[REPLAY] André Perold – Pockets of Inefficiency at HighVista Strategies (EP.169)

André Perold, the Co-Managing Partner and Chief Investment Officer of HighVista Strategies, a $4B firm with roots in endowment-style investing that searches for inefficiencies across asset classes. André was the 2nd guest on the show, where we discussed his background as a renowned investment professor at HBS and the founding of HighVista. Our second conversation covers the evolution of HighVista over the last few years. We discuss changes in the business and the firm's response by focusing on inefficient markets. We then dive into examples of opportunities in biotech, private credit and litigation finance, and close with a perspective on active management and private markets. Learn More Follow Ted on Twitter at @tseides https://twitter.com/tseides?lang=en or LinkedIn https://www.linkedin.com/in/tedseides/ Subscribe to the mailing list https://capitalallocators.com/ Access Transcript with Premium Membership https://capitalallocators.com/signup

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:01Ted Seides?

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• 1:20Ted Seides?

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• 2:42Ted Seides?

  Hello, I'm Ted Seides and this is Capital Allocators. This show is an open exploration of the people and process behind capital allocation. Through conversations with leaders in the money game, we learn how these holders of the keys to the kingdom allocate their time and their capital. You can keep up to date by visiting capitalallocatorspodcast.com.

• 3:09Ted Seides?

  My guest on today's show is Andre Perold, the managing partner and chief investment officer of High Vista Strategies, a $4 billion firm with roots in endowment-style investing that searches for inefficiencies across asset classes. Andre was the second guest on the show where we discussed his background as a renowned investment professor at Harvard Business School and the founding of High Vista. Our second conversation covers the evolution of High Vista over the last few years. We discussed changes in the business and the firm's response by focusing on inefficient markets. We then dive into examples of opportunities in biotech, private credit, and litigation finance,

• 3:53Ted Seides?

  and close with a perspective on active management and private markets. Please enjoy my conversation with Andre Perold.

• 4:05Ted Seides?

  Andre, thanks so much for joining me again.

• 4:07Speaker 01

  It's good to be here.

• 4:08Ted Seides?

  Well, somehow, it's been 16 years since you started High Vista. And we'll replay our first recording. So we'll have the High Vista story. What's happened over those 16 years that's changed the way you think about your investing in the business?

• 4:27Speaker 01

  You know, that's such a good question. A few things. One is, the original idea hasn't changed where we're very much looking opportunistically for returns. And having the freedom to look around the world in any asset class, in any type of security, for opportunities is very powerful, provided you have the skill set to pursue those opportunities, that you have the governance to make sure that you don't go off the rails when you go to further away corners of the world. And that hasn't changed. I've always said, and I still believe, that alpha is scarce and it's transient.

• 5:09Speaker 01

  It doesn't stick around for very long because it gets competed away. And so you always have to skate to where the puck is going, knowing that it's not going to stay long in any one place. And so having the freedom to be able to do that is very powerful. So that hasn't changed at all. When I look back, I think the single biggest change has been how the opportunity set itself has changed. Investing is a game where you're dealt a hand every day. The hand is different, and you need to play the hand you dealt. You can't play a hand that you wish you were dealt. And I think the challenge for us all has been how we adapted. And I must say, I'm pretty proud of how our firm has adapted

• 5:53Speaker 01

  to get some sense of how the opportunity set has shifted. When we began in 2005, bond yields were 3% higher than they are today. So that alone is a huge difference. And what you see out there, not just because bond yields are lower by a lot, but also because the way it occurred and what has happened in the world to go with that. We had the GFC. We've had the European crisis. We've had a bunch of others. And obviously, we're now in the middle of COVID, still trying to come out of it. So I would say it's very different all the time, especially today. And yet, as I look back, we were able to put up pretty good numbers in a pretty consistent way. So that feels good.

• 6:38Ted Seides?

  So you initially said you have to look at the world as it is and not how you wanted it to be. And I know when you first started the business, even when we talked a couple of years ago, the High Vista model was a one-pool endowment model style approach. How has that changed?

• 6:54Speaker 01

  The basic idea of the one's style, the beauty of one's style, for us, style meant mandate. And it's a very broad mandate. We absolutely still have that. And the mandate is to go and find the best set of high returns that you can find, put them together in a diversified portfolio where they don't correlate that highly with each other. And then by being diversified, that's your best defense against risk. Do that first, and then think about tail risks that might occur and try and find ways to protect. And that aspect hasn't changed. And the beauty of doing that is it makes you think about the world at large all the time because you're looking anywhere and everywhere.

• 7:39Speaker 01

  That's a great strength, if you can pull it off, to be able to have such a broad mandate. So I think for us, that's a pretty key piece. But also, over time, as we found subsets that we think are more enduring, places to get alpha, clients who don't want a holistic portfolio, and said to us, what if, I do a lot of that myself, but I really like some of the things you're doing in certain component areas. And we've started to make those available. And as we've done that, that's broadened our ability to work more closely with clients of different kinds, be they family offices, we do a lot of work with, but other institutions as well. And so that's actually very exciting.

• 8:21Ted Seides?

  So as your original core model, there's a difference between finding the best opportunities you can and then having this kind of broad, diversified asset allocation approach. What was your particular way of putting that big diversified pool together?

