Ted on Alt Goes Mainstream (EP.458)

Once in a while, I take a turn on the other side of the microphone and share it on our feed when I've said something different from what I have in the past. I recently appeared on Michael Sidgmore's Alt Goes Mainstream podcast, which focuses on the intersection of private markets and wealth management. Michael was the first guest on our Private Wealth mini-series and asked me to share my lessons from that mini-series on AGM when it concluded. Our conversation covers David Swensen's lasting legacy, perspectives on private market interest from the wealth channel, parallels of private equity and the hedge fund industry, behavioral biases in manager selection, and the power of content in asset management. Please enjoy my turn on the other side of the microphone, with Michael Sidgmore on the AGM podcast. 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 Editing and post-production work for this episode was provided by The Podcast Consultant (⁠⁠https://thepodcastconsultant.com⁠⁠ https://thepodcastconsultant.com/)

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

• 0:06Ted Seides?

  I'm Ted Seides and this is Capital Allocators. Once in a while, I take a turn on the other side of the microphone and share it on our feed when I've said something different from what I have in the past. I recently appeared on Michael Sidgemore's Alt Goes Mainstream podcast, which focuses on the intersection of private markets and wealth management. Michael was the first guest on our private wealth mini-series and asked me to share my lessons from that mini-series on AGM when it concluded. Our conversation covers David Swensen's Lasting Legacy, perspectives on private market interests from the wealth channel, parallels of private equity and the hedge fund industry,

• 0:51Ted Seides?

  behavioral biases in manager selection, and the power of content in asset management. Before we get going, it's time for all our back-to-school rituals. Time to shop for clothes, buy a few pencils and notebooks, or update electronic devices as the case may be, adjust sleep schedules, and launch into the excitement of new teachers, classrooms, and classes. But rather than hear about it from me or my kids, who are long past the precious ages of first day of school photos, I thought you might enjoy hearing about it from the Capital Allocators family. Here's Blake Arguelo, Morgan's nine-year-old daughter.

• 1:32Speaker 01

  I love school because I get to see my friends that I didn't see over this summer.

• 1:37Ted Seides?

  And another, from Galia Arbach, Tamara's seven-year-old daughter.

• 1:42Speaker 02

  I love school because you get to see old friends and new things.

• 1:46Ted Seides?

  The lesson from these adorable kiddos is the same as investing in managers. It's all about the people. And when it comes to connecting and learning with your peers, there are only two ways I know to bobble up similar enthusiasm in adults coming back to school. First, investor relations and business development professionals can join us at Capital Allocators University for our next course in December. Birdly Bird Rates will last another week. And for everyone else, you can tune in right here for a modern version of the classroom each week and tell all your friends to join your class. Thanks so much for coming back to school with Capital Allocators. Capital Allocators is brought to you by AlphaSense.

• 2:30Ted Seides?

  Every allocator sits at their desk for hours preparing the work around investment decisions, getting up to speed on a new theme, prepping for the next investment committee meeting, and tracking what changes across an entire portfolio. AlphaSense just launched something built to help. It's called SuperAnalyst, an always-on agent that works like a power user on your behalf. It draws on over 500 million premium sources, including broker research, expert transcripts, company filings, and earnings calls, and keeps working long after you've gone home for the day. Point SuperAnalyst at a theme, company, or market, and it learns the coverage universe

• 3:11Ted Seides?

  so you can easily turn new insights into the briefs, models, and memos you'd otherwise build by hand. It was designed to work like an extension of your team, so it remembers your projects, follows your templates and processes, and links every output to its source so you can see where each conclusion came from. The best way to judge its quality is to give it a whirl. Pick the research task on your desk before your next committee meeting and hand it to SuperAnalyst. Start a free trial at alphasense.com/capital and see what it has ready for you. Capital Allocators is also brought to you by RidgeLine, the investment management platform built for firms who are rethinking how work gets done.

• 3:56Ted Seides?

  You're at your desk looking at a line graph of your firm's growth. The line is moving sideways, linear growth, and you know exactly why. You're constrained by your operational bandwidth that's been the same for so long, it just feels like the cost of doing business. RidgeLine is built to change that line's trajectory to be the inflection point that takes your growth from incremental to accelerated with the team you already have in place. RidgeLine is the only AI-native investment management platform that brings together the front, middle, and back office with one set of data and powerful AI agents that automate away operational drudgery. So your talent can shift from managing old

• 4:38Ted Seides?

  technology to materializing new ideas. RidgeLine helps asset and wealth managers understand and improve their firm's growth trajectory. To see how your firm compares to 16,000 of your peers, visit ridgeline.ai/trajetory. If you file Form ADV, your firm is already there. Then talk to RidgeLine about how you can do more with the team you already have. Capital Allocators is also brought to you by Juniper Square, the operations partner trusted by the leading private market GPs. One theme that keeps coming up on the show is GPs that build the strongest and most durable relationships with LPs are the ones

• 5:20Ted Seides?

  that have both strong returns and strong operations. AI raises the stakes on operations, and having Juniper Square as your operations partner helps ensure your data is organized, accurate, and accessible so you can unlock operational alpha. That's why thousands of GPs trust Juniper Square. Learn more at junipersquare.com/capitalallocators. Please enjoy my turn on the other side of the microphone with Michael Sitchmore on the Alt-Goes Mainstream Podcast.

• 5:56Speaker 03

  Ted, welcome to the Alt-Goes Mainstream Podcast.

• 5:58Speaker 04

  Well, Michael, it's fun to be on the other side of the mic right after you are on Capital Allocators.

• 6:02Speaker 03

  It is. Two podcasters walk into your room. What happens? You've built an amazing business at Capital Allocators. And I'm sure some know this, but others may not. You have been an allocator. Yale Endowment and then with Pro J Partners, hedge fund side, hedge fund to fund. So you have a wealth of experience on the institutional allocator side. So we'd love to just hear your journey to where you are today.

• 6:23Speaker 04

  You've got most of the highlights. I graduated from Yale in 92. My first job out of college was working for David Swensen at the Yale Endowment, long before he wrote his book. He had been there for seven years when I joined. And I worked with him for five, covering mostly public equity, US, international managers. They had an internal bond portfolio that was index plus. And I ran that actually in 94, which was the year of big interest rate spike. To create an index fund wasn't that interesting, but it was an interesting time to do it. And I just learned a tremendous amount from David and the team.

