Backgrounder

[00:00:54]Adam Butler: All right. Good morning, good afternoon, good evening. Welcome to this episode of ReSolve Riffs. We’ve got special guests here today from Takahē Capital. We’ve got the founder, CEO, President, Chief Bottle Washer, Moritz Seibert. We’ve got the head of quantitative research, Moritz Heiden. We’ve got both Moritz’s here with us today. Welcome guys, and thanks for joining me.

[00:01:21]Moritz Seibert: Thanks, Adam. It’s great to be here. You’ve missed our dog. Great introduction, but yeah, we have a chocolate brown, Labrador. Maybe next time you mention that one as well.

[00:01:31]Adam Butler: He, oh, yeah. So is he a paid member of the staff? What is, what’s his…

[00:01:35]Moritz Seibert: No, he is, we just pay him in food. That’s all.

[00:01:38]Adam Butler: Yeah, that’s what he wants. Anyway. I…

[00:01:40]Moritz Seibert: Exactly. Exactly.

[00:01:42]Adam Butler: He’s well compensated. all right. So you guys are located, where are you guys located exactly? Where’s Takahē out of?

[00:01:51]Moritz Seibert: Around Munich. I’m south of Munich. Moritz is a little bit west of Munich, but that’s where we’re from, in the middle of Bavaria, mountain boys. the winter is coming to an end here. It feels like spring now, but, yeah, we’re close to the Alps. Close to the Austrian border.

[00:02:09]Adam Butler: Are there other managed futures managers in that area that you get together with? Is that a fairly popular strategy in and around Munich?

[00:02:20]Moritz Seibert: So it’s definitely not a hub. By and large, Germany is not a hedge fund land. It’s definitely not a hedge fund country. But there is, there is a CTA, actually, one that I’ve founded, by the name of Quantum that’s based in Munich. There is a couple of capital management, asset management firms, in and around Munich. But, the majority of them I think are still in Frankfurt, which is more of the financial center of Germany. I think some of the more fin-techy type of shops, they’ve coalesced around Berlin. So yeah, not too many, just a few, as a few of us.

[00:02:56]Adam Butler: Okay. And then so how did you guys get interested in managed futures and systematic trading and come to found Takahē?

[00:03:06]Moritz Seibert: Moritz, do you want to take that or? I’ve been trading for 25 years, so I’ve been interested in that for a long time. Moritz and I were working together since almost 10 years, and, we used to work at Munich Re Investment Partners, or at least subsidiary business that we created inside the Munich Re group. Essentially an internal hedge fund, internalized hedge fund. And that came to an end because of ESG requirements, and everything had to be focused on sustainability. No longer trading crude oil contracts and all that type of stuff, which is the markets that we love, and really like to trade to get diversification. So we just decided to start our own business, and that’s what we did, about three, four years ago.

[00:03:51]Adam Butler: Oh, that’s really interesting. So within Munich Re, they adopted an ESG type mandate, and as a result, you weren’t able to trade many of the commodities contracts, because they just didn’t fall under the types of securities that you were, or that Munich Re was able to trade then.

[00:04:10]Moritz Seibert: Yeah, so it’s by design, but also there’s a regulatory pressure on these firms. ESG has become a regulatory framework in the European Union, so most of the firms, they need to comply with it, whether they want or not, and some they kind of, they go the extra mile and they want to be extra compliant, and so what that just means is you’re no longer trading WTI, you’re no longer trading any of the agricultural markets. You’re no longer trading Brent or gasoil or anything that could have a connection to fossil fuels, say, or to agricultural markets. And so that’s just the commodity markets, as Adam, they are the most diversifying markets we can find in our portfolios, from orange juice to canola, to grape seed, palm oil, corn, wheat. All of these markets are very value additive in a systematic trading firm where if you’re losing them, if you can no longer touch them, it’s just, yeah, it just doesn’t make the system work any better.

[00:05:17]Adam Butler: No, it seems extremely naive and risky for an organization like Munich Re, or a large institution pension fund, et cetera, to be completely forbidden from trading contracts that ultimately represent very large sources of risk for their portfolios, and for their businesses.

[00:05:41]Moritz Seibert: Yeah.

[00:05:42]Adam Butler: We all know the extent to which commodities contribute to and react to inflationary pressures, which tend to be a blind spot for most portfolios, so completely abolishing all exposure to them, at an institution level seems fraught with just incredible amounts of risk.

[00:06:03]Moritz Seibert: The, partly this behavior is being unwound as we speak. You may, even in the U.S. has never really adopted the frameworks, to such an extent as Europe has. But, as you can imagine, over the past say 10 years or so, a lot of products have come up, catering to the ESG and sustainability community.

We’re not saying that is necessarily wrong, per se. We’re critiquing the immediate effect that some investors think an ESG-driven investment will have on climate change or something like that. Like, just by virtue of the fact that you’re no longer trading the stock of BP, or Shell or Exxon, it doesn’t really change things immediately. If anything, you’re losing your voice, you’re losing your right to vote, and go to the AG GM and actually influence management. So a lot of that, and then a lot of ETFs and investment products got designed around ESG, a lot of like equity-filtered ESG portfolios.

And what has now for a high price, the fees have no longer been two bips or five bips, they’re then 50 bips or something like that, so substantially more expensive than a standard equity investment product. And then they’ve underperformed. So I think now some of that euphoria is put back in the bottle, and it’s still around but no longer as much as it used to be.

[00:07:38]Adam Butler: I think we can all agree that the ambition is directionally correct. It’s just the implementation is often very shortsighted, very first order, and ignores second and third order and higher order implications. You mentioned a few. There are many more, and I think having the intention to act responsibly is admirable. Thinking about multiple orders of the implications of those actions, I think is also important. alright. So tell me about Takahē, you guys, I know you’re a CTA managed futures, you’re actively discussing your strategy on various podcasts, especially the TTU Top Traders podcast, which is amazing. But maybe for those of our listeners that haven’t heard you talk about your strategy, maybe, what exactly does Takahē do? How would you differentiate Takahē trend following approach or managed futures, more broadly, approach from maybe other well-known trend following managers in the space?

[00:08:56]Moritz Seibert: Go for it.

[00:08:58]Moritz Heiden: Yeah, of course. I always say it’s high octane, even though some people cannot yeah, would group it into high volatility. For us, it’s a different thing, talking about volatility and risk. High octane for us means that we really trade the system in a way that it’s, I meant to be like cutting loose, as short, letting winners run and giving the trades room that they need to breathe.

So something we do not take into account is like volatility as a measure for controlling the trade itself. So for example, we are not scaling back trades if volatility rises. So we are not doing vol control in a way which kind of brings us into this high octane world where we are trading at a level of 25% vol, something that is more or less unheard of these days.