• 8:40Speaker 01

  So I think that has changed quite a bit. And I would say, early on, it was more of an allocate to asset categories. And then within the asset categories, find the best that we could do, which I think today still characterizes most of the way allocators, endowment foundations, pension clients think. But along the way, we fairly quickly realized that It's very limiting to allocate to buckets and then have to fill the buckets. And it's much better if you can opportunistically look around for the best ideas that may not conform to buckets and then put those together. And I would say the biggest change has been how we've taken that idea a long way from where it was.

• 9:25Speaker 01

  Where today, to find those ideas, you need a very sharp pencil and look for very idiosyncratic opportunities and very inefficient markets that are a little off the beaten track, where the opportunities exist precisely because they're off the beaten track. And that requires that you be able to execute really well. It means that you're working with different kinds of specialists and different kinds of partners that are much smaller sized. And it means you need to be that much more on top of your game because you're now much more involved in working with them. It's not just delegating to people and sitting back and watching.

• 10:03Ted Seides?

  So you've described almost two different types of businesses. You have the, call it the diversified pool, which has some tweaks on it, and then offering pieces of, or I like to say the whole pizza pie or slices of the pizza pie. I'm really curious about the slices, and we'll talk about that. How do you put the two together in the diversified pool so that the overall risk profile is maybe similar to what it had been or similar to what your longstanding clients expect?

• 10:29Speaker 01

  Yeah, so that's as much a bottom up as a top down process. I think bottom up, you first need to deeply understand the investments that you're making. What are the drivers of those investments? And you know, we can maybe talk in more detail about some of these, but I'd say in something like biotech, where the fundamentals are going to win or lose based on the success of science. You don't discover a vaccine because the economy is doing better or worse. You discover a vaccine because you have great scientists who were able to figure it out. And that doesn't correlate with equities or anything, so that's nice. In credit, there are a lot of idiosyncratic credit investments that are, they're senior,

• 11:12Speaker 01

  you're getting good yields, but the reason that they succeed or fail isn't that tied to the economy. They could be in catastrophe risk areas or litigation areas or, or other areas. So, once you start to see these particular investments and you say, okay, when are they going to win or lose? And do they win or lose at the same time as everything else or not? You can get a pretty good sense of whether it's diversified or not. And I would say today, certain asset areas are more inflation sensitive than others. If you worry about inflation, which we are to an extent, you may want to emphasize some of those more than others. And others are less sensitive. And so you've just got to parse it out and it's as much a bottom up exercise as a top down exercise.

• 11:56Ted Seides?

  So do you care less and less than about, let's just call it, an underlying 70/30 or 80/20 or 60/40 or whatever it is, and more about these kind of streams of idiosyncratic drivers of return?

• 12:12Speaker 01

  A hundred percent. But you can't be, in the end, you still have to parse it. So in its bluntest form, you need to say, look, how much of a particular investment is equity like? How much is bond like and so on? And then ascribe to each investment a degree of equity likeness. And then you add those up. And if you get a really big number, you know that you probably have a lot of equity exposure. And if it's small, the opposite. And then you can manage it at that high level as well.

• 12:41Ted Seides?

  So if I'm looking at your portfolio sheet five or 10 years ago and another sheet today, I'm just trying to get my arms around, how much of the portfolio has moved towards these more idiosyncratic opportunities? And how much of it might look like, oh, we had these great managers before when we were filling asset classes and we're just keeping them because we think they're great?

• 13:05Speaker 01

  I would say today it's at least 50% in the much more idiosyncratic areas and growing. In the past, we relied more on individual managers to do the sourcing themselves around the world in many areas. And over time, we just realized that we needed to take control of that process. And in fact, change the unit of analysis from the manager to the opportunity set. And so if we discover that a certain market is inefficient, let's say it's European microcaps or something, that's the inefficiency. We should focus on that as the unit of analysis and then figure out how to take advantage

• 13:46Speaker 01

  of it, rather than look for managers and hope they work out. Here, we're sort of taking the bull by the horns and saying, no, no, no, no, we can identify the opportunities and then we'll find specialist partners that we can execute with. And I think that's a very different process. You have to think through as an investor rather than allocator. When you do that, it takes a different set of skills and a different mindset.

• 14:10Ted Seides?

  Let's talk about those differences. So let's start with the sourcing of opportunities. And in this, as you're looking for these niches, how do you spend your time differently than when you're looking for managers?

• 14:21Speaker 01

  So I think the first thing I'd say is having now been doing this for, for a decade and a half, we have an amazing team. We have a team that understands that to find opportunities, it all begins with networking. It's in the middle, it's networking. It ends with networking. You're just networking constantly. And as a firm, you build a strategic asset called your network that is profound. And we get lots of inbound calls, but we're always calling people we know and asking them constantly, many times a day, the team is on the phone, talking to experts in sub specialties, like, what are you seeing? Tell me the opportunity set. What's your favorite idea? And it's all bottom up.

• 15:05Speaker 01

  But eventually, when you go through those ideas, you start to see pictures, you start to see patterns and you say, wait a minute, that same idea is coming up in a range of places. Aha, there's actually a common theme here. Let's stand back and say, is that a theme that we can exploit? And then you say, okay, what's the best way to exploit it? And then you design a little bit more of a top down look at it, as opposed to having a more macro perspective where you're thinking about, hey, I think rates are going to rise. I think the dollar is going to go down. I think we're going to have inflation. I think equities are too high. Those sorts of macro perspectives don't really feature into what we do. They're very hard to get right.