• 6:55Speaker 03

  What did you learn that's probably been most impactful on your career?

• 6:59Speaker 04

  You could look at David, the person, David, the investor, David, the leader. And there are things in each of those categories. As an investor, he approached the world from, he called it first principles. But think of it as basic economic principles rooted in research that would guide you to where you would go. So back then for Yale, that meant you had long dated assets and liabilities. You had pretty reasonable spending over time. You had to keep up with inflation. So that led to equity orientation. You said, you want to be diversified? Back then, most people had US stocks, if not US stocks and some international stocks. And so they became known as the Yale model or the endowment model, this multi asset class approach. But it was rooted in this idea of what are you trying to deliver?

• 7:43Speaker 04

  What's the best thing for Yale in particular? And then he had this extreme discipline that I think most great investors have. And what that discipline is guided towards can change based on the strategy. But to see that every day, before you knew anything else, I was right out of college, to learn these incredibly valuable lessons at a visceral level, because you were there experiencing it, was just an extraordinary investment education.

• 8:07Speaker 03

  That's so interesting when you think about the evolution of the endowment model on the institutional side.

• 8:14Speaker 03

  How do you think about how the wealth channel can look at the way institutional allocators have approached both public and private markets and take some lessons, maybe also not take some other lessons if they're solving for different needs in certain cases, but what do you think that the wealth channel can really learn from the institutional allocator mindset and specifically the endowment model?

• 8:36Speaker 04

  So David wrote a second book that didn't get nearly the traction of the first book, and it was geared towards individuals. There are certain aspects of the model that can apply broadly. And I would think about that as what's the market giving you, and then what can you extract from the market? So the market's giving you beta. And if you're starting with stocks and bonds, there's a lot of different betas you can create to have better diversification over time. And that's what he preached in this book. It was early ETFs, and you could do a REIT ETF for your real estate, and you could do a bunch of different things. So you can learn certain disciplines, like what that asset allocation framework is, rigorous rebalancing, things that just can add value over time at a low cost. And lots of people preach

• 9:21Speaker 04

  that. David did preach it for individuals. Warren Buffett clearly preaches it. The other part is what can you extract from the markets, or the alpha piece. And that's where it gets a little bit tricky, because everyone thinks they're going to pick outperforming managers. By definition, everybody can't. It's not like Wobegon. When you get into the alt space, you have this wider dispersion of returns between the top quartile and the bottom quartile. And the median does get the job done, maybe by a little bit. And I'm going to say the median private equity fund probably does a little bit better than the market. The median hedge fund probably doesn't get you that much. The median real estate fund probably gets you some beta of real estate. It gets you there. The real juice is if you can get to the top quartile. And that's where you have this difference. In

• 10:06Speaker 04

  the institutional world, there's so much knowledge, experience, attention, resources deployed to try to get at who's better. And I'm not sure the wealth channel's caught up with that yet.

• 10:19Speaker 03

  So that brings up an interesting point, though, which is one of access. Some respects now access is being unlocked and some of the best performing managers and managers with the longest track records are now providing access. Do you think that now that access is being opened up, then that does change the equation a little bit for the wealth channel? Maybe they can get access to the same quality managers that an institution could?

• 10:42Speaker 04

  Just like David would say, you have to go back to first principles. And that starts with, who do you think will outperform? There are some, I would say, more luck than skill that the wealth channel is going to benefit from, which is that there is more persistence in private equity than in the public markets. The large public alt managers who are the ones attacking the wealth channel, they're really good. You're not going to find a lot of people that don't know what they're doing at an Apollo or a Blackstone or a KKR. They have to battle size and scale. And size is always the enemy of performance. So you have that trade off. One of the things, particularly in private equity, the public markets have been shrinking. The Wilshire 5000 now is 3,000 companies and 600 of them are biotech companies.

• 11:26Speaker 04

  The S and P 493 has not performed well, Mag7 has. And there is this question, if you look at what's a properly diversified portfolio, should you have access to all these other companies that are private? And I think the answer to that is yes, which would tell you that even if those large alt managers are just providing some form of beta and access to a large portfolio of private companies, that could be a good thing for the portfolio. I think that's most of what the wealth channel today is going to get. Median, maybe median plus. Maybe you can get to top quartile with some of these funds, but at 20, $25 billion private equity funds, it's hard to do that, particularly when they're buying businesses from the middle market and the lower middle market at premiums.

• 12:10Speaker 04

  And maybe those are the managers that are going to outperform because they still have that multiple pop when they get out.

• 12:15Speaker 03

  Where my mind goes, when you talk about helping advisors and the wealth channel think about constructing a portfolio or accessing certain parts of private markets, do you think that there should be or will be a framework, just like some of the institutional community adopted the endowment model? Do you think there will be a wealth model?

• 12:33Speaker 04

  I don't think there's anything new under the sun for that. Most everything, if you look at it from a risk perspective, comes down to some stock bond risk. And depending on the person, is that a 60/40 risk, or 70/30, or 50/50? Advisors are amazing at figuring that out for their clients. Then the question is, what do you put in to populate those? So I don't think it's the model that changes. It's just a question of the advisor community getting a little bit more sophisticated on what can get to the return needs that their clients have to meet their objectives over time.

• 13:05Speaker 03

  The other thing on alpha, and I want to talk about alpha and beta. I think it's interesting to deconstruct that in private markets. So on the alpha side, is alpha really going to come from in private markets, manager selection, particularly at the smaller, more niche manager category?

• 13:21Speaker 04

  Well, let's define alpha as outperforming everybody else. It's a better than the median return. It can come from lots of places. It can come from the deals that a private equity firm selects. Is that certain sectors they focus on that end up being better places to be, like software has been for a long time? It could be the management team. Private equity, they pick a management team, they have control. Can that CEO deliver better than the next one? And then on the other side, for the allocator, it's are they picking the better manager who's driving returns through one of those two things? And ultimately, the drivers of private equity return are financial leverage, operating improvements, and what happens with the multiple entry and exit.

• 14:06Speaker 04

  So you can simplify it to a couple of factors. And any one of those, if you're better than the average, you can drive a so-called alpha.