So most CTAs in our group and also in other groups, they have around 8% to maybe 15% volatility on an annual level. That’s the feel-good point, and also the point where institutional investors get interested in you. But we are doing something different on purpose, which gives us a lot of benefits, of course, both in terms of kind of bang for the buck, but also in terms of how we can trade and aim for these outlier trades. And that’s what we do.

[00:10:12]Adam Butler: Okay, so outlier trades. I love when this comes up in all the trend podcasts. It’s such a touch point. So let’s get into that. Maybe define what you mean by outlier trades, and by extension, maybe outlier hunting, as some people describe it.

[00:10:37]Moritz Heiden: Yeah, some people, to call it that way, right, it’s, there’s different dimensions or things you can define as an outlier. One outlier is definitely like holding period. For example, we are not a short-term CTA, so we don’t turn around positions daily or whatever. We have positions which we hold for a long time. So we can hold a position, for example, last year, cocoa, which was live for more than two years, so we can hold positions for 500 days. If the trend is there, we just hold it and give it room to breathe, and it can go into the money and can become of one of these real outliers. That usually means we are at the right tail of the distribution, right? We give the trade some room to move far into the money and do not cut it back.

We do not reduce the size just because it made us some money. We do not take profit in a way where we say, okay, this has now made 20%. That’s enough for us and we are out. And on the other hand, it means also not making the losses too big. Of course, that is always in place, no matter if it’s an outlier trade or not an outlier trade. You will get out of the position if the loss hits a certain boundary.

But the outlier really refers up to the right tail of the distribution, which you really let run as long as it wants to run, and also hold on to as long as it needs to be in the portfolio. So it does not have a time exit, for example. It does not have a profit target exit.

[00:12:08]Adam Butler: Gotcha. So there’s nothing special or like really completely novel about the way that you’re identifying trends or breakouts. Would you say that outlier hunting is more about differences in risk management of positions, once the positions are on?

[00:12:32]Moritz Heiden: Yeah, I would definitely say that. And of course, like if you initiate a position, everyone has a different opinion on how to take a trade, if it’s crossovers or breakouts or whatever. You are using channels. They’re very similar on a certain timeframe, right? They do not produce very different entry signals, but in our opinion, the way we manage risk, first on a position level, but then also on a portfolio level, is crucial to how we let these winners run, and cut these losers short. So that is the way where we differentiate ourselves. It’s not novel in a way that this is like the fanciest machine-learning algorithm out there, or something that we just invented. This stuff has been around since seventies, right?

So we have seen some great asset managers and CTAs out there doing this strategy. But the problem is, many of them have adapted a style which actually works against the strategy itself, by dialing back the risk, and reducing the winners, dialing them back. Taking, for example, profits at a point where they are satisfied with it, because they think the trend has ended. So this is in our thinking, working against the original idea of trend following, where you really should trade it at a volatility. Where we are comfortable at is 25%, where you can give these traits the room to breathe, and actually fulfill their potential, and not scale them back? Of course, that is like our opinion, and gladly also the opinion of our clients.

But we know, coming from the institutional background, that this is something that has been basically viewed as the antichrist in institutional asset management. It’s like you’re trading at 25% while you are out, please, here’s a door. Go, we want 8%. We want a stable and steady return. But if you think about it, for example, if you are an investor yourself and you buy stock, indices have traded at 20% volatility. It’s nothing new. It’s something we are used to, and people we talk to are also used to this 20, 25% volatility, is not unheard of in your personal account.

And then comes the other aspect, actually, like many managers aim for risk adjusted returns. It’s something I cannot read, risk adjusted returns. And I personally am never interested in risk adjusted returns. If I look at my portfolio, I have never in my life calculated a Sharpe ratio. Why would I? It’s absolute returns I’m targeting, and of course, draw down risk, correlation risk. So I don’t want to be hit on the face every day and every month and stuff like that. But in the end, what counts for me in on the wealth path is managing the risk in a way, and then also compounding with high returns. Because if I traded 8% vol and I get these 8% returns, and it’s not super attractive.

It’s something where I would say that’s fine if I’m getting older, I’m talking of for myself actually, but at the moment at least, I would say, if I’m fine with 20%, 25% equity vol, then I’m also fine with 20%, 25% vol on a CTA, actually.

[00:15:32]Adam Butler: I think it’s important to distinguish too, between just running at a 25 say target vol, versus, because my, I’m not, I don’t think that’s what you’re doing. I think what you’re allowing is, you’re putting positions on, sometimes when you’re putting positions on, the portfolio gets concentrated. You get concentrated in positions where the volatility of those positions is changing over time. Sometimes that when it changes, it’s expanding and therefore the vol of the portfolio can get, can vary quite a bit over time, and it ends up having a higher long-term volatility. But that’s not the objective. It’s just what emerges from the style of trading.

[00:16:17]Moritz Heiden: Yeah…

[00:16:17]Moritz Seibert: Not…

[00:16:17]Moritz Heiden: … very good.

[00:16:19]Moritz Seibert: … and we can’t forecast that. We don’t have a crystal ball what’s going to be driving the portfolio, so we’re definitely not targeting a volatility level. The 25% that Moritz mentioned is probably at the lower end of a range. The only thing that we can observe is where the real less volatility of the portfolio usually falls into.

And that is a range of 25% to 35%, and 35% being very high. But, so yeah, 25 to 30 is where the returns come in, and then every once in a while, as Moritz was saying, you have these outlier traits. We can’t forecast which ones those are going to be. We don’t know whether they’re going to be on the long side or on the short side. In more recent months it’s been cocoa and orange juice and coffee. We don’t know what’s going to be popping up next year, or next month, or in the next 10 years that, when these trades emerge and they start to run. The way we design our systems, or any other trend following system, which is, you keep losses small.

You have an initial stop-loss. You are appropriately sized at the time of trade inception, and then you let that trade develop wherever it wants to go, and it can go into a tail region of the distribution because returns aren’t normally distributed. They are tails. And then these positions, they develop a footprint, and they have a relatively large volatility and return concentration, simply because of the fact that the trade becomes larger.

Say you have a long trade such as cocoa. It starts at $3,000 per ton. It goes to a high of $12,000 or $13,000. I forgot what the number was, so it’s kind of like a 4X trade. If you’re not reducing your lot size in that trade and you’re rolling from one expiry to the next, then the notional contract value of every lot that you are, be long, is now four times larger than what it used to be at the time of trade inception.

And we allow that. We don’t mind that. We’re completely aware of the fact that cocoa, because of that, will have or is likely to have a dominating effect on the portfolio. It depends on the volatility and average true range, and how that market behaves. But the way we view this is that we know we had the position from a level of $3000. It is now clearly in the money. It is money that’s been credited to our brokerage account of the form of variation margin. And because it’s a zero-sum game, net of commissions and trading costs, it is essentially somebody else’s money that has been booked and transferred to our clearing account.