• 15:49Speaker 01

  We don't know anyone who's any good at it. We certainly are not. And we far prefer to go bottom up and find these themes, these specialties, these inefficient markets. And then we can have real conviction and then we can design a plan of execution to go with it.

• 16:05Ted Seides?

  In that process of the design of execution, how do you think about whether you'll use a specialist or whether you've done enough information and can implement on your own?

• 16:16Speaker 01

  I think these days, it's almost all specialist related. The difference is how you execute. So today, it would be, okay, we find a specialist partner. How can we work with them? It could be you put some money in their fund, as a traditional LP might. It may be that we have better terms, better liquidity, better capacity, better transparency. We'll work very hard and fight for those. But it may also be that we execute through separate accounts or we'll co-invest with them or we'll upsize with them. So I would say there's a direct capability that goes with this that's very valuable.

• 16:54Speaker 01

  But in the end, the engine of the idea of the particular opportunity that's being discovered and you want to exploit is through an expert. And the direct stuff for us is mostly about how to execute really well.

• 17:09Ted Seides?

  What is the breadth of these strategies that you've pursued? And then maybe we'll dive into one or two.

• 17:15Speaker 01

  Let me first say that there are certain markets that are inefficient, that don't avail themselves very easily to be exploited for alpha. An example would be, I think it'd be any frontier markets. It's not always clear that the accounting is right. It's not always clear that the people running the firm aren't conflicted, that there's transfer pricing, what's called tunneling, where they ship things between firms and you don't really see it because you don't have the means to see it. There just isn't the transparency. In some cases, the governance of these firms isn't great. Even if the price is wrong, you don't quite know it's really wrong.

• 17:56Speaker 01

  And you also don't know what catalysts there are to give you the return that you are seeking. So I would say in markets like that, they're inefficient, but not in a way that is helpful. The best inefficient market is one where everything's perfect, except the price is wrong. And if everything's perfect and you can see it and understand it completely and handicap it, and all that's wrong is the price, it's so much easier to invest and take advantage of a price anomaly. So it's sort of like a treasury bond. Most treasury bonds are trading at par, but there's one with the identical coupons in principle. That's a treasury bond, trading at 90 cents, you know it's a steal.

• 18:38Speaker 01

  And you just have to know it's 90 cents versus par to take advantage of it. But everything else is perfect. That's the ideal. And the question is, how close can you get to that as you're looking for these opportunities?

• 18:50Ted Seides?

  Yeah, I mean, it sounds wonderful in theory. So where have you found some of these in practice?

• 18:56Speaker 01

  So I think it's a matter of degree. I think that China equity market is a very inefficient market. It's a huge retail presence in that market. It's dominated by retail investors still. It's vast, but within it, you have hundreds and hundreds of quality firms that actually a skilled person set up to do research in that area, who's very connected there, can find great growth companies and do pretty well. And we absolutely believe that and we understand the inefficiency. China is the one exception to the rule that an inefficient market is small.

• 19:37Speaker 01

  It's an enormous market that still seems to be quite inefficient, not just in equities, but in other securities as well.

• 19:45Speaker 01

  Other markets, I think in the smaller cap areas, in the micro cap spaces, micro cap public equities are sort of almost private companies. They're not liquid, they're not widely followed, they're not well understood. There's a lot of stuff, I think, in the small cap market that is very inefficient, but you need to pick your spots and be pretty careful about what you're doing there. But that's another example.

• 20:10Ted Seides?

  What's your favorite space of all of them?

• 20:12Speaker 01

  So biotech is maybe my favorite example because it's for us so clear to see what is going on there. At its highest level, you have today some 600 public companies in this country, about out of 4,000 total public companies. So that's about a seventh of all public companies in this country are in biotech per se. They're small caps, so the total cap's about 600 billion out of 36 trillion. So a very small cap, but a very large number of firms. And the reason they exist is that pharma is not good at R and D. These little firms all do R and D, they do drug discovery on the path to drug commercialization.

• 20:54Speaker 01

  And what we find, you know, they exist because pharma isn't good at it. And the capital markets have figured out that, hey, pharma, you shouldn't do this. We'll fund these little biotech companies. At first, they're nascent firms that are created by venture capitalists and others. And then as they become successful, they eventually go public. And more of them have been going public than any other piece of the capital markets, something like 50 a year. It's remarkable to see this year has been a very vibrant IPO market in the space. These firms are all trying to discover the next good thing. What feels very good about the space is that you're actually curing diseases and helping people. That feels good.

• 21:37Speaker 01

  The wind is in your back in this area because there's been so much of the gains made in the genome and other areas that technological advancements are profound. So our ability to create new drugs, discover things, make them effective and safe is quite remarkable. So it's a very growing space. So all of that's good, but the best part, the reason that there's a money-making opportunity is because it's inefficient, that these are individually little companies. They each are idiosyncratic, they're the same in the sense that they're doing drug discovery. They all have to go through the FDA many times. They all need a lot of financing, they all burn money, they don't really have revenues for a very long time.

• 22:21Speaker 01

  And yet their particular science is very unique to each one. Someone pursuing an area of heart disease has nothing to do with the success or failure of someone in the area of lung cancer or something. And so what it means is they're idiosyncratic at the level of science and opportunity. They can be home runs, these little firms, but they can also do pretty badly. You get clinical trials that don't work out, a stock can fall by 80% in a day. It can double in a day. And so you get the prospect of very high returns, but you need to know what you're doing. The reason it's inefficient is that because it's small, the big smart money can play. What you need is the small smart money to play.