• 14:15Speaker 03

  So you talk about better than the average. You talk about private equity. You've done a bet before. Hedge funds versus the S&P. When you were an allocator in the hedge fund world, you're now thinking about a similar bet, but with private equity. Talk us through that, and what is your thought process behind that bet?

• 14:36Speaker 04

  So we'll leave aside the old one that I made with Warren Buffett a long time ago. That was hedge funds against the market. And I had a dog in the fight then. I was managing hedge fund portfolios. I don't have a dog in this fight. Ever since that Buffett bet, no surprise, people have said, oh, you should do this. Or what about this bet? And none of them really were an important of enough issue to have in public to say, oh yeah, that's something great to do. But this one's super interesting, particularly as the wealth channel starts to embrace these alternative assets. It's not a perfect comparison, but will private equity over time beat the market? And there's a pretty simple trade off at a high level, which is you can access the market at much lower cost. So private equity has to make up for the fees. If you constructed it similarly, so let's say it's US buyouts. Private equity could be venture capital.

• 15:20Speaker 04

  It could be a lot of things, but if it's US buyouts, you actually have roughly similar economic exposures. Largest sector of US buyouts is software. Mag7 is software and so on. So it's not anywhere near identical, but similar economic drivers, similar return drivers. So it's actually a reasonable comparison of the underlying businesses. And then the real question is, can you make up for the fees? So how would you do that? One is leverage. There's more leverage in private equity. That benefits private equity. Generally speaking, private equity is smaller companies. Over long periods of time, small outperforms large, though it hasn't for a long time. Private equity has control. There's illiquidity premium in theory. Maybe there is, maybe there isn't today. So there's a bunch of different factors that would tell you maybe structurally, private

• 16:02Speaker 04

  equity is better and has been, but fees are high and can you make up enough of it? So I just put that out there to say, this would be an interesting bet. Now, it's hard to measure. I don't know what'll happen, but there's a lot of interest. And so I think maybe something will come of it. If you had to take one side of the bet, which side would you take? I wrote in this piece that I think the chances of private equity average, so the median private equity outperforming S and P is 40%. You can measure out, based on today's interest rates, today's credit spreads, how much you think you'd benefit from leverage based on some return. You can look at the historical small cap effect and those together will make up about 80% of the gap of fees. So that means the average private equity manager has to deliver 100 or 200 basis points a year to break even.

• 16:47Speaker 04

  That's not what people sign up for. What people are signing up for is top quartile. And if you get to top quartile, I would definitely bet on the top quartile private equity manager over the S and P, but the median's a tougher comparison.

• 17:00Speaker 03

  Do you think top quartile will remain the same as it has in the past? And if I peel back the layer on that question a bit more, what I'm getting at is I think we're seeing to some extent, this bifurcation in the market. There's a number of scaled firms who are becoming very big. Scale can actually be an advantage at times, I think. At times, being smaller can be an advantage, as you discussed a bit, in terms of lower middle market, you can buy at lower multiples. Do you think that top quartile performers will look like a certain flavor? And the firms that have done it in the past will likely persist and continue to be top performers going forward?

• 17:36Speaker 04

  I don't think large becomes top quartile, small becomes top quartile. What you've seen historically in private equity is that over longer periods of time, there has been persistence of who's generally in the top quartile. And then there'll be a slip. So if you're generally a top quartile manager, you're top quartile. Now you're in the second or third for one fund and then you go back. The large alt managers have all effectively, and part of the reason they're able to grow and command assets is because they have delivered for a long time. So that bias probably, I think if you looked at managers, has always been there. But today you'd look at that and say, well, that survivorship bias, the ones who have made it have made it because they've outperformed. Does that tell you they're going to continue to outperform?

• 18:19Speaker 04

  There's a lot of structural advantages in continuity from one fund to the next. So I don't think it's any different, meaning that the ones who historically have delivered, whether they're large or mid-sized or smaller, probably on average will continue to more than others, but there's always movement.

• 18:40Speaker 03

  You mentioned S and P 500, you mentioned the Russell 5000. Public markets are shrinking and private markets are becoming a much more investable universe. How much, as you thought about your bet and just as you think about private equity, both in general and intellectually, is it going to be about diversification too? Now, again, to your point, I agree, returns have to be there and they have to outperform, particularly if the fees are higher. But how much of it is also about diversification?

• 19:06Speaker 04

  It's very different than 20 years ago. I think most of it today is about diversification. It used to be the case that you only participated in these alt strategies for alpha. Good to have a little different beta, but boy, is it easy to get in the public markets. And it's liquid and you can change your mind. And the beta in private equity is not that much different. Now that there's so much scale, and particularly at the company level, there are very few executives who seek to be public companies. It used to be, this was a prestigious thing. You'd go to the country club, you'd tell them you're a public company, but get into the next club. And now it's probably better if you're private equity owned. Nobody wants to be a public company. There's a lot that would have to change at the regulatory level to make companies want to be public. I don't

• 19:51Speaker 04

  know how that's going to happen anytime soon, given the scrutiny quarter to quarter, all that kind of stuff. So it does feel more and more like getting sufficient access to private markets helps fill out a broadly diversified portfolio. It's not clear that you can get the globally diversified portfolio of assets just in the public markets the way you definitely could 25 years ago.

• 20:17Speaker 03

  The other interesting thing there, and this is a good segue to your career in the hedge fund world, evaluating managers, investing in managers, and you've seen the arc of the hedge fund industry as well. What do you think the private equity industry can learn from the evolution of the hedge fund industry?

• 20:33Speaker 04

  There are a lot of parallels structurally, what's happening right now in private equity compared to hedge funds, say, 15 years ago. And most notably, there was a movement when hedge funds started creating RIC products so they could deliver 1099 instead of a K1, and the wealth channel was going to adopt hedge funds. Ultimately, you need to deliver performance. And right around the time that started happening, the hedge fund products were pretty watered down. And the hedge fund managers saw that they were capacity constrained. They didn't want to give their best stuff. So we'll give you the long book and we'll hedge a little bit. It'll be fine. That product just didn't work that well. There's a risk of that. The timing, if you looked over the last 30 years, maybe if you're putting new money in the ground in private equity today, it's interesting.

