Russell Clark on Inverting the Long Short Hedge Fund Model and Battling Investors' Biggest Risks
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Welcome to another edition of Other People's Money. I'm joined today by Russell Clark, former hedge fund manager turned sub stack author, maybe soon to be hedge fund manager again. And we're going to talk about the industry, some of his experiences running a hedge fund, closing a hedge fund, and now considering relaunching one. We're also going to talk about long short in general and what he sees about the industry. Why don't we get to that first, Russell? What is your view of the long short model and why you recently wrote that you think it's

backwards. Well, I think it's been backwards for a long time.

Insofar as when you look at like a typical longshore hedge fund, and I think I was saying this to someone the other day, is like a lot of longshore hedge fund managers still consider themselves to be like mini Warren Buffett type investors, which makes me always think of why they bother with the short side. But what you tend to get is they'll have 10 to 15 concentrated longs

And they'll write you a very long note about why this stock is amazing as a compound, it's going to do really well. And then on the short side, which has generally not made them any money over the last 10 to 15 years. And you can see that through a whole range of different indices. You can also see it in that most dedicated short sellers have gone out of business. In the short side, they might try for a few shorts, but generally are using the

And so the problem I've got with that is that, structurally speaking, it is very possible for a single company to fall 90% or even to go bust, to go to zero, or to collapse a long way. It is very rare for an industry to fall more than 30%. It does happen from time to time, but it can't go to zero. Just by

the natural fact that indices will always be selling losers and buying the winners. It's virtually impossible for them to go to zero. When you talk about, let's say, a 30% fall versus a, or like a 50% fall versus a, let's say, a 90% fall,

the move from that is still another huge move lower to get down to that 90% move. It's another sort of 80 to 70% move. And so it really makes far more efficiency sense to be long an ETF and short your 10 favorite stocks. That makes sense. That would be a much more efficient way of managing money. But actually what you see in practice in the long short equity space is like I said, concentrated long book

and then they short indices against it. And I'd say in more recent years, what we've seen in the long-short space in particular is that those positions have become very concentrated into the sort of same, mainly US large-cap, mega-cap names on the long side. And so long-short equity really hasn't really given clients anything particularly interesting that they couldn't get anyway, much cheaper using an index tracker or anything like that.

And so I've just, there's always been an observation of mine. The only thing I would say in defense of the longshore community

is that if you go back to sort of pre-2007, 2008 days, most of the gains from short selling came from carry. So that's getting shorter stock. If the stock doesn't go anywhere, you still generate the interest income from being short, which was actually most of the returns from most short sellers. Once interest rates went to sort of zero in 08, 09, that model has sort of collapsed, which is why I think the short side of the

The hedge fund community has been so poor. But when I look at it today, I just don't see it offering. It's a bad structure, inefficient structure. It's very hard to beat the market. That's exactly what we've seen over the last 10 to 15 years. Now, most people, when they think about short selling, they think about the cost to borrow. So how was there a carry? The cost to borrow is a problem for very concentrated shorts, which is the other problem that I think most short selling funds have.

And I was explaining to someone earlier today, the real problem I think in the short community, and there has been for a while, is that it's quite easy to identify companies with accounting issues, counting red flags. You can build a program to do that or even experience by manager will find it straight away. So what you've tended to see is very concentrated short books into the very same names. And so you end up with short interest being over 20% of stock outstanding.

And the problem with that, when you get a very large short book into a single name is that the mechanics of how you short make it almost impossible for the stock to fall. So if you are a legitimate short seller like myself or was,

You go and borrow the stock from like a broker and the broker gets it from a long-term shareholder. Now the problem is, is that let's say you've got 20% of the flow is out on borrow. If the long-only guy wants to then sell it, they've decided actually the short sellers are right. This company is going to zero. They actually need to recall the stock from who they've lent it out to before they can actually sell it. If that makes sense. And so what will then happen is let's say the long-only guy wants to get rid of the

They call up the broker. The broker then calls up a short seller and says, hey, you need to buy back all your stock because we're recalling it. But they're doing that to everyone on the street at the same time.

and the long only guy is not selling to create any liquidity because they don't have the stock yet so you end up with a squeeze and so you normally can tell a very heavily borrowed stock by having a high cost to borrow uh which is another reason why you shouldn't show these stocks so these stocks these types of stocks the short squeeze stocks i've seen end so many fund managers careers uh have avoided them uh for your viewers with long-term memories there was volt wagon in 2008 which

destroyed a lot of funds. There's been Tesla. They start a lot. Micro strategies start a lot. On the more sort of crappy end would be like with GME, AMC squeezes, but they happen on a very recurring basis. And so those types of shorts with a high cost to borrow generally don't make money over the long run in my experience.