• 23:07Speaker 01

  And so the cat's gone and the mice are out here to play. And yet there are a lot of tourists who make it inefficient, who will go in and out as tourists. These stocks aren't very liquid, so you can't easily come and go. So when people do come and go, they move prices. The fundamentals you can ascertain if you know the science and can and research it carefully. And so it's an area that's inefficient. You need domain experts. They need to be small to get the biggest bang for the buck. And we have found if we can execute on this through a portfolio of different kinds of strategies with different kinds of experts, we're doing it a bit differently, you get great diversification.

• 23:49Speaker 01

  So it just checks every single box of the type that I was describing earlier.

• 23:54Ted Seides?

  What are the characteristics of the managers that you've selected to partner with in the space?

• 24:00Speaker 01

  I think the characteristics are all, they all have the ability to figure out the signs. They may not be MDs or PhDs themselves, but they have been around long enough. They're deeply versed in it, they now have a call on experts, they have the networks to be able to do the work. They have others who work for them who are, so they can figure out the signs. Think of that as understanding the fundamentals of these firms. And then they're good investors as well. It's not enough to know the science, you have to be a good investor. Often, things are not obvious. You get a clinical trial where they had the dose wrong and the trial works out badly.

• 24:44Speaker 01

  And some people don't quite see that, so they sell as soon as it comes out, thinking it's bad. And the smart money says, hey, wait a minute, it was just the wrong dose. We know when you put the right dose, it's going to work. Others dumped it, it's a bargain. But if you owned it before and it fell, if you're not a good investor, you may be tempted just to run as well. And the good investors understand when to double up and when not to. So it's a combination of someone who's a good investor, who has a deep understanding of the fundamentals and who can do both sides of that.

• 25:16Ted Seides?

  We think a lot about stock pickers, that someone who has a 55 or even 60% success rate can be pretty heroic. And I'm curious, in a sector like this, where, as you mentioned, the ultimate outcomes can be so binary, do the hit rates or the success rates of the good stock pickers, are they similar to those levels? Or do they have to be higher?

• 25:37Speaker 01

  I think it's an interesting area because you have such big winners over time. You can have a little company at 50 million that has a drug that can replace an incumbent that has a market cap of 10 billion. And so the upside is just absolutely monstrous. It's not going to happen overnight, it may happen over 10 years, but there is huge upside. So if you can hold on long enough, you're going to get phenomenal returns. And that's more of a slugging percentage idea. Certain strategies are based in the very short term, where you're looking at the results of clinical trials. You have a view on, the market says, this one's going to be great. The results are coming out next week, they're going to be great.

• 26:21Speaker 01

  And you think otherwise, and you can bet on that for a week, long or short. And so depending on your strategy, it could be much more of a hit rate approach, where you're just doing very much a wash, rinse, repeat all the time. Or it could be a much longer buy and hold strategy, for the most part, which becomes more of a slugging percentage. And so both things are very much present in this area.

• 26:45Ted Seides?

  And do you have a bias with the individual managers about the level of concentration in their portfolios?

• 26:51Speaker 01

  Yes, so what happens in the space, it's inefficient. If you really do your homework, you can figure that out. So the managers, who, as I said, are small smart money, they love what they see. And so they just love the idea of having 10, 15 stocks in a portfolio. So imagine you have 10, 15 stocks in a portfolio, each of which is risky. Obviously, they hold it because they think they're going to do well. But the fact is, it's risky. So what we love about it is it means that they have high conviction. So these are specialists that we work with, they have high conviction, we love it, but it's still risky. So for us, if we can find a range of such experts who do it differently, one of the nice things in the space is there are many ways to do it that don't really overlap.

• 27:35Speaker 01

  So you're not giving up much return by spreading your money among different strategies, but you are spreading your money among each of which is a very high conviction approach in the space. And then we get the diversification, we get the benefit of their concentration and their conviction. But yet we're not bearing nearly as much risk because we are diversified.

• 27:54Ted Seides?

  So how have you thought about risk and return on your portfolio of these managers?

• 28:00Speaker 01

  If you look at biotech stocks, they're extremely wild. If you look at biotech indices, they have at least twice the volatility or typically twice the volatility of equities. A typical manager, because they're so concentrated, also is not quite as high as twice the volume of equities, but pretty high. By being diversified, and we also do a little bit of hedging, we can get that ball down to mid-teens, 15 or so percent, which is very similar to equities.

• 28:29Speaker 01

  But you get all of the alpha, much higher return. And the correlations are very low. The correlation with equities of the strategies is something like between 0.5 and 0.6, which is a pretty low correlation. So now, if you asked earlier about how do you create a diversified portfolio? If you were going to own equities and you have a chance to put some of your equity exposure into this strategy that has similar vol to equities, but a low correlation and a higher return, it's a wonderful diversifier.

• 28:59Ted Seides?

  So if that's your favorite example, what's your second favorite?

• 29:03Speaker 01

  I think the second favorite would be corners of the private credit markets. Credit is as vast a space as any asset class in the world economy. It's huge. A lot of credit is safe or on the safer end. There's high yield and stuff, but at the level of private credit, a lot of folks, a lot of firms don't have easy access to credit. There's a reason why. There's something that isn't easily figured out. And the big lenders have machines, the big lenders in particular banks, they have a sausage machine of wanting to have loans conform to certain criteria where they can score them and they don't want to do too much work for each loan.