• 21:18Speaker 04

  There's not a lot of deal activity. Maybe you can get cheaper buys, but valuations aren't cheap. And if you just do the math of, well, if you buy a company at 10x, you do better than if you buy it at 14x. There's this question of can you deliver enough to make up for the fees? And the fees of these products that are going into private wealth are high. There's interval fund fees, fine, but then often there's an advisor and the advisor has to get paid. And there's this magic 8% that you saw in the institutional world that roughly speaking, if you hit 8%, everybody's happy. And there's very few pools of capital that can't survive and meet all their spending needs at 8%. You start getting below 8% and then people start sharpening the pencil saying,

• 22:03Speaker 04

  what am I getting out of this? And that's kind of what happened in hedge funds. You had this one and a half and 20% and the net returns were 10 to 12 and everyone was happy. And when they got to be six, all of a sudden, people have scrutiny. And I think that's the concern with private equity today. There's this logjam of exits and the institutional community is wondering, well, if you exited today, what would the IRRs be for the last couple of vintages? Are they good enough? So it's not so much the activity of private equity, of owning those types of assets. It's what are you paying to get access to it? And that's where I think the private equity managers addressing the wealth channel are going to have to be careful over time.

• 22:41Speaker 03

  On that point, as you think about the evolution of the hedge fund industry, certain firms managed through that and became much bigger. Now, hedge fund industry is a little bit different than private equity, although there are probably some parallels there too, in the sense of you have these multi-strategy pod shops, Citadel, Millennium, et cetera. In private markets, you now have multi-strategy firms that are one-stop shops. They have different strategies across private credit, real estate, infrastructure, private equity, et cetera. What do you think the private equity or alternative asset managers can learn from the hedge funds that successfully managed through that period and built their business into these large platforms?

• 23:18Speaker 04

  It doesn't matter if it's the hedge fund industry or beverages. Every industry, as it matures, gets concentrated into winners and then some losers, and then specialists that have a place but are smaller. Saw that in hedge funds, and you're going to see it in private equity. There's going to be a shakeout of, let's call it, the messy middle. The non-differentiated mid-market private equity firm that's buying at an auction. That's not their story, by the way. Their story isn't, we buy at auction, we do nothing, and then we sell at auction. But people can piece through that, and if the returns aren't differentiated and you're not of scale, you're not going to have a place. So you're going to see that shakeout. One of the things that happens when you get larger is that the required rates of return of larger and larger pools of capital are a little bit lower.

• 24:03Speaker 04

  So if you're a very large sovereign wealth fund, or your UBS platform, or JP Morgan Private Bank, and you need access to large dollars to put to work, you don't necessarily need to make as high a return as someone who's smaller and has a wider array of investment opportunities. And they can say, no, I want the higher returning ones within that array of opportunities. As you get bigger, opportunities that shrinks. So if you're one of the big players, that cost of capital is lower. You've seen that in insurance with private credit, just lower cost of capital. You'll see that continue. You'll see more concentration in where the assets go. In private equity in particular, it's interesting because the strategies don't scale. So if there's demand for that, what do they do?

• 24:48Speaker 04

  Maybe they just keep the fund sizes what they are. That's not the nature of dynamic organizations. I wrote a little thing a couple of months ago, asking the question, will Blackstone become private equity's millennium? And the millennium model was, there are all these portfolio managers. Most of them can't really be in business on their own, but we've got a really interesting box. It's a risk model. And if we plug people into that box, we can give them capital. Maybe that happens.

• 25:13Speaker 03

  I think you bring up a really interesting point around talent because it's a fascinating question and thought experiment to think through if scale really does matter in this world, particularly as firms go to the wealth channel and if the net new investors as LPs into private markets are the wealth channel and insurance and a bit of sovereign as well some sovereigns are under allocated to. But if it's really the wealth channel, you need the infrastructure and the machinery to be able to do that. Now, a small manager who's going off on their own, they don't have the scale to be able to handle all the things outside of investing. So there's a world where maybe some people choose to stay at larger scaled shops because A, they potentially can make more money, both in terms of their funds, performance, the infrastructure they have, and then the stock price appreciation

• 25:57Speaker 03

  if they're at a large public firm. That may be better than actually going off and starting their own firm, which may have not been the case 20, 30 years ago. Sure, there will always be entrepreneurs who decide to go start their own business. But then if some of these dynamics are happening in the industry, what does happen to the talent? And do you think this is a world now in private markets where the way in which talent migrates is different than maybe it was 20 years ago?

• 26:20Speaker 04

  It doesn't change in the sense that what you saw in the hedge fund industry, I think, is more likely than not to happen in private equity. And I would describe it in a couple of different ways. The first is these are great businesses. Someone's given you money and given you a revenue stream for 10 to 15 years with an option on making more money. You don't have to be very big for that to be an incredibly lucrative proposition for you. And as a result of that, there are a lot of smaller private equity firms that will absolutely keep going and doing what they're doing because it's an incredible business. And you've seen that in hedge funds. There is a long tail of mid-sized hedge funds that still exist. I'd be very surprised if you don't see one of the larger private equity players try to grow through acquiring teams.

• 27:06Speaker 04

  They are long capital and short origination or deal making capability relative to the capital they could command. So it does make sense that if they can find talent and pay them as much or more as that person would be on their own, that they could fold them in. There are different challenges with it. Millennium or Citadel has a certain box and they could put someone in a risk construct. And private equity has different deal teams. So I was like, well, they do. But you could have the mega cap deal team and the large cap deal team and the mid cap deal team in the same sector. I'd be very surprised if one of the big players doesn't try to do that over the next five years.

• 27:44Speaker 03

  I think there's another interesting thread in here. And this gets to your hedge fund background, but understanding and evaluating investment culture. I think that's so core to really navigating private markets well. I'd love to discuss how you think about evaluating investment culture and understanding a manager, a firm, how they think about things.

• 28:05Speaker 04

  So much of a disqualitative, that it's hard to put your thumb on it. But to the extent that's art, there's a big part of it that's science. It starts, I would say, going back to my time with David with first principles. What is the investment philosophy of this organization? That will eliminate about 60% of all organizations who actually don't have a very clearly defined philosophy of how they think about what works in their markets.

• 28:30Speaker 03

  How do you best discern that?

• 28:31Speaker 04

  Ask.

• 28:32Speaker 03

  What do you ask?