Uh, more generally speaking, the way I tend to, where I used to look at shorts and try and look at them is why I always try and do is find very popular longs that I think the market gotten wrong. And the boss, the cost of borrowing those tend to be very low. 25 basis points would be very typical.

Now, in the era of zero interest rates, that's a high cost because you also got to pay the dividend back to the long-only shareholder. But now we have sort of short rates close to five.

And the average dividend yield on an S&P stock is more like two. That is actually a very significant carry now, if that makes sense. You asked the question, if these guys are mostly modeling themselves after Warren Buffett, why do they bother with the short side? I think the obvious answer is the 2 in 20 model, that the long-only fees are not quite what the hedge fund fees are. Yeah, I think when I first started out back in 2002, when I joined a big company,

fund-to-fund and single manager firm called GAM in London. And at the time, the hedge fund industry was actually severely capacity constrained, partly because the regulators were very slow to approve them. People hadn't quite worked out what they did. They were very small at the time, but growing. What allocators used to do back then was give money to fund-to-funds, fund-to-hedge fund model. They didn't really exist anymore, but back then they did.

Um, and that was really where the, the, there was like a bubble in the fund of hedge fund business. So guys would sell hedge fund of hedge fund businesses. We charge an extra 1% fee on top and made huge money and they were going around and they were funding anyone who could sell up a hedge fund so they could then increase the capacity for their fund to fund businesses. Um, uh, and you know, you had some very large fund to fund businesses, very wealthy people running around, but that model really blew up in a way.

Because basically what happened to 08 is a lot of these new hedge funds didn't know what they were doing that much and basically went down with the market. That sort of price action has continued. So generally what you've seen in a little sort of long, short equity space, if you talk to any allocator, they'll tell you this, is that you get about one third to 50% of the upside of the market.

and then about half to 60% of the downside to the market. So you get more of the downside and less of the upside. And it's a trend that hasn't really changed.

And I think why you've generally seen a decline in independent hedge funds, I would say, and a massive conglomeration into sort of pod millennium type models because they sort of manage that risk a bit better for the underlying client. Yeah, actually, the last guest I had on talked about this blow up of the fund to funds model post 08 and said that the ones who are still left

are mostly doing SMAs and managed accounts where it almost looks like a multi-manager fund where they can dial up exposures and move around the risk between all of the funds. And it actually looks a lot more like those multi-managers than it does that historical fund-to-funds model.

I think the market started moving there pretty quickly after the financial crisis. That sort of SMA, sometimes co-invest model, because it makes a lot more sense for the allocators. Now this idea of flipping the long short model on its head and going long the index and focusing your efforts on generating an absolute return from your short book. So you think about it like you're going to get the index return plus whatever.

positive return you're able to generate from the short book is, um, is different than the way most people do it, but it has been done before famously by Jim Chanos of Kinecos. Obviously Chanos doesn't manage money anymore. Um, and you know, not any, uh, indication of his historic skill or anything like that, but clearly it is not the, uh, silver bullet to solve the

the problem. I mean, it's still very difficult to short stocks and to generate a positive return and especially to manage risk in the new market. So if one were to go with that model, what would you have to do differently versus...

versus a more traditional short selling model of it's gone up, so it's a better short. I think what works best in the short selling, so I'll tell you what I think works best and then why it doesn't work or why it never works out. It works in theory, but not in practice.