• 29:48Speaker 01

  And so when something fits their criteria, they can make the loan and it'll be at relatively low rates. But what if it doesn't fit? Then that's where private credit steps in and says, okay, we can configure a loan. We're finding there's all sorts of things to do in niche corners of the credit markets. There are corners of the litigation finance market. There are corners of the catastrophe risk markets, corners within energy distress, corners within small ticket European distress, some mass lending in certain cases. There's this stuff in aviation finance. There's just a very wide range. If you just look at the credit space, it's vast. And within it, there are corners that are just not that efficient because credit is

• 30:32Speaker 01

  really hard work. Credit isn't about being a genius investor that has epiphanies all the time. It's really about finding borrowers that need help, finding borrowers that have very high cost of money, and then finding ways to create a loan that's going to give you a very nice return. But a lot of that return is payment for the work you're doing. That work means you have to perfect collateral and you have to perfect title. You have to set up the loan in a way that protects you in a range of scenarios. And that's just hard work. And so you're being paid for work as opposed to being paid for epiphanies and genius. We love that. The more you can reduce investing to just hard work, it's awesome.

• 31:15Ted Seides?

  So if you picked out one of those corners of the market, you could take your pick, litigation, finance, aircraft leasing, whatever it is, I'd love to hear the story of how you came about it and how you went through and did your work and partnered with managers in the space.

• 31:30Speaker 01

  Yeah. So let me talk about litigation finance as an example. This is where you're lending to folks who were awarded judgments that are being appealed. So let's say someone's awarded a judgment of $50 million. It's being appealed and you need to defend the appeal because if the appeal succeeds, you're not going to get your money. You need money to defend it. And so through a specialist partner, we will fund the loan. And then that partner has to make the judgment that this is a good bet. And so we, fortunately, through our network, we found a firm of folks who were lawyers before, who were doing this, who realized they can turn it into an asset management business.

• 32:15Speaker 01

  We helped put them in business and we have certain rights. We have a share of their investment capacity comes to us. And they do, as I said, it's hard work. They do one loan at a time. They have to source the loans. They have a network. They're making judgments. These loans are out for a year to three years. You can, in some cases, double your money if it succeeds. You can lose it all. So it comes down to hit rates and they're just really good at doing it. And it's a tiny corner of the space, zero correlation. What makes a lawsuit succeed or lose has nothing to do with whether the markets were up or down in that moment. And so you can get these returns because it is off the beaten track.

• 33:00Speaker 01

  They are capacity constrained. And so there's a limit to what we can do, but for that little piece, that's just terrific.

• 33:07Ted Seides?

  So if you take a step back and think about your business implications of these strategies, how do you figure out whether one of these niches has a long enough duration that you turn it into a product as opposed to something that is a great investment opportunity, but maybe more ephemeral in nature?

• 33:29Speaker 01

  I would say on the latter type, the ephemeral ones, they come and go all the time. There are opportunities there. These are more where you need to, again, it's under the heading of you want to find a phenomenon that exists out there. It's a certain sector of the world where capital is scarce, the big money can play. It requires great specialization. It's got to be inefficient. You need to understand the inefficiency. And then you need to find players, specialists who can actually succeed for you. And it's that combination. So when you see an inefficient market and you see that and you find these specialists, you can make a judgment that's, okay, this is going to go on for a while.

• 34:13Speaker 01

  And if we can find more than one specialist, maybe a range of them, we can bet that'll be there. Our job is to keep reaffirming that the inefficiency is there and that the specialists are still available and they're not being swamped with capital. And so I think that's what it takes to form a product. So in the case of biotech, it is one area, but in credit, it's actually a wide range of areas that are all put together. So we're sort of betting that we can find a range of these inefficient markets and take advantage of them. And that there's enough out there to make it worth our while and that we can give our clients a really good investment that is spread across of those.

• 34:52Ted Seides?

  Before you started diving deeper into these niches, you were, like many people, out looking at great managers in, let's just call it more traditional markets, even if you want to say a long-term equity hedge fund is a traditional market. Curious what you think of active management in public equities and credit, let's just say, that aren't in these niche corners of the world?

• 35:17Speaker 01

  In active management more broadly, and let's just take equities, even large cap equities, I do think it always surprises me how short-term the markets are. And the managers will say this and you sort of shrug it off, but it's true that the markets don't look very far out. The markets are focused on this quarter, next quarter. They don't look out five years. The markets have a great problem looking out five years for some reason. Three to five years is very difficult for people to want to bet on. And they'd like to see near-term confirming evidence. And because of that, especially in a world where the future is brand new.

• 36:00Speaker 01

  So if you look in the area of tech, for example, and right now, we're at a moment of extraordinary innovation, partly COVID has accelerated all of that, but the digital transformation is enormous. And so things are going to be happening three to five years out that are remarkably different from today, but it's hard for people to see it. And when they see it, do they get really high conviction? And if you see the future a certain way and it goes against you, how do you persuade your sources of capital that it's still good? So there is absolutely a sense of time arbitrage in the markets. I think you see it in all markets. And as long as that's the case, I think longer dated concentrated active management will always have a place.

