like I said, if we're saying, okay, is there someone in our portfolio where we can get a 30% or 35, what is the number for venture? I feel like statistically, it's more likely I'm going to find it with a small buyout manager than just trying to find an emerging manager that's going to do that. To your point, behavioral buy it emotionally, it's easier to invest in those kinds of things than in venture. Like you said, you might not see DPI for a long time. The only thing worse than actually investing and not getting DPI for 14 years is most family offices, when they start, they see a deal. Hopefully it was SpaceX, but 99% of the time it's not early SpaceX. It's this company that's adversely selected where that VC or the portfolio company has gone to every single person in the world and now they go to their high school acquaintance and they're like, hey, you want to invest in this company? Of course, that high school acquaintance, that CEO of this tech company is inherently the top 0.1% of anyone they've ever met. These are exceptional people. Little do they know, it's a tough sector or a lot of other reasons why a company might be good even if the founder is not good. It's like to joke. The only thing worse than paying two and 20 is paying a hundred and zero, which is you lose all your money because you made a bad investment. If you could go back to 1998, just graduated Columbia, and you could give a younger high one piece of advice that would have either accelerated your career or helped you avoid costly mistakes. What would be that one time as piece of advice? If I could go back and give advice to my younger self right after Columbia or even right while I was at Goldman, I think the thing that I really didn't understand is the capital that's available within the entrepreneurial ecosystem. I didn't come from a lot of means. In my mind, if I wanted to start a business, I needed to have money. I assumed if you didn't already have money, it would be very hard to get funding. What I didn't understand at the time, there's actually many ways for entrepreneurs to actually access capital. For example, I didn't know about the search fund model. Looking back, I really have an entrepreneurial spark in me. If I had understood those structures that could support my path, I think I might have explored entrepreneurship earlier. The advice I would give to younger people now is this. If you have an entrepreneurial instinct, don't assume there's a lack of personal capital as a barrier. There's a lot of capital out there, people looking for good ideas and hardworking operators. The key is understanding that they're there and figuring out how to access it. That said, for myself, I don't regret how things play out. I spent years in investment banking, and then I moved into investment management. The experience has been really valuable. It gave me the perspective I have today, the judgment I needed before I launched for Terra. I absolutely love what I do. We're trying to build a great firm with strong values, a strong culture, and really focus on doing the right thing for our investors. Haya, thanks so much for jumping on. It was a true pleasure and looking forward to continue this life. Yeah, great. Thanks, David. This was really fun. If you found this conversation valuable, please click follow how I invest so that you don't miss the next episode with the world's top investors.