So what works best, and certainly from my experience when I've managed money and what I've seen with other managers of money, is that the best short-selling type of model is one that's narrowly focused on one market event. That makes sense. So if you look back at Paulson, who's very famous for getting the GFC right, he set up a fantastic product where he was basically building products designed to fail and showing them.

but able to find people to go the other side of that, which was the side of how much crazy market that was. That was a fantastic trade, right? And what he should have done

is just give it all the money back that he made from that trade. Cause that was a wonderful trade, but then tried to extend it further on and then basically didn't make any money. That makes sense. I think with chain loss as well. Last thing I know that chain loss did, and he raised a lot of money about with this. It was not quite the same model that I'm talking about. He basically implied that the way the model he was trying to say, he did sit up and raise a lot of money, made a lot of money for himself.

was that he assumed you're already long the S&P and then you would give him money as your hedge versus our S&P. And so if the S&P went up 30%, but his sort of short only fund only dropped 12%, let's say, you would have to pay a performance fee on the gap between the 30 and the 12, for example. The problem with that, of course, is that, you know, it just sort of incentivizes you to find stocks that don't go up as much as the market rather than

out and out shorts, if that makes sense. I think he raised some money and then allocators got a good look at it and decided to take their money out again. You know, for me, I would be more, you know, more tempted just to have an ETF on the long book to begin with.

But the only observation is that, you know, in these days you can get a carry that is positive on a short book. The issues I've got with that is I'm wondering if the S&P is topped out or is about to top out sooner rather than later. And maybe there's a better, different way of doing that. That is sort of where I'm thinking. And, you know, the reality of it is allocators are much more willing to pay money for short, successful shorting than they are for successful long investing.

in my experience. I think it's also a common misconception that stocks only go up. There was a great paper written by somebody who was also a guest on the program, Eric Kornfeld,

Crittenden, who they were looking at stocks from 1983 to 2006, and they found that 39% of stocks were unprofitable and almost 20% of stocks lost at least 75% of their value. So there's just this common misconception that because the index always goes up, that stocks themselves must always go up. And the reality is that most stocks are dogs and they just really don't work. And the returns that we associate with the equity market are really being driven by a

a handful of outsized winners. That's 100% correct, yeah. That's why structurally being long in index and then short individual stocks makes far more sense. You're far more likely to

As anyone who's been, if anyone is like a PA investor who's invested in hot stocks, you know, individually, will probably know that you'll always get one or two stocks that do really, really badly. But because of the compounding effect of winners, the winners tend to compensate for what you lose on the short side. And so that's sort of the way I look at short selling. You can generally find

stocks that will get into trouble. I know you are shopping around this idea and it's something we'll get back to, but I want to kind of reverse it a little bit and get into some of the earlier parts of your career, because I think you've done things a bit differently than most people do. And something I like to explore on the show is the different ways that people sort of become hedge fund managers and manage to get their name on the door. And you started working at Horseman Capital and correct me if my dates or anything is wrong here, but I believe in 2006, you

You took over as a PM in 2010, and then you eventually bought it out from the previous founder or previous owner, John Horstman. Most people think if I want to be a hedge fund manager, I have to go start my own shop and grind it out with 20 million bucks. Or if you're lucky, you can get a seed for 100 million bucks. But perhaps the idea of going to work for somebody, getting to meet

the client base that they've already established relationships with, building a relationship with them might be a different way that people can think about becoming a hedge fund manager. Yeah, 100%. I think it really depends on

You need a lot of different things to work in your favor. But if you look at a lot of the big fund management, including some of the more modern hedge funds as well, they're really more distribution platforms is where the value is. The returns are okay, but it's like their ability to distribute. What I've also seen over the years is approval from allocators to be able to invest into can be very onerous. So there's some value in that.

which is why I bought the firm out back in the day. My career trajectory is probably slightly different to the way you described it. So when I was at GAM, John Horsford was also at GAM, our parsing cross at that time.