Somebody will have had that short position. We can be very liberal with somebody else’s money. We’re going to be very tight with our own capital, which is why we’re keeping losses, that eat into our core equity or into our closed equity very short, very small. We don’t allow these losses to become large losses because large losses are devastating to your portfolio from a compounding perspective. And they can also be damaging from a psychological perspective, because you’re working your way into a drawdown. It can lead to paralysis. Even though you are a systematic rules-based trader, you’re still observing your daily returns. You’re not completely immune to any of that stuff.

So it’s very important to keep these losses very small, and not to erode your core capital. But the winning trades, which are driven by variation margin, and open trade equity that has been submitted to our accounts by other traders, that is something that we can really, play with. Play is the wrong word. We can really take that and risk it. That’s what we do. And then at some point, the exit is hit. It’s not a time-based exit. It’s not a profit target. It’s simply a reversion of the trend and it hits one of many exit levels that we have defined, and then we get out of the trade.

We don’t overthink it. In essence, we say thank you. We’re not completely out of cocoa, by the way. One of our systems has exited cocoa. And when we look at that from start to finish, it’s been one of the greatest trades that we’ve ever had in our portfolio. There’s really no reason to be grumpy about the gift back, over the last two months or so. Yeah, whatever, we’ve had a great time with cocoa.

We’re still having a great time with coffee. We’ve had a fantastic time with orange juice, and we’re now short. Let’s see what that brings. That is another point is we’re trading a set of markets that includes some of the smaller markets,

the market’s less well traveled by the larger traders. I’ve mentioned orange juice, canola and grape seed, and white mace in South Africa, and markets such as that. And we’re also treading them out further on the curve, not necessarily only pointing our systems to the near-dated or front-month contract.

These are markets that can be extremely diversifying. They are extremely diversifying long and short, because really, palm oil and white mace and sunflower seeds, nothing really correlates with that. The S&P doesn’t correlate with that. The ten-year note doesn’t correlate with that. So we love these markets and as a result of that, we have language in our legal offering documents that caps our systems and our funds to $500 million.

We’re not going to be a multi-billion dollar CTA. We just can’t. If we went to a level based on today’s liquidity and open interest profiles and everything that we can observe and value, at a level of $500 million, we would have to start trading substantially smaller in some of the markets that I have just mentioned, unless they develop better liquidity.

But that is, again, something that we can forecast. So we value the diversification that we can get from these markets. They’re important to us, and we just want to stay true to that. We want to trade the best possible portfolio that we can find, that by definition, needs to include these markets, and therefore we can’t go into the billions.

[00:22:30]Adam Butler: So say more about that, because we trade some of the more peripheral markets. I say peripheral, let’s, call, palm oil. some of the less liquid softs, that sort of stuff, in our hedge fund products, but we don’t trade them in our more broadly distributed products. But we don’t even trade, for example, orange juice in our hedge fund products because, and, we might trade a hundred odd million in the hedge fund products, and we still feel that, for example, orange juice is not, doesn’t have sufficient liquidity or, we’d be too constrained by CFTC limits to trade OJ. How do you guys think about that in terms of constraints?

You just, you simply just trade it up to the CFTC limit, or the liquidity threshold that you’re willing to tolerate, and that is just an active portfolio constraint, and you take what you can from that, and already bothered by the fact that you can only trade it relatively small in the context of the broader portfolio, or like, what kind of thinking goes into that?

[00:23:45]Moritz Seibert: Yeah, CFTC limits or position limits, exchange limits, they are obviously a hard constraint. There’s no way around that. And then the other one is, I, how liquid is the market? How much of a footprint or effect are you going to have when you execute in the market? What’s the bid/offer spread, and how are you moving that market?

That also then depends, or it links into your system design. If you only traded like one entry, one exit, and you like, you have to get out of OJ all in one go, on one single day, then obviously you’re consuming more of that liquidity. If you have a more distributed approach across timeframes, that doesn’t guarantee that you’re not getting out on exactly the same day.

It can still happen, but the odds are now that, you’re kind of like, smoothing the exit, you’re smoothing the entry and got distributing liquidity requirements across time a bit more. That helps. And then it’s a question of, okay, how much do we get in terms of diversification benefit by trading lumber or sunflower seeds or orange juice, that you’ve just mentioned, versus the slippage and trading costs, all-in trading costs, which includes execution and exchange fees, and clearing commissions and all slippage, all that type of stuff. And that is a question, is it still worth it? And for some of the markets, it is still worth it.

Today, this morning, this, earlier today, we started, where we r-discussed one of the markets that we are observing and monitoring, which we’re not trading right now, which is Rotterdam coal. It’s definitely a non-ESG market. People that are ESG driven, they don’t like it. They would shake their heads and say no, don’t trade it. But it is a fuel, it’s a commodity, it’s in high demand still, but the futures market hasn’t really become any more liquid.

It used to be more liquid, so it does have a wide bid/offer spread, but it is a market that can be very diversifying to the other elements that we trade. And so the question is, how much would we be willing to pay in terms of crossing bid, offer, or transacting in that market, versus what do we get in return, as an extra bang for the buck in the portfolio?

That’s the question that we have to ask and answer, and we don’t take these lightly. It’s kind of like we’re not just looking at the coal and say, oh yeah, we’re flipping a switch, and we’re now switching on coal. It also depends on where can you find the liquidity? Is there screen liquidity? Can you just click this away on ICE or are there specialist brokers? And in the case of coal, there are specialist brokers. In the case of freight markets, they’re specialist freight dealers that you can work with to find better liquidity, and then cross on the exchange, as opposed to going into the autobook and executing right there.

[00:26:29]Adam Butler: Yeah, that’s a really good insight actually. Just the ability to source liquidity off book is definitely an interesting and unexplored edge, or underexplored edge. You’ve mentioned a few times that there’s a diversified, a diversity of systems, and I’m assuming that most of that is just trading different trend lengths. How wide is the range of trend length, generally, that you are looking at, and is it only trend length, or is it also the type of trend signal that you’re also diversifying across? And are there any other dimensions that you are seeking diversity through?

[00:27:13]Moritz Seibert: Yeah, it’s both, and if we go from top to bottom, the most diversification impact we can get by finding additional markets and trading other markets, independent markets, that are uncorrelated, to markets that we already have in our portfolio. Now, at some point that exercise comes to an end, or we find it very difficult to find additional markets that would really diversify our portfolio substantially more.

One of the areas, I may just add this, are the Chinese commodities, and it’s definitely something that Moritz and I have been working on for eight years. We’re not trading these markets at the moment. I think we are getting very close to trading them, but there is also a question of operational risk and legal risk, when you’re accessing Chinese markets with offshore money. And that’s just nothing that we take very lightly. But yeah, we would like to trade glass and … and urea and all the chemical products that they have because these markets don’t correlate with the markets that we already tried.

Then second order effect is, the timeframes and the signals that you are using. We’re distributing our trend following signals across medium- to long-term timeframes. We’re not really active in anything that is short-term, say anything that is sub-70 days or something like that, on the breakout level where we’re not reacting to that. We don’t think that we have an edge in this.