• 28:34Speaker 04

  What do you believe? There are different ways of saying, why does this work? What is it that you think works that leads to how you go about investing? And there are some examples that are totally obvious, like Apollo says over and over, price matters. Price matters. Oh, they're value investors. They believe that if you buy something cheaply and fix it up, that works. There are software investors that believe software is going to grow. You have to have your beliefs aligned with theirs. But there are a lot of organizations that just go out and do deals and they believe they can create value. Okay, great. How do you create value? What are those very specific levers? What's the plan for your doing it? So then you're marrying what they say the philosophy is with the strategy and then using all the examples to figure out the implementation. And what you're looking for is something that very perfectly aligns.

• 29:20Speaker 03

  When you were an allocator at Protege, did you have a certain set of questions that you would ask every manager?

• 29:25Speaker 04

  No.

• 29:26Speaker 03

  Why not? Because asking a number of fund managers the same question, would you have been able to discern different answers? Or was it just through the course of conversation, you could tell the differences?

• 29:37Speaker 04

  I look at it a little bit differently. In order to underwrite a manager, there's a lot of information you need, and that information might be the same. So you could have the same outline of what you're looking for. And we did. We had a very long memo that had an outline. And until you could fill in all the boxes of the outline, you weren't ready to know if you wanted to make a decision. The specific question you would ask to get to that outline could easily change. No different from when we're doing a podcast together, whoever's on which side of the mic, have a pretty good sense of what you want to cover, but you don't have this specific question. That's where the allocation side of investing is the most human of all investing. You are making judgments about people.

• 30:22Speaker 04

  You want to know what they say their strategy is, and you have to get through that. But ultimately, you're making an investment in a person.

• 30:31Ted Seides?

  We're going to take a quick break in the action to tell you about Brookfield. Brookfield invests in the thing behind the thing behind the next big thing. Their focus across infrastructure, energy, real estate, private equity and credit is helping to build the backbone of the global economy. Brookfield combines deep operational expertise with disciplined, long-term investing, uncovering value and partnering alongside clients to shape tomorrow's economy today. Invest in the businesses that shape tomorrow. Learn how you can own what's next at Brookfield.com/own.

• 31:08Speaker 04

  This is not an offer to sell or investment advice. Investing involves risk, including the loss of capital.

• 31:14Ted Seides?

  And now, back to the show.

• 31:18Speaker 03

  Do you think that aspect of understanding and evaluating people will change with the advent of AI and technology being applied to diligence processes?

• 31:29Speaker 04

  Everything will change some. What goes into the diligence process will change. There are aspects of the diligence process that will get automated. It'll be a long time, unless you're a quant manager, before the ultimate decision gets made by an LLM.

• 31:46Speaker 03

  When you're evaluating people, yes, to some extent, edge is not just about the people, but in some respects it is. How do you look for edge and how would you define edge?

• 31:55Speaker 04

  Michael Mobison uses a great acronym, at least in the public markets, BAIT, B-A-I-T. Say edge can be behavioral, analytical, informational, or technical. Behavioral means markets are rough. Are you resilient? Are you consistent? Are you emotional? Which, again, afflicts someone in the public markets where there's decisions all the time more than the private markets. Analytical is, do you have a better ability to process what's out there than everybody else? Informational is, do you have more information than other people? The data sets that people have been in private equity business for decades have is a big advantage to someone who's new in the business. Technical is more of a public markets thing. Is there something you're taking advantage

• 32:38Speaker 04

  of in the markets? Are there four sellers? You can get that in private markets, too. Those are the different types of edges. How you tease that out is just lots of questions. And not just with a person, but in an organization, you're looking for consistency, you're looking at workflow, looking at all these different things to try to get at. Is something likely to do better than the next thing?

• 33:00Speaker 03

  Was there ever an investment decision you made in evaluating a manager that was the most impactful on how you then thought about allocating and evaluating managers in the future?

• 33:10Speaker 04

  The biggest mistake I felt I ever made, I'll take credit for the mistake, was there was a period of time at Protege where we were raising a lot of money, fast. And part of our business was seeding new managers. And we had a certain amount of our capital that we were supposed to go into seeding new managers. There was a manager that we seeded that didn't do particularly well, which was fine. But I felt after the fact that we didn't have time to do the work. And we would not have ended up backing that manager if we had. That was a mistake I never made again. But it was impactful because you don't think that's ever going to happen to you. Take pride in doing your homework, but there are pressures that come at different points in time.

• 33:53Speaker 04

  So not acting too quickly was a good example of that.

• 33:57Speaker 03

  So I'll tie that to something else you said recently, which is so not acting too quickly. In the moment, that can be hard, but then I think we're always reminded that there's always other investment opportunities out there. There will always be opportunities that come along. You also said recently that today is the hardest time to invest.

• 34:14Speaker 04

  Yeah.

• 34:15Speaker 03

  What do you mean by that?

• 34:17Speaker 04

  So one of my favorite self-made cliches in investing is the hardest day to invest is always today. Throughout my career, you could look back at different points in time and say, wow. I'll tell you, the number of people who said they bought the market or bought credit in 09 is far higher than the ones who actually did. We all suffer from revisionist history. If you listen to Annie Duke's thought processes on decision making, it's a behavioral bias. We have two courses, one for IRMBD and one for allocators called Capital Recuperation University. And I have a slide that says the hardest day to invest is always today. And we've taught this course for the last five years. Every single time I've given the slide, I've had a different set of factors for why today was a hard and everybody not.

• 35:00Speaker 04

  And the next year, there's a different set of factors and the next year, there's a different set of factors. So investing is hard. I could look back at my time at Yale and say, boy, investing in hedge funds was so easy. You could invest in a diversified group of mergers during merger arbitrage and make 14% net with very little risk. The hard part was knowing that that existed. And if you did know it existed, getting an investment committee on board with allowing you to do something that was very different from what other people were doing.

• 35:26Speaker 03

  How does one modulate their behavioral biases in that context? Because we always seem to learn from our mistakes more than our successes. And sometimes maybe our successes breed overconfidence too. But oftentimes there's an overcorrection after making one mistake and you don't want to make that mistake again. So you're burned by it. You don't do it, even if the game on the field at a future state might actually present itself to be, maybe this actually is the right thing to do, but you may not, or you may be more apprehensive in doing it because you got burned or saw something similar in the past and don't want to do it again. How should people and allocators manage that behavioral bias?