But at GAM, I was like an analyst and I worked on an emerging market fund and then a global fund and then was headhunted by John to set up an emerging market hedge fund in 2006. And that did really well. And then at the end of 2009, John wanted to retire. And so we did a sort of equity earn out between me and another fund manager where we

basically paid him part of our profits to buy equity out of the firm. We did that over five years. And then at the sort of, after a while, the other partner did the equity earn out. He wanted to leave. And the other, the founding partners wanted to cash out. So I bought them out of their sort of last sort of shareholdings. The reason I did it that way is that Horseman Capital had a great culture, had great infrastructure, had

And had actually built a lot of its software in-house. So there's a lot of value there. And also what I have learned in my time is that once you've gotten money from an allocator, you want to try and minimize the reasons for them to redeem.

Um, and so when you move shops often, they then have to go through the whole qualifying process of, do you have the right infrastructure? Well, the people you're working with is everything okay, which is time consuming and expensive. And so if you can like minimize change or reduce the opportunity for them to redeem, uh, or think about redemption is always in your favor.

And those are all the sort of driving reasons behind me buying out the rest of the partners back then. We don't have to get into specifics, but what does a deal look like? Like an equity earn out? Is it, let's say it's a two and 20 model, you pay in one in 10 back to the...

back to the previous owner for five years? Is it, if you have a good year, you can be done with the equity earn out. If you have a really big, you know, year for incentive allocation, how does that work? I think in the model we had, so I won't give you the exact numbers. So like when I came over as an employee, I had no equity share, but I took a share of the revenue that the fund would generate. And then the rest of that share went back to the partners. That made sense.

And so then when we did the sort of equity buyout, so that second revenue stream that went back to the center of that, me and the other partner that were doing the equity earn out got more and more of that. So some of it still went to the founding partners, but we were keeping more and more of the revenue for ourselves. That was how that worked out, if that makes sense. Yep. And then once you're doing the full buyout, is that...

like trailing five years. How are you valuing? And that's one of the hard things. I mean, the money made by hedge funds is oftentimes very lumpy. It's hard to value a business like that. I'll be honest with you. Back in the day when you had a lot of hedge funds listing, I don't know if you remember that. You probably don't. Yeah, yeah. It was the Oxif and there's Polar Capital, a bunch of them. I went and showed them because essentially,

the value of a hedge fund almost resides entirely with the fund manager. Maybe these days with the sort of millennium models where they have like the central organization, but typically money follows the fund manager. And so the business value for me of most hedge funds is zero or close to zero. But for some reason at the time,

very large valuations were being put on these firms, I guess mainly because of like the fee structure and the lumpy nature and the growth. But they always seem to me pretty crazy. And certainly in my experience is when, you know,

If a fund manager retires or moves away, most of the money moves with it. So, you know, it's not like a business like a Coca-Cola or anything like that, that, you know, management changes mean really nothing. The key man risk, I think, of the hedge funds is very large. And so, you know, I've never understood why people, outsiders, have been willing to pay for stakes in hedge funds. It's always seemed to me

a flawed business model. And certainly, that's the reality is the fund manager raises the money as a face of the firm or whatever. The staff fund manager has all the power, which is why you've seen a lot of the big firms try and get away from staff fund managers. They end up having to

you know, set up on their own in one way. As long as people understand that, they're reasonable. I've seen many firms think they have the power and not the style fund manager and then try and do deals to reflect that and suffer accordingly. I used to see that a lot. So are you hopeful that Ackman gets his purging square listed so that you have it to add to your short book?

The valuation that he was talking about, when was that, June last year or something, was absolutely mind-boggling because it was a high valuation based on the potential fundraising that he might do in the future. And so I don't blame him for trying to raise that sort of money. It was, for me, with it being indicative of a market that was probably way too bullish if he'd actually gotten away with it, if that makes sense.

You know, and you see that from time to time. I mean, I've always thought

big IPOs. Unfortunately, I get the IPO market that we used to. The big IPOs used to be a great bellwether for markets. For people with long memories, the Blackstone IPO was the top of the GFC credit market and the Glencore IPO was the top of the commodity market. And both were very good shorts from IPO. So if you'd gone away, there would definitely be a silent market being topped.

I bet. Yeah, I think once it was announced and people got to analyze the dollar a bit more, that deal fell through as far as I can tell. Well, I mean, in 21, we had the SPAC boom. And but now you can launch a meme coin. So why would anybody bother with going through the process of getting something regulated and listed on, you know, the New York Stock Exchange or the Nasdaq when you can just drop your token?