We’re using daily bars. We’re not in the HFT world. We just don’t have that set up. We, our research also shows that the longer-term systems work better than the short-term systems. The short-term systems, they can, of course, in an environment such as, for instance right now, where the equity markets seem to be turning around, they can provide a buffer, but the long-term CGA, the long-term return of these short-term systems is just inferior to the longer-term timeframes that we can trade.

And then we find it also important to diversify our entries and exits. Yeah, we do like breakouts, by the way. Breakouts are extremely clean. They’re very pure. They’re not a derivative of anything, because the only thing that they need as an input is price, whereas a moving average is already a derivative of price.

So it’s kind of like no longer the pure information. And then, you can think about exiting on a new low if you have a long position, or you can consider exiting at the mid of a donkey and channel, or you can consider exiting with a trailing stop that is volatility based, things like that. And as I’ve said before, I, sometimes these exits hit at the same point in time, because the reversal in the market is so strong that kind of, oh, you’re getting out. That is then also the day where we have to liquidate, or we, where we would liquidate our OJ position all in one go. And maybe there is excess slippage that we would experience on an exit such as like, such as that.  But in other scenarios you can have the exits distributed, or sometimes like in cocoa, one system exits and another one does not. It like, it missed the exit by a couple of points, and it’s okay, we’re, hanging in there. Let’s see where it takes us.

[00:30:35]Adam Butler: Yeah, exits are something that maybe are, less glamorous dimension of trend following, but probably are maybe arguably the most important dimension. So maybe spend a little…

[00:30:49]Moritz Seibert: Disagree. I disagree.

[00:30:51]Adam Butler: Yeah. Okay.

[00:30:51]Moritz Seibert: … important thing. Yeah. Yeah. Yeah. and then Moritz can add to that, but I think I know what you want to say. The exit is really important, but the most important thing is the entry, because if you don’t enter the position, you have nothing to exit. You miss the entry, the exit is irrelevant, right?

So one of the, it’s when you trade systematically and you have all these statistics that we produce. The system tells us to take all of the trades. So it is really important that we take these trades and we’re not skipping them. We’re not missing them. We’re not second guessing them. We’re not, imagine we got a short signal on the S&P. We don’t have that yet. We’re still long most of the equity markets. But if our system tells us to short the S&P, we shouldn’t be sitting here and counter-guessing that. I say, ah, you know what, it’s probably going to be V-shape. Trump is going to be putting a put under the market. We’re not taking that short trade.

No, we will take that short trade. And then also very importantly is the appropriate sizing at the time of trade entry. This is, Moritz I think alluded to the fact that we’re staying away from dynamic position-sizing. These, ex post overlay type of risk adjustment, correlation, volatility based adjustment traits. They mess up our trade statistics. We like it when these statistics are clean. We’re risking one risk unit of our equity at the time we enter the trade. And that is also how we evaluate the system. If we risk one R, how many Rs can we make on the upside when we exit the trade? That calculation really only works when you have a clean entry and a clean position sizing, appropriate position sizing, at the time of entry, and then you leave the trade alone.

[00:32:47]Rodrigo Gordillo: Sorry to interrupt, but I did want to take a quick second to remind listeners that while we do absolutely love providing our audience with world class guests and weekly investment insights, we wanted to remind you that we actually do our best work outside of this podcast, and we try to do this by providing cutting edge, globally diversified, and systematic investment strategies that are designed to be broadly non-correlated to traditional equity and bond portfolios.

So we actually manage private and public funds as well as bespoke separately managed accounts for investors that seek the potential to smooth out portfolio returns in the long run. So if you do want to see that theory that we’ve been talking about put into practice, please do go ahead and check us out at www.investresolve.com. Now back to the podcast.

[00:33:29]Adam Butler: Okay, I was going to ask you about exits, but maybe I’ll press that on pause because we segued into position-sizing, and just obviously a wide variety of different ways that you can attack this. If you’re not adjusting the position size once, I guess this is, you’re not adjusting the position size for a position that was taken for a specific system, but because you’ve got multiple systems all trading the same market, then you’ve got different systems either entering or exiting a trade in that market at different times. So that is how the position size will moderate over time, presumably, right?

[00:34:13]Moritz Seibert: It can distribute over time, like you say. Or in the example of cocoa that I just mentioned, one system exits, the other one does not. So we’re kind of like partially reduced in our long position. But each of these systems is kind of like an independent engine system. Number one does not know about the existence of system number two, and system number two doesn’t know of the existence of system number three.

So they run independently, and it aggregates, nets to a portfolio, for which we then calculate risk statistics. Yes, the distance to stop, all that type of stuff. Some of these statistics are purely informative. It’s like our eye candy. We can look at a valued risk. We don’t necessarily care about valued risk, because we know about the shortcomings of valued risk.

Obviously we can calculate Sharpe ratios, and we would produce something like a Sharpe ratio, but it’s definitely not a guiding light for our portfolio. We really care about the risks that we have, which is how much of our closed equity can we lose, given the positions that we have. and there’s a certain level where we would say, hey, that is too much. So yes, we would, at that point probably touch a position, but it is very rarely that we would do that.

[00:35:26]Adam Butler: Yep. Understood. I was just trying to get at the fact that, because there are multiple systems trading each market, that you’re not, either, the portfolio is not either in or out of a particular market. It’s just that a system is in or out, and to the extent that maybe all systems are in, and then one system exits, then you’ll be selling part of the position, not because of risk in that position has gone up, but because the, you’ve just got more than one system and one of them is exited.

[00:35:59]Moritz Seibert: Yes, that’s right. That’s correct.

[00:36:00]Adam Butler: And then, so how do you think about position sizing? Are you observing the risk of the market at the time of entry, or are you using more of a, the S&P has a long-term risk of X and therefore, whenever we put a trade on ES then we’re going to take this number of contracts, or this percentage of the portfolio or what have you. How does that work, is because I always find it weird if you’re using a relatively dynamic estimate of risk to put the position on, but then you’re not bothering to measure the risk once the position is on. It makes more sense to me that a market has a long-term average ambient risk level, and so you’re going to put one unit of that long-term average ambient risk on for each system when it, when you’re taking a trade or what have you. So maybe just walk me through your thinking there.

[00:37:02]Moritz Heiden: It’s a mix of what you described, I would say. I agree to, with the fact that you have to differentiate between the long-term and short-term risk. In many markets, what we do is we look at the risk over certain time horizon at the trade inception, and then the risk on an ongoing basis actually enters into the stop rule, where we would be out of the market actually.

So you have both once a trade inception where you can look at different timeframes, for example, like classical one 30 days, 90 days, whatever for long-term, short/term risk for the position size. And then you have something like, for example, classic trailing stop loss, which is an ongoing risk measure where you have that trading with your position with a certain window, which can be one of the exit rules, right?