• 36:44Speaker 01

  I don't see it going, even in the largest cap stocks, I think it's there, which is nice and it's very healthy. And it means that those who have the patience and can have the staying power to live through these ups and downs, they have very nice returns to be had.

• 36:59Ted Seides?

  Probably alongside of that, we've seen a huge flood of capital going into, say, private equity, private markets, probably for the same reasons. What's your take on what's happening in private equity land?

• 37:12Speaker 01

  The great thing about private markets is that they've become so big. And they've become big, I think, for two reasons. One is that being public is expensive. SOX 404 for companies to conform just to that, but many other things. The regulatory costs of being public are pretty high. In certain areas, being public is cheap, like biotech, the markets love these little things, but for the most part, being small and public is pretty expensive. And so a lot of firms go private and ones that are private delay going public. And so there's a supply of privates there. At the same time, there's just huge amounts of capital that has grown over time, trillions of dollars now seeking private equity.

• 37:55Speaker 01

  And some of it is because they don't, private doesn't mark nearly like equities, not as volatile or based on marks. So that's attractive. But the fact is, there's a lot of sophisticated capital. So there's a lot of supply of privates and demand for privates at the same time. And what's exciting about that is I just think like any other place, there's inefficiencies of many kinds. We are seeing there's an inefficiency, it very much feels like, in private firms, pre-IPO privates, for example. You see that in many areas where if you can get in at the round before they go public, and certainly in biotech, but other areas as well, that's very nice. Taking companies private is a very interesting area.

• 38:38Speaker 01

  I think there's huge amounts of money tied up in private equity funds. At the end of life of those private equity funds, you know, private equity fund will say, we have a stated life of 12 years or 10 years, but we have the option to extend. And then very often they will extend a few years and then they'll come back and say, well, we need even more extension. And as you get to near the end of life of these funds, stuff happens where people get impatient, they want to wind up the fund, they have some interesting assets in the fund they want to sell. The existing LPs want out and there are opportunities to pick up some phenomenal assets that are being sold, but they're not public, so they're not traded. And you need to be in the loop and in the network to be able to get, take advantage of these.

• 39:23Speaker 01

  You know, in venture capital, you'll see in the, early in the life of these private companies, there are pro rata rights that you can get, rights to, to invest in the next round, rights to do all sorts of things. And often the original investors don't want to exercise those rights and you can get the rights to do that. So there's a very wide range of things you can do in the space. You need to be set up for it, but there's a wide range of places to pick your spots in, in the private markets, private credit similarly, but certainly in private equity. And that's also pretty interesting.

• 39:57Ted Seides?

  One of the things you haven't expressed is a broad concern over pricing of capital markets. I'm curious what your thoughts are about risk today.

• 40:07Speaker 01

  I was just looking at it recently. It's very interesting, you know, the last 15 years that we've been in business, if you look at the return on the S and P, it's nine percent a year since the late 2005. Of the nine, three percent a year has come from multiple expansion. And that three percent a year is entirely consistent with a three percent decline in bond yields over the same period. So equity, you know, PE multiples have gone up by roughly 30% from something like 15 and change to about 20 today. Those are forward multiples on the S and P. It's true, and the three percent multiple expansion is true in other markets. It's, it's true in worldwide almost.

• 40:49Speaker 01

  So it really feels like we've had multiple expansion, which is the wind in your back as rates have come down. Going forward, what's tough is that you think of a 60 to 40 portfolio, 40 of the 60 is earning zero.

• 41:04Speaker 01

  Okay, zero real or maybe even negative real. And if your PE is 20, that's an earnings yield of five. Now, an earnings yield of five, if bond yields are zero, it's got kind of a risk premium of five. So it's like, okay, there's a risk premium of five and I'm gonna, but that's my, that's like a five real on equities maybe, times point six is three and I get zero on the 40. So I'm getting three real on a 60 to 40 portfolio. That's pretty tough. At the same time, that rates don't have much further to come down, if anything. So you don't have the wind in your back of multiple expansion that you can look forward to. And if anything, there's maybe a risk of multiple contraction. That's not a forecast.

• 41:45Speaker 01

  You will see multiple contraction, but it says that the current levels of PEs are aided by low rates. And so going forward, returns, it's hard to see how you can say the aggregate returns will be very high. They're not, which is for us, we sort of view that as that's our business is to help our clients who would otherwise be getting three real, help them find, you know, opportunities to do a lot better than that in a diversified portfolio of these niche opportunities. That's our task because the three real is low and it maybe is a risky three real. And you've got to worry about inflation, you've got to worry about those things. At the same time, I would say that I think it's also pretty exciting.

• 42:29Speaker 01

  If you look at the marketplace today, I think like two thirds of market cap is really in growth areas today of the, of the S and P. And it's there for a good reason. It's there because the future is going to be different. Our tastes are different, our buying habits are different, the technology is allowing us to do the things differently because of COVID. We may not all go back in the office, just the future is different. And in a way, it's very exciting because it means that there are firms and businesses that'll be very exciting to be with. There'll be a lot of innovation. And so I would say within the growth areas, again, you need to know what you're doing, but if you can pick your spots, that's exciting.

• 43:11Speaker 01

  The non-growth areas, I like to call them mature areas as opposed to value. I think values are a misnomer, but mature businesses are like financials and energy and real estate and consumer staples and things like that. Within those, they've been really hard hit by COVID. And the forward looking earnings there are, they're not expected to catch up to pre-COVID until, you know, another, at least two years from now, if at all. And so they're pretty beaten up, but there's a lot of bottom fishing opportunities there. And at the same time, those are also more inflation sensitive areas. And so I think, you know, if you look at financials, if we get high inflation, bond yields will go up probably. That's good for financials. It's good for credit.