• 36:04Speaker 04

  It all has to be done through creating investment process because we as human beings are hardwired to make bad decisions. And this goes back to Danny Kahneman's stuff and Annie Duke's stuff where if you and I were sitting in the bush and you hear rustling, you have a choice. Do you go close and make sure it's a lion or do you just start running? So we learned to just start running, which means in the modern era, if you hear something, the system one Danny Kahneman thinking, you believe it's true. And then you later decide if you want to evaluate it. And that's not great. That means we're influenced by other people's opinions. It leads to all these other behavioral biases. And so one of the more recent trends in, you could say, the allocator community is true

• 36:47Speaker 04

  of managers too, is understanding when you're in a group of people, what's the best way to make a decision? How do you get all of the information available at the time onboard? So whoever's making the decision has everything at their disposal. And there are things like the ultimate decision maker should speak last because if they speak first, everyone wants their bonus. And so everyone's going to start agreeing. And the person who's not sure because of this one obscure thing that ends up being the biggest risk factor that no one thought of, it doesn't come out on the table. And you can do things like pre-mortem analysis that helps doing that. So there's a lot of tools that help. You have to keep in mind, we're still humans and we're still hardwired to get it wrong.

• 37:26Speaker 04

  But the way people get better at those decision processes is to write things down and learn from those decision processes and then try to get better over time.

• 37:36Speaker 03

  How do you think the current world of now people can use AI and people can leverage that, some will leverage it only after spending time doing their own work and having independent thought and then using it to augment that, but others might just use it instead. How do you think that will change how allocators do things or think about? And do you worry about AI actually having a negative impact on people's decision making around investing?

• 38:02Speaker 04

  It's like anything else. It's a tool that is amazing and can make things efficient. Some people use it well, some people use it poorly. The ones who do it well will accelerate their ability to make decisions even more. The ones who use it poorly will make mistakes they shouldn't have made because they're relying too much on just what a model's telling them. So I think that in all aspects of business and all aspects of life, AI is changing what we can do. And none of us know where it's headed. And it's the same thing is true in the investment world. Most of what you've seen so far is people using AI to more efficiently process information. So if you're an allocator, can you take all of the letters that a manager has written for you

• 38:46Speaker 04

  for 10 years, dump it in a model and have the model help you understand what did they say three years ago? That helps you get information. What do you do with that? Do you say, oh, they were a liar, I'm firing them? Or did you ask them questions? But it's not at the decision-making point yet.

• 39:03Speaker 03

  The other thing in there that you just talked about and referenced in your prior comments were around content and how that impacts behavior. Be remiss if we didn't talk about the content business you've built. I'll first ask about content in the context of there's now so much content. How should allocators and investors navigate all of that?

• 39:24Speaker 04

  There is, like anything else, a glut of content and people have to decide what creates value for them. That can be totally individualized. Is it entertainment content? Is it things that's going to help the investment process? Capital allocators is very tied to the institutional investing community, mostly allocators and managers. And I hear a lot that allocators don't go into a meeting with a manager without having checked, has there been an interview? Because it just speeds up the process. You can have a full hour of somebody asking, hopefully reasonably good questions to get to the heart of what someone's doing. You can then spend your time getting into the next layer faster.

• 40:02Speaker 03

  I think you bring up a really important point around content being so core to managers being able to tell a story. It's connected to the capital raising process. It's a chance for them to share who they are and for people to hear that in long form, which is really impactful for both sides. When you started Capital Allocators, what was your reason for starting it? And what was your goal?

• 40:22Speaker 04

  This podcast found me. I didn't find the podcast. There was no reason to think. That you're going to have a conversation, share it for free, that that could turn into anything, like a business. It just doesn't make any sense. At the time, I had left Protege, hadn't figured out what my next big thing was going to be. I was on Invest Like the Best, one of the early guests from having written my first book on hedge funds, and it demystified the experience. It's like, oh, two people talking in front of a microphone. Patrick's amazing. I was like, oh, that was fun. And I woke up one day and said, oh, it'd be fun to run around and talk to my old friends that I haven't had a chance to catch up with. And that was it. There wasn't a thought process of where it's going. Most of my friends are like, are you kidding me? You can't possibly do this. You're gonna have to do this every week. I was like, well, I used to have four or 500 manager interviews a year, and now

• 41:04Speaker 04

  I have one a week. I actually think it's pretty easy. So there was no plan. It was just, hey, this is a fun way to use some of my time while I was figuring out what I was going to do next. And there were times where I thought to myself, if this were the thing I was doing, that would be really fun, because I loved every bit of it. And then over the years, it became that.

• 41:25Speaker 03

  On that point, then we'll get to when the light bulb turned on for you is, okay, this is a business and how you've since built it out. But on the point of talking to many managers and your friends, and now that you have done this for quite some time, how do you think it has helped you as an investor or would help you if you were a full-time professional allocator again?

• 41:44Speaker 04

  If I had the time, which I don't, to do anything like investment professionally, I'd say the biggest aspect is how I've learned to ask questions and glean information from people. I look back at how I did that in all the years as an allocator. I never had a feedback loop. I never came out of a meeting with a manager and said, how did I do? It was always, oh, what do we think of them? Are we gonna have another meeting? Or thank God, they're in our portfolio, or we gotta get out of that manager. There was never an evaluative loop. And the podcast, especially initially, it was just me. It forces you because you have to edit the podcast.

• 42:25Speaker 04

  You have to listen to yourself ask questions and realize, wow, like, how did I miss that question? And you start to pick up mistakes you make and be able to improve. And then I had a couple of different experiences where I was still investing actively. I was on the board of a foundation for a long time and meeting with a manager I knew for a long time. And I had trained myself in a certain style of interviewing. I was catching up with this manager on behalf of this foundation. And I just found myself not going in with, oh, let me ask these questions and this question to understand what's happening with the firm. I was like, hey, how are you doing? And get caught up in the same way I do on the podcast and then start asking, what's going on? And I learned more about that manager, who I'd known for probably 20 years before that, in that one meeting

• 43:08Speaker 04

  than I had in all the times that professionally I had interviewed him in the past. And so that would probably be the biggest thing of where I in the seat, just how I approached getting information from managers and trying to learn in the process of making good investment decisions is totally different than it would have been back then.

• 43:27Speaker 03

  Do you think by having the conversations in the way that you do, you're able to just get to the essence of who the manager is in a different and better way?