So both things enter. What doesn’t enter is like very long-term risk. So we do not look at, for example, two years, three years risk measures in terms of, okay, this very long-term risk for the market determines the position size, but this will be more important in actually constructing the portfolio and the systems itself.

So we do not arrive, for example, at this 20% volatility roughly, or 20%, 30% dynamic volatility that we are trading by accident, but rather by choice, and like looking first of all at of course long-term risk statistics, and then also long-term correlations between the markets. That is determining overall then the portfolio risk, but not necessarily then a trade inception, the position risk.

[00:38:35]Adam Butler: Okay, that’s great actually, because I wanted to transition into portfolio construction. So you’ve got a variety of different systems. They all roll up to a position in each market, any given time. How are you aggregating the risk across the portfolio? It sounds like you’re using correlations, which is a little, I found a little surprising, given some of the other ways that you articulated the strategy. I suspect you’re also looking at aggregate potential loss to various exit levels, that sort of thing. But maybe just walk me through how you roll up all of these individual systems that are looking exclusively at a specific market with their own individual exit levels, into an overall portfolio and a portfolio risk model.

[00:39:35]Moritz Seibert: So I can take that. The correlations, they really only play a role during the research phase, to be quite frank. We’re not using correlation, or measure, a measurement of correlation, or a reaction function to correlation, once a trade has come into existence. So what we do is every market that comes into the portfolio has a correlation matrix. We’re producing that. So WTI and Brent, they’re very highly correlated markets. Their correlation is not one, but the correlation is whatever, 0.8 to 0.9, something like that. But it’s kind of like statistically, statistically high and persistent at that level.

Now the correlation between WTI and heating oil is no longer that high. It is positive, and it’s also more volatile. It, the correlation of palm oil to the DAX Index is essentially zero. So the way we built the portfolio is we’re adding markets together in a portfolio, and we start with like, start with a ten-year note at the S&P 500, at crude oil, at nat gas, at palm oil, at wheat, at corn.

So you get to market number 25 to 30, where all of a sudden you realize, okay, I’ll run into difficulties finding or adding the 31st market that is truly independent, or everything else that we have already added into the portfolio. So you get to, okay, are we going to be adding the five-year note? Are we going to be adding the two-year note? Are we going to be adding, WTI to Brent? And so now we’re in these, in this space where we’re adding markets that have a persistent positive correlation, not by guarantee, on average that is the case. They can always decouple, during certain points in time.

But, so yes, we will add these markets. Because their correlation is not one, there’s still a little bit of diversification benefit that we can get. A good example is TTF and Henry Hub Natural Gas. these markets used to be much more correlated. Now they’re very uncorrelated because the European natural gas markets are just trading completely different to the U.S. nat gas markets.

Then it is, once we’ve done this, it is a question of how much risk are we going to be putting onto a trade If we’re getting a signal to trade orange juice, because that’s the example that we’ve recently used, we would immediately give this a full risk unit, because we know that really nothing else is in the portfolio that would have anything to do with orange juice, where, so we know we want to get as much as we can from that trade.

If we get a signal, however, in the ten-year note contract, it’s not going to have the same percentage of risk or the same percentage of capital that we’re going to be risking on that trade, because by experience, we know that it’s now very likely that we’ll be receiving the same signal, maybe with a bit delay on the five-year note, on the two-year note, on the ultra contract, on the bond, on the bubble, on the whatever, go the Canadian government, go down the list. It’s a very correlated cluster, so we don’t want to be putting too much heat into that cluster.

The same thinking applies to equities. If we’re trading the, and the IEX and the DAX and the Euro stocks, it’s kind of like this all European equity risk, SE MIP 30. So the signals are going to be very correlated, not by one again, which is why we’re trading these markets, all of them. But, we would size them differently. So this is how we do it. We found that this OCMs razor approach, which is a relatively simple approach, is in our opinion, the best because correlations are really nasty.

Yes, they’re between minus one and one, but they change, and just chasing correlations and changing correlations, we don’t think that’s a good idea. We’d rather, or in our case, we prefer to make that broad observation when we design the portfolio and say, okay, these are the markets that have a high correlation. These are markets that have no correlation, sometimes even negative correlation. Wouldn’t that be great, and then we define essentially sizing levels for these markets.

And the second step, like you say, then it’s all just adding up. There’s no correlation function that goes into that or any complex mathematics. It’s just, if one system wants to trade 10 lots of the ten-year note, and another system wants to trade eight lots of the ten-year note, then it’s going to be 18. Okay, fine. That will trade 18.

[00:44:25]Adam Butler: Okay, so sounded to me like there may be some sort of sequencing to it, in the example you provided. You first get a signal to be long a ten-year note, you anticipate, because the five-year and the T-bond note are, sorry, the T-bond future are also going to be highly correlated. The European bond complex is also going to be highly correlated. You’re anticipating that you’re, you may get those signals and therefore you’re moderating the initial allocation to the 10-year. Is that, did I understand that correctly or are you putting the…

[00:45:01]Moritz Seibert: You got it. You got it. That’s exactly it. And obviously the flip side of that is that, we’re an, like you say, anticipating, we’re, it could happen that we’re taking smaller size trade in say the two-year note and like you say, yeah, the anticipation is we’ll get a signal in the five-year note and the ten-year note and all the other longer duration U.S bond futures contracts.

But maybe we don’t, maybe the market doesn’t go to that level, and then we only have a smaller, or relatively smallish position on the two-year note. If that happens, that is not necessarily an issue. We usually have between 40 and 60 active trades in the portfolio. Whether we’re missing one or two, especially in these correlated clusters, doesn’t matter that much.

[00:45:57]Adam Butler: No, I was just clarifying whether you’re putting a full position on the ten-year, and then you’ve got a full position on that crowds out your ability to then add five-year or add the two-year, but that’s not really the case. You’re leaving room for these other markets in the cluster to come in and add risk if they trigger trades.

[00:46:17]Moritz Seibert: Correct. I understand better now. Yes, correct. So another version of this, but we’re not doing this, and I think this is what you’ve just described, is we could take the full position, in my example, on the two-year note, and then if the signal on the five-year note comes up, we would reduce the two-year note, because we had a full long position that we kind of, we fill up the budget or the room that was now given with the five-year note. We don’t do that because that would also then be, we don’t like these trades where we’re reacting, or we’re changing the position size in one market because something else has happened in another market in our portfolio. See that this would be the case, right? We’d be reacting, We’d be changing the two-year note position size, because we’re getting a signal on the five-year note. But really we don’t do this. We like to keep these things very separate.