Yeah, but you're only going to get retail money on the token. So you would need to have some sort of big retail presence to do that. There's not that many fund managers with a very large retail presence. Bill Ackman probably could do it if he wanted to, but it's really for people who have Teflon reputations, I think.

Well, I don't think I was suggesting a coin backed by the profits of the hedge fund. I don't think anybody would argue against that being a security. I think that's obviously a security and they would probably get in trouble if they didn't go through the regulated process. I'm just saying if you're looking at the market and you're saying there is speculative excess right now, it's a good time to get something listed. Then why even bother with the idea of having a business when that's clearly not a requirement anymore?

Yeah. Well, you know, if she can find investors, why not? That's always been the way. If, you know, caveat emptor, you're willing to put money into it, then, you know, you should suffer from it. And I certainly, you know, that is a view that I think you hear a lot about is that,

We've over-regulated, you know, should let people suffer from their losses. And that would normally be enough to regulate the market as it is. Because we've had so much interference to try and stop, you know, bad things from happening. You know, it's the market has become gummed up. Certainly that would be, you know, explain sometimes the rise in private credit and other assets like that and private equity, where it's become too onerous to be publicly listed.

It makes more sense to stay in a sort of hidden sphere, if that makes sense. So I do want to talk about 21 and your decision to close the hedge fund, to give back money. What is it like to make that decision? What are the things that lead up to it? And why do you think it's...

so rare for people to do that. Because I believe you still had approximately $200 million. There's plenty of fund managers out there who would kill to have $200 million. I probably should have given money back in 2016, to be honest with you. I'd gone short in 2011 and...

For me, it was a very simple trade. It was basically looking at the experience of the Asian financial crisis, looking at the experience in Japan. To me, it seemed obvious that China would be forced to devalue at some point, have overcapacity, credit issues. Everyone was very long. That money would have to come out. It was a sort of carbon copy of what we saw in 1998.

And no one was like positioned for it. And so, you know, basically I just positioned for it. And in my view at the time, what I wanted to do was wait for China to devalue, asset markets would collapse and then you just flick along and ride it back up again. That's what, you know, I told clients I would do. And, you know, through 2014, 2015, and then early 2016, we began to realize that I was looking for, you know, Remembe going to 10 or 15.

something like that before I flipped it. And then what we had was a huge sort of change. China closes capital account with no meaningful problem. They did a huge fiscal push, which also seemed to work. And then we had the sort of Trump and Trump got elected. We had Brexit and all these things. And I think the world just really changed.

And so that big signal I was looking for didn't come through, but I should have probably given back money when, you know, just to say, look, you know, the world's changed. The model I'm looking at isn't quite there. But when 2016 was such a wild, crazy year, it always felt like it was like sort of building to some sort of, you know,

would build to something. And as it turned out, I think 2016 was sort of a big year of political change, which is something I never really factored into how I used to think about markets. For me, politics was just always the same.

And now in hindsight, we realize it's different. Now, the thing is that so I kept going on and then you get and people forget like the end of 2018 looked like we're going to recession again and we made money. But then the markets reversed again. And then in 2020, we were short into COVID again.

I thought, okay, we've suffered here, but now we were making absolutely tons of money. And then the markets turned very quickly. And some of the key assets I looked at started trading in ways I've never seen before. And I think by then it was like, you know, I don't really understand this market. Like I couldn't quite understand why, I couldn't understand why people were buying equities, but I couldn't understand why, for example, bond yields were selling off in 2020 and

when we were at the beginning of this sort of pandemic, which we didn't know if it was going to kill people, how many people could kill or whether it was going to be solved. The world was just changing, trading differently. And I think by then,

I was getting a bit tired. It'd be a long, hard, you know, 15 years of managing money without a break. It just felt like the right time to give it back. When you do give money back like that, you know, you do get a chance to maintain relationships with allocators and other people like that. I think with a short, on the short side, it makes a lot of sense. If you're trying to position yourself as sort of mini Warren Buffett type investor, you

There's never any sort of natural time to give back money because you basically want to keep compounding and keep the assets. And the problem you've got as a hedge fund manager or fund manager, and this is why Warren Buffett and now Ackman are trying to go down the permanent capital route,

is that when you have loads and loads of cash, you think markets might be weak, you tend to get redeemed. You're almost forced to be fully invested all the time. And you get the same problem on the short side, like people want to be sure all the time when it doesn't always make sense. And that's why, for me, the natural way around that issue is to sort of trade off one sort of idea and then once it's realized, give money back.