• 43:34Speaker 04

  I think so, but it's a certain style. My interviewing style is very open-ended and I let people talk and then I go where they're going. Now, if you put that in the context of more finite time, certain agendas, you can put those two things together in a way that would have been quite different. I think the way that I interviewed in the past would be different if I were doing it professionally and I think a lot better. That's probably the biggest. It's been 10 years since I was investing professionally. There's been lots of changes in how people think about portfolio construction and value add. But the core investing is the same. You're either investing in a series of companies or a series of strategies that you think are going to deliver some economic return.

• 44:17Speaker 03

  In terms of capital allocators, when did the light bulb turn on for you? Because you built a really impressive business. When did that light bulb turn on, say, okay, this is fun. I'm doing podcasts with friends or people in the industry and I'm having great conversations, but wow, this is a business.

• 44:32Speaker 04

  It was all slowly and incrementally, I would say. There was a point in time about four years in where I was still trying to figure out what I was going to do next, where the folks at Northern Trust called and said, hey, do you take advertisers on your podcasts? And I responded by saying, yes, we do. And the we was me. And I was like, okay. So there was a little bit. It started with the advertising. There was the advertising model, the podcast itself as a business is not very robust. It's perfectly fine, pays the bills, not much more than that. So then the question is, you have this interesting platform where for our podcasts, there's a lot of great money managers, a lot of great investors that are in this ecosystem. What can you do of value to that community that

• 45:14Speaker 04

  could turn into a business? And the biggest thing we've done is bring people together in a really high quality way. So we do a couple of summits each year. They're very, very different from any other industry conference I've been to, because I really disliked going to industry conferences. And then you start thinking about it as a business. If you're putting a conference together, what's the purpose of a conference? It's mostly matching buyers and sellers. How do people match buyers and sellers in the investment industry? You put the sellers on stage, you bring the buyers for free, they're bait, like fish bait, sit there in the seat for six hours. Boy, that's hard to do with the phone in your pocket. And it used to be that those people on stage were scarce. Now they're on YouTube, or now they're on podcasts. They're not scarce. Well, that value proposition doesn't sound great. So how do you do it differently? And that's what we've done over the last couple of years.

• 45:58Speaker 04

  What do you think LPs really want in that context? All I have to do is ask them. The first, second, third, and last thing LPs will tell you is that they value people, that for them, it's a relationship business, and they want to be partners with great people. Yes, there's an investment strategy behind that. Yes, there's a massive analytical exercise that goes on behind that. What a great person is means something totally different from two different allocators, but that's the core of it. If you go to a conference and someone is pitching you on stage, none of that is about who the person is.

• 46:33Speaker 03

  It's a really interesting point because if it's about people, then it's about getting to know them and building trust with them. How much do you think content can speed up the velocity of getting to know people and getting to trust people?

• 46:46Speaker 04

  I don't think you and I would be here with other people listening if it wasn't incredibly effective when done well. It's not the whole process, but it accelerates the process. If someone can reveal through a conversation who they are and get that widely distributed, that's going to have people feeling differently about them than if they went in cold. Or if you're John Gray, running around the world, taking videos every morning, there's a human side of that that they're bringing to the fore. And now everybody knows that. If you think of Blackstone and you didn't know who they were historically, you're like, oh yeah, the CEO runs. Okay, I'm a runner too. So messaging isn't easy and differentiating from one firm to another isn't easy. But when done well, it's extraordinarily effective.

• 47:29Speaker 03

  What do you think managers still have to learn in terms of a content perspective? And how to effectively communicate with now the much larger universe of LPs?

• 47:39Speaker 04

  By and large, managers have never been good at understanding the LPs. And by the way, I would say LPs have never been good at understanding the demands placed on managers. There's just a knowledge gap between the two. For managers, they mostly view themselves as trying to tell their story. They're trying to pitch. They don't spend enough time trying to understand who the person is on the other side of the table and what their needs are. The ones who do are very effective. It's the same way you hear people say, great salespeople aren't talkers, they're more listeners.

• 48:12Speaker 04

  And so that's a big part of it. There are so many investment products. I used to tell people, certain hedge fund world, nothing is unique. When you were an allocator, meaning hundreds of funds a year, you've seen everything more than once. But every manager thinks their story is unique. They think their edge is unique. So you have to really start to understand what is it that you do well? You're a private equity firm. Are you a great sourcer? Are you a great purchaser? Are you great at crushing margins? Are you great at growth? Are you great at exit? Whatever it is, know what that aspect is. Have the data to support it and tell that as a story. Most managers don't do that. They give the pitch that they think other people want to hear,

• 48:54Speaker 04

  and it's not customized enough to authentically who they are.

• 48:58Speaker 03

  That's a really important point because every firm is different and they have to be authentic in who they are. I think people will see if they're not. But how can managers differentiate with content?

• 49:08Speaker 04

  It's hard to get eyeballs. I've always felt that you can't go out and do it for the outcome. You can't go out and do it so that everyone's going to hear your story. You have to do something that's just authentic to you, to your firm, and tell the story. If you are introverted, don't be going putting videos out that make you look awkward. Write something. So there's all different modalities of content, and it has to be consistent with who the firm is, with their DNA, and that helps them express what's special about them.

• 49:40Speaker 03

  Do you think there's a more effective modality of content in today's world that is, to some extent, dominated by social media?

• 49:48Speaker 04

  I don't think so. We've played around with the different channels and what works for us, which might be LinkedIn because it's more business, is different from someone, if you're a venture capitalist, maybe it's TikTok, Twitter, X. I don't think there's a way to do it at all. Again, it just goes back to what's the right way for that particular person at that particular firm.

• 50:09Speaker 03

  It's such a fascinating point because, one, there's social media platforms that have enabled creators to amplify content. Then there's also platforms that enable the creator to communicate directly. I'm on your mailing list as an example. You own the inbox. There's other platforms that do that, Substack, Beehive, et cetera. How do you think managers should think about that aspect of things, of being tied to the mass, the algorithm, versus owning their own direct relationship with the end customer? And obviously, there's regulations for them that us as content creators don't have to deal with. But how do you think about that whole aspect? And as you think about the changing market structure of content creation and

• 50:54Speaker 03

  delivery as it relates to the trajectory of capital allocators?