[00:47:05]Adam Butler: Yeah. No, it’s, it takes me a few minutes to get into this head space because it, we, which is, this is such a rich ecosystem. We think about things in totally, in a continuous manner. And so this idea of all these discreet trades and each individual market being on its own, is anathema to the way that we think about the problem. I think the way you guys think about the problem is a one of a complement to how we think about the problem, and has equal merit. Just for my headspace, it takes me a minute to stretch my legs and get into the way that you think about it. Another way to attack that would be acknowledging that the U.S. rate complex is basically maybe one trade, which is what you’re implicitly staying by the fact that you’re going to leave room in the portfolio for the potential for these other U.S. rate futures to come in, right, if the trade triggers. But if they don’t, then you’re under risks to the Treasury complex. Another way to think about it is you’re just going to trade the U.S. rate complex as a unit, right? Like you’re going to look for that entire complex to trigger a trade, and then you’re going to enter the complex, or, and exit the complex together, right?

[00:48:33]Moritz Seibert: In the absence, in your example of a massive twist in the interest rate curve in the U.S. where the two-year point behaves completely different to all the other points on the curve, say two-year yields are rising and the long end of the curve the yields are not. So they’re, they may, maybe they’re even dropping, but, so yeah, in that case, that could lead, or that could result in the effect that you’ve just mentioned, that we’re essentially under risk in one position because we got the trade in the two-year.

No, but we’re really nothing. There’s nothing to follow through. Now on the five-year point and the ten-year point, in the absence of that, if that is not the case, and you have more of a parallel shift up and down in interest rate curves or any other markets, in the equity markets, you have that, that these twists don’t really exist. It’s like that they’re all in one way. Then not getting the trade on the five-year point, the ten-year point, the thirty-, the long bond point, probably is a good thing in that scenario because then there’s no follow through. It’s very likely going to be a trade that has already reversed. It’s going to be a scratch trade or a small losing trade. So if that’s the case, ours says, or we’d be happy to have not taken the other trades.

[00:49:50]Adam Butler: Yeah. no, I totally agree. You could, again, you could go even further down the rabbit hole and you could trade the first principle component of the rates complex, and the second principle component, which is just how is the curvature changing? And so, they’re like both two synthetic instruments that you’re trading and sometimes they might offset one another.

But anyways, it’s there. It’s just trade-offs in either direction, right? You may be leaving some risk on the table by not putting on the full rate complex if it is a parallel shift, but by the same token, you are not running the risk that you’re offside a twist in the curve structure, by taking that approach, right? So it’s just trade-offs.

[00:50:35]Moritz Seibert: I’ve, and Moritz has a PhD in statistics and mathematics. I don’t. We’ve written papers about our journey in trading. Like at some point, I was obsessed with complexity, and this is probably 15 years or so ago, and all the stuff that you’ve just mentioned, PCA and Covance matrices and all that type of stuff, it’s very easy as a quantitative trader to think that obviously with the toolbox that we have, there’s always ways to improve something, right? Because, your Python code is there, your Excel spreadsheet is there, your feed of the data. You take all the tools that you’ve learned at university and you want to, you think there it must be able to do better, and you must be able to improve it.

Obviously you’re getting very easily into data fitting and overfitting and over optimizing, and we stripped ourselves from that requirement or that necessity to search for complexity or find the solution and complexity. The sometimes, oftentimes the simplest things work best. They have the least degrees of freedom. They’re the most resilient. They are inconvenient though. This is the, one of the byproducts that they have is that this type of trading produces inconvenience in the form of erratic-ness. It’s not smooth. It does have losses. It can get you into relatively large drawdowns.

We’re keeping losses small. That is very important. We’re protecting our capital. but I guess this is one of the edges that we have is that we’ve learned to work with that inconvenience, because most people, quite frankly, I think Adam, are no longer capable of doing that. That is also what we’re seeing in the investor behavior in that spectrum is, people live in Dave Doctor coined the term Sharpe Ratio World. I think all of the institutional investors live in Sharpe Ratio World or in some other, I, fantasy world where volatilities are constant, correlations never change, and tails don’t exist, and everything oscillates in like a perfect equilibrium around the mean of the distribution.

And that is just not the case. We all know it. We can all observe the daily returns. We have all seen WTI go negative. We have all seen power prices in Europe go through the roof. We’ve all seen cocoa do what it has done. And yet, people discount this and they want to put it back into a statistical framework where these events that we have seen with our own eyes cannot exist.

You can’t capture them with these tools. So we just, it’s simply wrong, therefore to use them to begin with. And any of the other things, be that PCA or most of these statistical toolboxes that is at our disposal, one way or another works with these type of assumptions that returns have a certain distribution that is forecastable, and that is simply not the case. And I’m not saying that we weren’t affected by that. Like I said, 15 years ago, we were definitely, or I was definitely in that camp where I thought, okay, let’s put another indicator, another parameter, another overlay, another filter, another two, bum, bum, Make it more complex.

Obviously the back test tells you, oh yes, this looks fantastic. But what you’ve completely overlooked is that you’ve completely over-optimized it and it’s not resilient. It’s not robust. You’re building something that has worked in the past, but essentially has a zero probability of working in the future.

So then if you then do the follow the simpler approach, the true and tested, time-tested ways of keeping loss of small, letting winners run, rolling with the punches, you will experience that inconvenience of erratic-ness and draw down and loss and all that type of stuff. And because most people today can no longer cope with that pain, because we’ve been trained that we can now volatility control everything down to 8%, and everything needs to be smooth.

And, institutional investors, they feel nothing more than a surprise and a drawdown, a lot of money, a lot of flows have been moving into that space where everything becomes controlled and overlaid and all that type of stuff. And we think that a part of our edge is in this pain resistance, that we know that every once in a while we have to toughen up, take it on the chin. But we also need to explain that to our investors.

If I may just add this, I think that is a very positive thing for us at the moment and also in the past, is that we know every single one of our investors. Nobody is allowed to invest with us unless they have a personal conversation with me and Moritz and the team. And this is not just to say thank you for being interested in Takahē. This is for us to figure out whether they understand the way that we will trade, whether they understand that there will be losses, especially when you’re trading between 25% and 35% volatility.

It all looks very easy when you zoom out. When you look at the fact sheet and the historical return chart and you zoom out and you look at it from a distance, even the most volatile return stream looks nice because yeah, these blips, yes, you could’ve worked them out and waited them out, and when it happens, when there is this month where you’re down 15% or where there in, when there is this day where you’re down 6% and this happens, that is inconvenient. And then they, the, their opinion changes very quickly from, oh yeah, I want to be a long-term investor, to being scared and a short-term. So we just want to make sure that they really understand this, that they’re not carried away with just pure optimism and that everything is just going to be going to the moon. It is a journey that will take years. When you trade the way that we trade, you shouldn’t be viewing this as a couple of month investments. We make, maybe 2, 3, 4, 5 years, but over that period of time, very likely we will make a positive return. Never a guarantee, but it’s very likely that we will make a positive return.

And you can look at the historical charts of the CTA industry, that is by and large what has happened, but getting from point A to point B can be tough and that’s our line of business.

[00:57:23]Adam Butler: Yes, it.