I think where it really is a problem, and I think most managers would recognize this, is like you say, it's difficult to raise money. It's often difficult to get the right people. It's difficult to build the infrastructure. It's difficult to get how all these people work for you. And then you're making money and then to say, okay, guys, that's it. We're done. Everyone go find a new job somewhere. It's incredibly hard to do. Now, I thought about how that is and what you can do to get around it.

And if I ever do raise money again, I think

I've largely solved that issue. I hope. And what is the, if you're willing to share the solution you think you have? Oh, there's plenty of sort of a outsource structures where you're not the direct employer. It's literally just sort of third party. You can outsource or third party outsource almost every part of that now. And I think the allocators are okay with it. And so if you decide that you're done with it, you know, you just give the money back and you cancel your contract to the third party. Yeah. Third party. Yeah.

And if they have more than one fund, so the style of management that I do where I like looking for shorts and problems is I tend to make money when other people are losing money. If I've made a ton of money, it means probably everyone else has lost money. And then if I go, okay, I'm done. I can then put it into these guys who have lost money at very appealing valuations. So that makes more sense, theoretically anyway. Doing it in practice is another story, but...

That's a theory. So you talk about being able to maintain relationships with allocators, uh, sort of, you know, I broke up with them. They didn't break up with me. How do they take it when you say I'm trying to give money back and are you able to continue to have conversations with them even when you don't have a fund? Um, what is that like? I've managed two funds. So I set up the horseman emerging market fund and I had to go over horseman global later, the Russell Clark global fund. And I also, uh, seeded a couple of smaller funds

Um, and so I know about setting up funds and getting up and running, and there's basically two paths to fund management as a business. One is managing money. And the second one is raising money. Uh, and the raising money is far harder than managing money, managing money parts, easy and fun. And everyone wants to do it. It's very easy to find anyone who thinks they can manage money that way. Uh, but raising money is really hard. Um,

And the way I look at it, you know, and I think the problem you get with a lot of guys and girls or people who want to be

fund managers is they can't not help but put their ego right at the center and say, look, I'm the best fund manager. You should give me money. I've seen this. You don't know this, whatever. Whereas, you know, allocators are very intelligent people who've seen all of this before managing huge pots of money. What you really want to be doing to it, I think in a fund management is in a hedge fund space in particular is you go to the allocator and go, look,

I think you got a problem or you could have a problem and my fund is a solution to that problem. That makes sense. So back in 2011, when I'd taken over the management of Global Fund, assets had fallen quite a lot because John had left and new managers, like reset. But what I was doing was I was going to allocators and I was writing notes about it. Was they saying, yeah, look, I think China's got a problem.

It's got a big problem. And because China's got a problem, and this is why it has a problem, it's going to mean that we're going to be in a deflationary environment. It's hard to believe, but back in 2011, everyone thought we were in an inflation environment forever. I was like, no, got to be deflationary. Your emerging market investments got to do poorly. Even gold is going to do poorly and bonds are a buy, right?

And so, and you know, that is why I see, and I'm pretty sure, and I can make money from that.

And, you know, for an allocator who looks at that, you know, their portfolio, they're going, okay, if, if Russell's right, I'm going to lose money here, here, here, and here. Uh, and then these are all long-term investments. I can't easily get rid of. Okay. I'll give some money to Russell. Right. That was the, that's how you get a business up and running. But the other aspect to it, which I've always tried to highlight is

is that you may have a good meeting with an allocator or whatever, a team, the allocating team or whoever comes in.