• 43:56Speaker 01

  If you have inflation, the assets go up relative to liabilities, so credit's improved. So if you're looking for inflation sensitive assets, the mature ones are better places to look. Anyway, it's actually a really interesting, so while top down, the returns don't seem high, the opportunity set looks pretty interesting from a bottom up perspective.

• 44:17Ted Seides?

  So if you're looking out five or 10 years from now, what does HighVista look like?

• 44:22Speaker 01

  I think for us as a business, what's exciting is, leaving aside the excitement of trying to find opportunities, it's that clients, we all have the same problem. We're all trying to not be in the 60 to 43 real bucket if we can avoid it. And we find our clients want to know what to do about it. What do you do for bond substitutes? How do you get returns? How do we do it? And so I would say the opportunity set for us to work with clients pretty closely and help them see the world the way we see it through a bottom up that becomes a top down perspective, aided by all these specialists that we work with, is a very valuable thing.

• 45:04Speaker 01

  So I would say working much more closely with clients, we see the world quite broadly and interestingly and in a differentiated way. And that means the opportunities to work with clients are that much better. And so I think that interface of us being a strategic partner with clients is just going to grow and grow and grow. And I think that's a very exciting part of the business and that will be, over time, that has grown for us and, and is changing the character of the firm as we go down this path.

• 45:33Ted Seides?

  So historically, you always had a balance of extracting, let's call it betas that were easy to do internally, some of these alternative betas, and then mixing it with some external managers. As you do more specialists, does it get harder to do internal implementation?

• 45:52Speaker 01

  I would say internal implementation for its own sake is something we're doing a little less of and we do much more of, of the internal is simply a way of expressing what a specialist is doing. And so if they have great ideas, we can buy more of those on our own balance sheet. We can do SMAs, we can co-invest, we can work with them to see other opportunities and sometimes do those on our balance sheet. A great example was in March, when the market, it was a massive dislocation. You had mutual funds being redeemed. They were dumping triple A bonds, especially triple A munis were being dumped at crazy prices. Triple A bonds that were trading at 140 were selling in the eighties.

• 46:37Speaker 01

  And, you know, credits like the best IDs, for example, were among those that you know they weren't going to be impaired. And by having a muni specialist, we could figure that out and we could trade on a spark with them. And if we didn't have the direct capability, it would have been much harder to do, but it was still working with a specialist to be able to execute that.

• 46:59Ted Seides?

  How do you see HighVista evolving over the next five or 10 years?

• 47:03Speaker 01

  I think we're a firm that like every other investment firm, you always have to keep developing your edge and you always have to be able to evolve and innovate in a very competitive world. And I think in our case, working with smaller specialized firms in nicheier areas is a very big piece of our future. But working alongside them and doing direct investing, in many cases with their help, so that as we execute, we can be that much more efficient, bring costs out of the system, have more liquidity, not do everything in an extremely illiquid way, have much more flexibility. I think that is our future. There is a bit of a convergence.

• 47:48Speaker 01

  I think if you look at most firms that are deep in the active space, they all have networks, they all have people they talk to, they all have ways to develop expertise on the fly when there's an opportunity. We have our particular way of doing it, but every firm does that. And I think, I just see us going more and more in that direction.

• 48:09Ted Seides?

  All right, Andre, I want to turn to some closing questions and we'll do it in two sets as always. We'll do, we'll do the first set and then we'll have a few extra ones for our premium members afterwards. So what's your favorite hobby or activity outside of work and family?

• 48:23Speaker 01

  I love the outdoors. I love nature. There's something about being in, out in nature that is very tranquil. It just takes your mind off of the day to day stuff you're doing. So for me, golf and skiing particularly, skiing out, you know, high up in the mountains with stunning views or playing golf in a beautiful environment. I just love it. So those sorts of things to me are very special.

• 48:48Ted Seides?

  What's your most important daily habit?

• 48:51Speaker 01

  I had to think about that one because I guess we get so bound by what we do every day, we don't even notice. But I realized, you know, every day I get up, I walk the dog, later in the day, I walk the dog, I taste my espressos, I have espressos at certain times of day. It's a set of habits that gives a sort of structure to the day that I just love it.

• 49:11Ted Seides?

  What's your biggest pet peeve?

• 49:13Speaker 01

  There's a lot of those. I don't know if it's a peeve or an observation, but I just think people don't like to think for themselves. People love safety in numbers. They seek safety in numbers and you see it in places where you shouldn't be seeing it. In the investment space, so many people like to do things that others do. They like to be in a herd. There are actually very few original thinkers. Everybody copies everybody else, but they all pretend to be doing their own thing. So the peeve is that people claim to be doing original work, but you know, they're just copying other people's stuff. And you see that in research, you see that in ideas, you see that in almost every aspect of investing, but obviously you see it in every aspect of life as well.

• 49:57Ted Seides?

  What teaching from your parents has most stayed with you?

• 50:00Speaker 01

  I think my parents taught us as kids to figure stuff out and do things ourselves. And what, so the lasting effect has been to have the confidence to figure things out and then do it. So a lot of self reliance and the confidence to be self reliant, I think is just a very powerful thing.