[00:57:25]Moritz Heiden: I think one thing is also to add sort, is that we are taking away the complexity actually from some things where we don’t think it’s necessary. Because, for example, the heuristics that we are applying, actually they’re very close to what I would say is top-notch statistical research where you can apply all kinds of fancy stuff that you can optimize parameters, endlessly, right? You can do hierarchical portfolio optimization, you can do cluster-based stuff, and in the end, if you apply some simpler heuristic, you’re actually back to that, but without all the complexity that you have to explain, first of all, that you have to optimize where you can fine tune the parameters if you, and we are able to bring that down to a level where we have done that work actually.

And we have brought that down to some just simpler rules. And I think that’s also what rules-based investing and especially trend following should be about, like breaking this down again to something simple and avoiding the over-complexity that actually adds to the robustness of the system. Because if we are doing that and we are doing the analysis as well, I, Moritz might not like that, but, I still like the complex systems at least for playing around and toying around, right? So they are not out of my mind and also not completely away from my machine, but I don’t use them.

But I’m looking at how do these actually compare to what we are doing? And I find that actually what we are doing is so close to that, but with much less effort and much more robustness that I can like trade that with a higher level of confidence.

[00:58:59]Moritz Seibert: We have a very large graveyard of systems. I think a couple of months ago, we wrote an inside piece about a mean reversion system applied to the S&P 500 and I, some U.S. bond futures contracts now most of the time, and kind of like everything that we find in academic papers or things that we see published on the internet about trading systems.

We usually take that up, code it and see how it works. And we run it every once in a while, to see if it continues to work. And most of the things, once they have been published, surprise, they start decaying. Most of the trading systems, especially the complex ones, they decay and some of them decay really fast.

The one that we wrote an inside piece about, which people can find on our website is a statistical army because it has been published by Quest Partners, which is another CTA, it’s a New York based CTA, it’s a mean reversion system. And that system continues to work even though it has been published. And it’s kind of like this buying the dip is a thing that I, it doesn’t seem to be going away in the S&P 500. So yeah, we’re monitoring these things, but believe me, most of the systems, they have one place where they live, and that’s the graveyard, because they don’t work, and only the simple ones, the ones where you maybe originally or at the outset think how can something as simple as that work, they continue to work because of that cleanliness, the pureness that, pureness of design, without any of the complexities that makes them strong.

I’m very grateful to some of the people in the CTA industry that I’ve been in touch with, Bill Dry, Jerry Parker, we’ve talking to these people for years, worked with them, they understand all of this, and they stay away from any of these complexities as well. It’s the right path to travel.

[01:00:59]Adam Butler: Yeah, I’ve always thought it would be a really fun to have a lot more conversations between people from the different schools of the different systematic, areas, because I think they would bring different strengths, weaknesses, blind spots, niche strengths to the conversation, and everyone would learn something. And I think we would learn something from what’s in your graveyard. You would learn something from what’s in our graveyard, and there’s, I think there’s a lot of complementary knowledge that might be shared and people who would listen, would learn a lot from. And, but it’s just very difficult because everybody’s got their own, first of all, you can only talk about so much without giving some of the secret sauce away. And, also there’s a branding issue. You don’t want to be seen as coming out a little bit behind or a little bit ahead, and it’s just too complicated from…

[01:02:04]Moritz Seibert: Sure. It’s, the ratio of PhDs to a, we’ve all seen this and, you need to have a staff of 200 people, all of them focused on research. Adam, to be quite frank, the business that we run, it doesn’t need that many people. Probably the most important one is the Labrador dog that I mentioned, that keeps us away from doing silly things during the day. But we’re trading relatively liquid markets. If something were to happen to Moritz or myself, then people will get their money back and, it’s like, what’s the deal? Hopefully we will have had a good time and your portfolio ideally will be at a new equity high.

I, just by the way, we don’t charge management fees. Our management fee is zero, and, we live and die by the sword. Institutional investors sometimes go oh, we want you to earn a management fee, because we want you to stay in business when you are in a drawdown. And my response to that is, we should have some reserves. We should be keeping costs low. The business needs to take care of itself. We really only want to get compensated if we make our clients money. And that’s a true statement that we need to make them more money than the risk-free rate of return. We have a hurdle rate on top of that. We don’t want to be compensated just for sitting here.

We want to be compensated, if and when we make money for our investors. And I think all hedge funds, it should operate that way. And in a way, hedge funds used to be that way. When we go down memory lane, obviously a hedge fund is supposed to produce alpha, otherwise, if you want to have beta, buy an ETF, even though there’s now different types of ETFs, but you know where I’m getting, like the price of beta theoretically is zero.

But if you invest in a hedge fund, what you don’t want is beta. What you want is a skill-based return that is independent and uncorrelated to other things that you have in your portfolio, and which is therefore valuable. And if that hedge fund that produces that return is actually doing it, they deserve a compensation, which is the incentive fee.

And I think this is how that business should be run. We’ve decided to run our business that way. And in a way, what we’re critiquing is that over the past quarter of a century, it is now since we’re following that space, and like when I started to look into the CTA space, or the hedge fund space, more generally around 1995 most of these funds were trading at a relatively higher level of volatility compared to what they have today. When Bill Dunn started trading, in the 1960s and he’s got the longest track record of everyone in that space, their volatilities were north of 30, even when, a HL and Winton had higher volatilities in their earlier years.

Think about Dave Drews, a tactical investment management, Dr. Paul Mulvaney, to name a few. Only a handful, and it’s really only a handful, maybe just four managers, us included. BMORE is one, a relatively newer entrant like us to that space, trading at a relatively higher level of volatility, that live in that space. And everybody else has decayed their volatilities in response, as a response function to institutional investor demands. It’s kind of like this god-given present to everyone. Like you have this big institutional investor, this pension fund, sovereign wealth fund, which says, hey, my minimum ticket size is a hundred million, but I’d like to really deploy 500 million.

Yes, I can understand why you want to cater that investor, but that is the investor that lives in Sharpe ratio world that wants everything to be smooth, everything to be Steady Eddie. So now how do you do Steady Eddy and smooth? You do it by going down from 25% volatility to 8% volatility, because at 8% vol, not that much can really happen, right?

But something has to give. Obviously, the stuff that gives is the raw return. Moritz mentioned what buys you your breakfast? It’s not the Sharpe ratio, it’s the raw return. We’re in this business because we want to make money at 8% volatility. We can’t really make the money that we want to make. We’re here.

I think this is what trading is about. Trading is about, it has only one function. It is to make money. Everything else is secondary or shouldn’t really exist in that equation. So making money is the objective. And when this shift happened in investor behavior, the hedge funds and also the CTAs, they were very happy to respond because by lowering the volatility, what you produce is increased capacity.