But they will always have to, and for big tickets in particular, they always have to take it to an investment committee, right? And they say, okay, we've got this fund, we've got this fund manager, he does this, this is sort of risk reward volatility and stuff like that. Now, if most of the people on that investment committee have never heard of you, the chances they're going to approve that allocation are close to zero, right? Even if you've got stellar performance, they'll be like, oh, he's levered, he's taking huge risks. So you need to get your name out

out there, right? You need people to know who you are. And so you need to think of a message that is going to resonate and help people sort of understand where you're coming from. And so that side of it is the marketing of a business. And what I used to say to people

is that the business strategy is the investment strategy and the investment strategy is the business strategy. So you should be investing in a way that will allow allocators to give you money, if that makes sense. And even if you look at like a low-cost company

ETFs, the same thing. Their business strategy is an investment strategy. We're just going to replicate the index, but at the lowest cost possible. Their business strategy is the investment strategy. And I've always said that if you want to make fund management a business, you need to think about what you're bringing to the table that allocators need.

Normally, the way fund managers think about things is they go, what am I good at? Okay, I'm going to go do that. Without sort of thinking about, well, are there other people good at that? What are they charging? You know, whereas when you go, okay, what is a problem that a big allocator is thinking about right now? And is it a problem and can you solve it?

And, you know, the big problem allocators have at the moment, simple problem is the US has outperformed everything. It's been driven by six or seven stocks or maybe 10 stocks. All my funds are massively overweight, those stocks. Is that going to be a problem? Yeah, that is what they worry about. And if you can bring some sort of reason why that is a problem and then how you solve for that problem, then you can raise money and then you got to go out and do it, particularly if it comes through. So allocators will be very forgiving. If you have a

If you have an idea, so what I used to say, this is for short only, okay? But you can sort of generalize it. So if you're running net short and the funds go up, the markets go up and you lose a little bit of money, they can live with that. If you're net short and the market's flat or market goes up and you make money, they love you. You will raise money like crazy.

But if the markets go down and you're net short and you lose money, you'll get the most irate

phone calls you'll ever seen in your life because you are there to make money when the markets go down. If you don't do that, that's a real problem. And that's why sort of circling back to the early conversation, that's why I avoid very heavily shorted stocks like the GMEs and the AMCs and the Volkswagens or the Teslas and the micro strategies, because they have the capacity for you to lose money when the market is going down if you're short.

And that's game over on the short side. When allocators are thinking about, hey, we have this exposure to Mag7 or just global equities in general, and we're a little bit worried about that, what is the amount of hedge that they're looking to put on? What is the true demand, the end demand, the TAM of being a hedge to an allocator? So if you are bearish and you're right,

The term is almost unlimited, to be honest with you. The way the allocated business works. Oh, let me tell you a true story. All right. This will give you an idea of where the market is and how it works. So back in like 2014, you know, the fund was doing really well. I went to New York to do like a cap interest conference and I met a pension fund of a business I know very well, I really like. And I really liked the guys that ran that pension.

And they were thinking about giving me money. And I said to them at the time, you know what, you don't need to give me money. You guys can just go buy TLT, which is this long, long dead Bondi tier. Just buy that. You don't even have to pay me any fees. You know, that's like, that'll be low cost. That'll do exactly what you want. And I'll probably generate, you know, at least 50, 60% of the returns I generate.

Um, and you can get rid of any day super liquid. You have total control over it. Yeah. You don't, you don't want to pay me a performance fee to do something you could do easily. Cause I was trying to help them out. Right. Cause I didn't, you know, I was also, I was capacity constrained at the time. Um, and then he said to me, look, Russell, I really like you. I like your ideas.

I think you're probably right. But if you're wrong and I've given you the money, then I can fire you. But if I buy it myself and I'm wrong, I get fired. Right.

So what you're doing in a way is you are acting as not a hedge on markets, but you're acting as a hedge on career risk for these big allocators. I know that makes sense. It makes tremendous sense. And it's something people have talked about before. Yeah, a hundred percent. And so, but then, like I said, you need to be, you need to have that sort of brand recognition reputation so that, you know, when they take that to the investment companies or whoever, they're

It's not like, oh, okay. They go, okay, this guy knows what they're doing. That's exciting. I get what you're doing. And that's the hard part. But the reality of it is that it's become much easier for you to develop a brand like that through social media.