• 50:58Speaker 04

  Well, there's two different aspects of it. One is brand and the other is direct sales. For brands, I don't think you need to worry about it that much. If you're planning to go out and create a bunch of content and put it out there so that people know who you are more, you don't have to be as wedded to who's listening. And podcasts are a great example of that. We don't actually know who's listening. We know numbers. You get some demographic metrics, but there's no mailing list that Apple will tell you and say, oh, here are your people. So you have to create a mailing list and do something else with it. That's different from you're trying to turn that into something that you can implement and grow, which then does tie to, is it a mailing list?

• 51:40Speaker 04

  Is it something where ultimately you do want to own some piece of understanding who the audience is? And for what we've done, it's a little bit of both. There's a mailing list and it's mostly curated content that we share. And there we do know who the people are and that grows over time. And then there's a lot that the audience of the podcast is much bigger than that. And I don't know who the people are, but you get lots of anecdotes over time. And so you know they're out there.

• 52:05Speaker 03

  Instead of the audience, I'll ask this to you. I'm sure the audience has plenty of podcasts to listen to, as I have. But for you, is there a podcast or a conversation you've had on capital allocators that has brought out the most interesting insight or learning for you?

• 52:22Speaker 04

  There's definitely not one. I could put it in a couple of different categories. There are certain guests I've had where the way they think about investing just opens your aperture. So I'll give you one example. Earlier this year, I had Ed Greffenstadt, who's the CIO of the Dietrich Foundation. And I'll just tell you one thing and you'll say, wait, that's possible. 90% in privates, like half of that's in venture.

• 52:46Speaker 04

  Like as much as 20 or 30% in China. Wait, what? Like, that's even possible? Just opens your aperture. Now, he happens to be a brilliant guy, has incredible stories on top of that. So there are always things that you'll hear that are very different, have been effective, that open you up to what's possible on the investment side. And then I think I try to keep it pretty focused on our niche, but I do have guests from outside the industry that I think can help people in the industry get better. And those have been people around storytelling, a guy named Don Miller with StoryBrand, Annie Duke with all of her decision-making stuff. There have been some leadership experts, somebody like a Randall Stutman or Matt Spielman I've had on the show.

• 53:28Speaker 04

  And I learned the most from that because they're coming in from a different field. But there isn't one that I could point to and say, boy, that was the one.

• 53:36Speaker 03

  That's fair enough because you probably learn something from every conversation you have. I think that's the fascinating part about this. I always like to end by asking everyone what their favorite or most interesting private markets investment is. I think you have such an interesting perspective because you've been an allocator professionally, but now you talk to so many people, you're involved with a number of firms, and you have such an interesting purview on the market. I'll ask this question in the context of going forward. What do you think is the most interesting investment opportunity in private markets today?

• 54:06Speaker 04

  Those are all different questions. I don't view myself anymore as a professional investor. And the biggest difference is, first of all, I don't have time to do real diligence. But I also only invest in things where there's a relationship component to it for me. Maybe that means I think I can help them with what they're doing, or it's just fun for me to do that. So there are some examples within that of, for what I know, asset management, fintech businesses. There are people doing things that are interesting, that are addressing. The private market world, there's an AI business called Thema in London that I have a small investment in that's categorizing every private company. It's amazing. They're

• 54:47Speaker 04

  doing AI before AI. I'm an investor in iConnections, which was an initial phone call during COVID from Ron Biscardi and has turned into the largest cap intro event in the world. Ron and their team have done a remarkable job, but that's a bringing together business. So the things that I tend to do directly are more ones where I can have some impact because of the ecosystem I'm around. In terms of broader, what makes for the best opportunities? How do you not pay attention to AI and everything that could happen? And there are a lot of parallels with the internet 25 years ago in terms of nobody knows what's going to happen. There are certain models back then, it wouldn't have been that hard to say, yeah, you could disrupt the retail supply chain. Nobody knew what Amazon was going to become.

• 55:32Speaker 04

  And then there are things like streaming. I don't think anybody thought when the internet came out, the cable was going to, old school cable was going to, and I think you'll see the same thing with AI. There are some linear things about processing that will become megs. What's interesting is how highly they're all valued today already before they've generated cash flows, which we saw on the internet and then it crashed and then it all came back.

• 55:53Speaker 03

  That brings up an interesting point, which is just perspective and duration, I'd imagine too, which is the internet was going to be a massive sea change to the way that the world worked. That would make it incredibly valuable, but in the short term, that meant some people made money, some people didn't on certain things, but it didn't mean that the internet wasn't going to be massively impactful. It feels like AI is the same and maybe even in orders of magnitude larger because of how many people it could affect. How should people approach AI from an investment perspective then, both over the shorter term and the longer term? Are there parts of the AI value chain that you believe in more? So foundational models versus application layer as an example?

• 56:35Speaker 04

  I'm not close enough to the technology to have any differentiated insight. So what I've done throughout my career is try to partner with people who I think are the best at what they do. And I've done that a little bit in AI. So one of the managers I'm close to, Gavin Baker at Atreides, and Gavin, in partnership with Valor, recently raised an AI fund. Gavin, listen, the public markets is the most knowledgeable person I've ever met on a sector, let alone it just happens to be that sector is AI. It's extraordinary how deep he is for a public market investor. He also invests in private markets. So my way of playing AI is invest with Gavin.

• 57:11Speaker 03

  I think you said it before, so much of investing and so much of private markets is about people. So I think that's a great way to wrap this up because that's what you spend your time doing. You spend your time with people, sharing their stories, what they do. You worked with them, you invested in them. I think that encapsulates so much of what you've done.

• 57:28Speaker 04

  Sounds just right.

• 57:29Speaker 03

  Fascinating conversation. Thanks so much, Ted.

• 57:32Speaker 04

  Thanks, Michael. Appreciate you having me.

• 57:33Speaker 03

  Pleasure.

• 57:35Ted Seides?

  Thanks for listening to the show. To learn more, hop on our website at capitalallocators.com where you can join our mailing list, access past shows, learn about our gatherings, and sign up for premium content, including podcast transcripts, my investment portfolio, and a lot more. Have a good one and see you next time.

• 57:58Speaker 05

  All opinions expressed by Ted and podcast guests are solely their own opinions and do not reflect the opinion of Capital Allocators or their firms. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of Capital Allocators or podcast guests may maintain positions in securities discussed on this podcast.