Michael Platt Addendum: Inside the Trader's Mind
"There are three things you need to make money. You need a decent fundamental story, a good trend that looks like it will carry on, and the market handling news the way you think it should."
I always enjoy the conversation with readers after publishing and they often help surface more information, especially when I’ve only started to do work on a new person — such as when I started writing about Michael Platt last week. Marc Rubinstein ofrecently summarized Platt’s career over at Bloomberg and pointed at higher leverage as a key ingredient to Platt’s recent outstanding returns. In 2011, Platt and his team launched an internal vehicle to manage the partners’ wealth. That vehicle was “seeded with $500 million” and “quadrupled in four years”, that is during the time when the flagship fund was struggling. It seems that vehicle used a lot more leverage, up to 10 times, than the funds managing external capital.
What happened next demands an addendum to my earlier piece. I mentioned that Platt returned outside capital and put up insane performance. However, a few years later, he was fined heavily by both the SEC and Britain’s FCA. The allegation was that BlueCrest moved their best trading talent to manage the internal capital vehicle to the detriment of his outside investors
This reveals a third level of the zero-sum mindset. If you view both your portfolio and your employees as a collection of trades, why not apply the same thinking to your limited partners?
If your opportunity set is constrained, the value of your partners declines as you grow. And if you view life as a zero-sum game and your goal is to maximize your wealth, those partners might start to look disposable as well (Platt clearly cares about his wealth, once joking with a cab driver that he was the “highest-earning person in the world of finance”).
Platt didn’t frame it this way when he returned outside capital. He simply commented that it was no longer an attractive business due to “downward pressure on fee levels, the increasing cost of hiring the best portfolio management talent and the difficulty in tailoring investment products to meet the individual needs and constraints of a large number of diverse investors.” He even rejected a billion dollars from George Soros (which came with a skinny 0.5% management fee and 10% performance fee).
However, treating your own capital very differently from that of your partners reveals a different logic. It’s not unique to Platt but remains a potential conflict an investor needs to keep in mind. Which is why hedge fund investing can feel like an impossible game.
You need to find someone with enough skill to overcome the fee hurdle. You need some evidence of their skill, but if you wait too long they may outgrow their opportunity set or get too wealthy and lose their hunger. And you need them to be somewhat greedy, but not so greedy they will take advantage of you.
In other words, you are looking for someone who takes a long-term view of their relationships even if their approach to markets is short-term. A trader in markets but an investor in life.
A related piece I’d recommend is Byrne Hobart’s new Multi-Manager/Pod/Hedge Fund 101. Byrne breaks down the basic model behind pod shops.
The other part is figuring out what the rest of the market thinks. … And the way to do that is to talk—to people at other funds, to analysts, to industry experts, to anyone who can give you a real-time view of the consensus. Which means it's exhausting work! An analyst is on the clock when they get up at 5am and read up on all the news that's happened overnight; they're still on the clock when they meet a friend from another fund after work and start swapping ideas. This dynamic means that pod shops are the most densely-connected nodes in the data/news/rumors ecosystem.
Michael Platt’s Trading Mindset.
I’ve compiled some of my favorite quotes from Jack Schwager’s interview with Michael Platt in Hedge Fund Market Wizards for subscribers. The controversy around his treatment of investors notwithstanding, I think it’s a very interesting interview and a unique glimpse into the mind of one of the most successful traders of our era.
What do we really know? “It’s shocking how little you know for certain in financial markets.”
What Platt looks for in a trader. “I want market makers, people who know that anything can happen.”
Only the paranoid survive. “The problem always comes down to ego … which just gets in the way of making money because they can never admit that they are wrong.”
Leveraging others’ ideas. “There’s a big difference between shooting wine glasses at 20 yards and shooting a wine glass pointing a gun back at you.”
Platt’s three ingredients to making money. “I like to know what the consensus view is because you really do make the most money when the consensus shifts.”
Platt’s favorite questions. “It’s amazing how much information you can get about people’s positions by simply asking them about their opinions.”
The big mistakes traders make. “That is a really great idea you have, but the market is just not playing ball.”
“When I am wrong, the only instinct I have is to get out.”
What do we really know?
I found this one thought-provoking. What do we truly know in investing? What are the first principles on which we build our entire strategy? For Buffett these are the core tenets of value investing and deeply understanding a business. For Platt it’s trends and diversification.
When you are solving any puzzle, you have to start off from the perspective “What do I know for sure?” Do I have any bedrock to start off my analysis? It’s shocking how little you know for certain in financial markets.
One of the only things I could say with certainty was that markets trend because I can observe trends in any financial market, in any era. You could go back 150 years in cotton futures, and there are trends everywhere. The same is true for equities, bonds, short-term rates, everything.
It seems illogical that markets trend. Markets should discount all information and then be static waiting for the next piece of information before changing price level. But that is not what they do. And the reason they trend is because our minds just don’t work properly.
You also know that diversification works. That is what the systematic trend-following strategy is built on: markets trend and diversification works. It doesn’t have any economic information.
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What Platt looks for in a trader.
“I want guys who when they put on a good trade immediately start thinking about what they could put on against it.”