• 50:21Ted Seides?

  All right, last one. What life lesson have you learned that you wish you knew a lot earlier in life?

• 50:26Speaker 01

  Over time.

• 50:28Speaker 01

  The more you're experienced in dealing with people and firms and the real world, you realize that there's always a game being played of some kind. And understanding the game that's being played is a very big deal. And yeah, just don't take things at face value. It's so easy growing up. You believe in things, you trust everything. And I think it's easy to be naive on these things. And I for sure had my share of being naive, but you just come to realize it's a pretty important skill to have. And the sooner you get it, the better.

• 51:02Ted Seides?

  Andre, so much fun. Thanks as always.

• 51:05Speaker 01

  Thank you, Ted. It's great to be here.

• 51:08Ted Seides?

  All right. Now, normally I say we're going to let our hair down and finish these last questions, but you and I both know there's not a whole lot of that going on with either one of us. I'm going to ask you a couple more. And before we let you go here, what advice do you give to early career professionals?

• 51:23Speaker 01

  I think people need to appreciate that the real world's a very tough place to compete. What I say to people is the only way you're going to succeed is if you're hugely motivated. So don't do anything where you're not motivated. If you're going to pick stocks, you have to love picking stocks. It's not enough to just do it as a job. You won't be very good at it. So motivation is really important. I think you need to realize your most valuable asset is your human capital. And so if that's your most valuable asset, what are you doing to invest in it? And grow your human capital and sort of consciously having a roadmap for doing so.

• 52:05Speaker 01

  For example, in our space of investing, having a network is critical. Developing, growing the network is a very big deal. And learning to do so takes skill and it takes practice and it takes determination. I already talked about, you know, I understand the game people are playing, but I think people need to realize that not only must you understand the game you're playing, but learn also as needed, if you can, sometimes you can change the game. And just be very aware of what you can do and what game is being played against you. At the same time, people are afraid to take risks, especially when you're young. You absolutely have to keep taking risk, a lot of risk, but just be smart about it.

• 52:49Speaker 01

  But not taking risk is just a terrible idea. If you're going to fail, that's fine. We're in a very forgiving world where failure is not a terrible thing. If you're going to fail, fail often, then you'll end up doing really well. And that sort of relates to making your luck. I think you need to put yourself in positions where you sort of make your luck, where good things can happen and you can take advantage of them. You know, it's a version of you can't win the lottery if you don't buy a lottery ticket. It's sort of that very basic idea. So those are some of the things that I love to tell people.

• 53:23Ted Seides?

  What are the kinds of conversations you're having now with your peers where they're seeking your advice?

• 53:29Speaker 01

  I think everyone's trying to build a business. It depends which peers we're talking about. If it's others in businesses similar to ours, it's what's going on in markets, what's going on with clients. I still think that in the investment business, it gets to the issue of the end clients need somebody they can trust and they value the ability to be able to trust and work with you more than almost anything. So being super close to your clients, if your clients can trust you, then you can do wonders with them. Their ability to be better investors themselves goes way up. And your ability to do better for them and for yourself and for your firm also goes way up.

• 54:09Speaker 01

  So if you build your firm around this notion of trust in a very explicit way, I think the worst is you'll be okay and the best is it could be an extraordinary business.

• 54:20Ted Seides?

  What's your favorite piece of writing? Could be favorite book or maybe something online.

• 54:24Speaker 01

  So I'm going to mention in COVID, I haven't been doing a lot of reading. I've been, we've been watching stuff. And so if I can talk about something I've watched recently, we watched a documentary called My Octopus Teacher. It's set off of Cape Town and it's a story of a snorkeler who spends a year with an octopus and actually befriends the octopus. And it's just a very touching story of how a human being can get something like an octopus to trust them. And you learn about how this octopus lives and protects herself and the life cycle of that species. But it's just such a wonderful metaphor for life.

• 55:09Speaker 01

  And so as I was watching it, I was just so struck by the parallels to what you need to do, just working with people instead of an octopus. It's fantastic. So it's one of the funnest things I've done in quite some time.

• 55:21Ted Seides?

  What's been your biggest mistake and what do you learn from it?

• 55:25Speaker 01

  I think this is going to sound platitudinal, but Einstein, I think is the one who said the definition of insanity is doing the same thing over and over again, but expecting different results. The mistake I've made is not to realize how often I was doing the same thing and expecting something different. So the issue is how long you do the same thing before you realize that's what you're doing. And the mistake was doing it too long, too often and being very sensitive to it. It makes a difference when you sort of think that way. As we conduct our business, as you have relationships with people, realizing that you're not always as sensitive to what might really be going on. And you keep pretending it's something else.

• 56:10Speaker 01

  And then you realize, oh my goodness, it isn't what I thought, but why did it take me so long? And there are many versions of that and iterations of that, where we all have patterns of behavior, where we do things for good reason, the same thing all the time. And then some of those you're just perpetuating, something that isn't so good.

• 56:30Ted Seides?

  Andre, thanks again. Really enjoyed it.

• 56:32Speaker 01

  I thank you, Ted. Very much enjoyed.

• 56:36Ted Seides?

  Thanks for listening to this episode. I hope you found a nugget or two to take away and apply in your investing and your life. If you'd liked what you heard, please tell a friend and maybe even write a review on iTunes. You'll help others discover the show and I thank you for it. Have a good one and see you next time.