You’re now trading less contracts, which allows your business to scale much more easily into the billions, which many of these funds have done. I’m not critiquing that they have done this. I can completely understand why this happened, right? But it’s not in the best interest of the investor. It all of a sudden started to be in the interest of the hedge fund because when you scale him to the billions, you want to be emphasizing the management fee, the value add of your management fee, relative to your performance fee, is now much larger. Because if you’re earning 2% on 10 billion, 20 billion, 30 billion, that is a really nice business. You kind of like want to reduce the dependency on performance fees at that point, but is this the right thing to do from kind of like a trading perspective? Our answer to that is a clear no.

[01:07:37]Adam Butler: I, and I think that’s a relatively good place to put a pin in it. But we, I think a lot of managers struggle with this. How do you both deploy a strategy that people want to own, and deploy a strategy that you feel is intellectually honest, and the Venn diagram of strategy that people want to own and strategy that you believe is intellectually honest, I think has been, the overlap has been diminishing over time.

[01:08:10]Moritz Seibert: We said goodbye, for better or worse to one investor category altogether. we like to stay intellectually honest and we are. Now, what that means, is that our investors are no longer, and they’ve never been pension funds or institutional investors, and we won’t be catering to them. Maybe they are following us, maybe they go on our website, but hey, we’re not for you. We’re not for them. Don’t call us because look, we don’t have a hundred PhDs. We, yes, we do have a DDQ, but we’re not the CTA that you’re looking for. We’re not, 8% volatility, Steady Eddie.

But also this is great for us because it means that our clientele, our investors are people from our network. People that we know, people that have been referred to us, people that we have a personal connection with, they’re individual investors and they’re family offices. These are people that we absolutely love to work with. As I’ve said, they need to have a conversation with us. We want to make sure that they understand what it is that we’re doing, and how we’re risking, not in a silly way, but in a hopefully smart way, their well-earned euros or dollars to make a return. But these investors, we find it much easier to work with because they get it. They don’t have the career risk of an allocator. They don’t have all these secondary pressures that exist in a big organization when you work for an institutional, like an insurance company or something like that, right?

You don’t want to be banking, you don’t want to be the person that makes the silly decision by investing in Takahē, and then Takahē has a say 20% down month, which, whatever could happen, we haven’t had this, but it could happen. And then, this person’s boss goes, how could he possibly have been so stupid to give money to the two Morzitz’s? They don’t have a hundred PhDs and now they’ve lost 20%. Maybe we should, speak about your career prospects at the firm. So obviously you don’t, they don’t want that. I understand it, but private investors, family offices, they are in a much better position to understand why it is that it is what we’re doing. And they also understand that it’s capital efficient.

Look, we’re trading derivatives, we’re trading futures contracts. We don’t even need all your money to do what it is that we’re doing. We need some of the money to work, to have that, for margin requirements, and some kind of as a holdback, for variation margin and draw down and stuff, and we’re buying T-bills.

But, it is actually relatively, it is much more cash efficient to trade at a high level of volatility. Just give us less money. We’re not charging, we’re not charging management fees. Just invest half into Takahē at 25% vol from, on a risk adjusted basis. It’s the same as doing two times that at 12.5% volatility.

[01:11:07]Adam Butler: It’s astonishing how poorly that sells. It’s a, it just makes absolute perfect sense, and yet people just don’t like the line item risk, right? I’d, rather put twice as much in an 8 vol product than half as much in a 16 vol product, because you’re not going to make me look bad in the 8 vol product nearly as often as you’ll make me look bad in the 16 vol product.

And, it hurts when it hurts to hurt. So it’s a strange business and strange decision making. Obviously. there is no arguing with that point. It is absolutely unquestionably more capital efficient, put fewer dollars in high vol strategies and, deploy the rest of your capital elsewhere and other diversifying managers, but…

[01:11:55]Moritz Seibert: And risk reducing, risk reducing too.

[01:12:00]Adam Butler: Yep.

[01:12:00]Moritz Seibert: Two dimensions. You have the residual cash that is invested in say T-bills, but not everybody invests in T-bills. Some firms use bond trading desks, or they would use a different type of collateral, maybe some that is associated with credit risk. I don’t know. So obviously the lower your volatility, the more of that residual cash you have the portfolio, the more of that can go into other types of investments that don’t have anything to do with the original trading strategy that you’ve been talking about with your client. Okay.

And then you have counterparty risk, MF Global, whatever. Yes, it should not happen. Clearing brokers should be segregating their assets from their client assets. But the global financial crisis has shown that, every once in a while, things can go wrong. And we’re, it’s definitely not sitting here and saying it will never happen again. This is not the word that you’re using in financial markets. Bad things can happen and at some point in the future, I guess something bad will happen again. Now if you have, in your example, 8% vol, 16% vol, you have twice as much at an 8% vol manager, and that manager is affected by some risk in the financial markets, where you have a systemic risk and counterparty failures and all this type of stuff, you have much more money at risk than you have when you’ve invested half of your money at 16% volatility.

[01:13:32]Adam Butler: Yep. just makes complete sense, more it’s, I see you’re, it’s getting dark where you are.

[01:13:43]Moritz Heiden: Yeah.

[01:13:46]Adam Butler: No, it’s all good. It’s all good. I think, it’s a, this is a good point to wind it down anyways, but this, I really appreciate you guys taking time out of your late afternoon, moving into evening now, to share your philosophies, your methodologies, techniques, your lessons learned over time and experiences. I learned some things and I know that listeners will learn a lot, and, I look forward, you guys were in Cayman a couple years ago. Any plans to, revisit or, what conferences are coming up?

[01:14:22]Moritz Seibert: Yes, there is good chance we will be in Cayman, as you say, Cayman, around November, December this year. we’ve…

[01:14:33]Moritz Heiden: And actually I wanted to point out more. We saw Adam’s poster in the elevator in the building we went to, right? So we did advertisement or something. It was, but we saw your face

[01:14:46]Adam Butler: I think it might have been, I’m on this, I was the event coordinator for the CFA Society here, so I think I might have been marketing an event.

[01:14:54]Moritz Seibert: There you go. There you go. Yeah. We’ll, but yeah, we have a board meeting, director meeting, for the Cayman Fund that we run. And there’s, auditors are in Cayman, our legal counselors in Cayman. So it’s, at some point we like to see these people in person. Probably in November or December of this year, we’ll be down there.

[01:15:19]Adam Butler: Let’s be sure to get together when you’re here.

[01:15:21]Moritz Seibert: Absolutely. And that would be lovely.

[01:15:23]Adam Butler: Alright, listen, thanks again guys, and let’s do this again soon.

[01:15:28]Moritz Seibert: Thank you.

[01:15:29]Moritz Heiden: Thank you, Adam.

[01:15:31]Rodrigo Gordillo: I did want to take a quick second to remind our listeners that the team works really hard on these podcasts. We spend a lot of hours trying to get the right guests and we do a lot of prep work to make sure that we’re asking the right questions. So if you do have a second, just do hit that Subscribe button, hit that Like button, and Share with friends if you find what we’re doing useful.