It's much easier for you to directly connect to people than it used to be. In the old days, you needed to go, you know, get written up in the Wall Street Journal or Financial Times or whatever. You don't need that anymore. It's completely unnecessary. Social media and, you know, websites. I found Zero Hedge was very supportive of me in the early days. Those types of websites are the ways you can connect.

But you do need to be authentic. You can't really use a PR or salesperson to do that. And I don't, I've never employed a salesperson. They don't work. Allocators don't want to talk to salespeople. As a rule, they want to talk to the fund manager directly. And so, you know, that's how that industry has changed for me. Yeah.

Yeah. And so you just have to be accepting of that change and then lean into it, in my view. So many people they look at every year, the returns come out for... Usually the funny thing is, is when people are like, look at how the funds did, all the hedge funds. It's not even close to the entire universe of hedge funds that are out there. But still...

Or the stats you see about active managers, however many percentage of them underperform their benchmarks. Most of those studies are done on mutual funds or usage funds, not private hedge funds in the United States. But either way, the question is always, how do these people continue to get money? And the allocators would be out of a job if all they did was buy the allocation that the consultants gave them.

gave to them. They have these big consulting companies that give the, we recommend this much in emerging markets and this much in global stocks and this much in investment grade and this much in sovereign bonds. And this stuff has been so productized that you can just go buy that. One person could do that for any big endowment. Well, to be fair, most LLKs, that's why for me, I think for the...

Hedge funds in particular need a bear market to really make a compelling case for investment again. Back when the dot-com bust came along was really when the hedge fund, longshore equity community in particular,

took off because they made money all through 2000, 2001, 2002, 2003. I think that's where that community really took off. I guess the problem is that when you need it most, you're under allocated and then you're probably, if you believe in mean reversion, you're probably buying the wrong time when it is finally able to get it through the investment committee. What do you think about that problem of

generally these allocators are late to the punch. They don't want to like chop and change all the time. But the problem is, is they'll tend to do like a 10 year track record, sometimes a seven year track record.

So, you know, in 2008, all the really bearish guys used to buy how the money puts on the S and P and, you know, gold and all those sort of stuff. They all looked fantastic. Right. And so, you know, on these processes that they built, they'd all, you know, we're raising tons and tons of money and putting more money into the sort of things that worked. Uh, and then of course, but the market then of course is rate price that will end.

And you really want to be opposite positioned. So for me, for example, I was very long emerging markets till 2007.

Got them short in '08. Didn't think they would rally as much as they did in '09, but was sure that China was a dead end. Kept trying to short them and eventually by 2011 it worked, but then by then everyone was super long and only the most bullish EM investors were around. And they made for an easy, easy short marker for a few years. Because that's just how it is. And now for me, so why I'm thinking about starting up a fund

And this is, you're probably not going to like this comment so much, Max, but I really believe short selling is more of an art than a science, right? And the art part of it is trying to capture this mentality when what old traders used to call, you know, climbing the wall of worry is what you do in a bull market, right? So, oh, I'm worried, but the market keeps going higher. Eventually you're dragged in.

But what you're really looking for is when that wall of worry turns into a slope of hope, as they call it. So it's fallen, but you're sure it's going to go back up to new highs again. So you're buying more, sort of averaging down. And what that sort of means is you're like, so something falls 10%, you don't go, oh, I've got to sell before it falls more. It's like, oh, I've got to buy more before it rallies, right? That's a mindset change, right?

So, you know, when Trump got reelected, you know, markets went up a lot and, you know, and even I sort of went saying, oh, this is bullish. But in the back of my mind, I was thinking this is a real setup for a type of slope of hope type of market now, because even if any of these assets fell out, fell by 10%, most people would be like, oh, I got, I got by the dip. I got by the dip for sure.

Whereas actually, if you look objectively at valuations like corporate debt spreads or the gap between the most expensive stocks in the S&P and the cheapest ones, they're all indicative of high risk markets. And on top of that, you've seen Buffett sell down most of his Apple stake.

which reminds me very much of what he did with PetroChina back in 2007. Called the top of that stock almost perfectly. And so, you know, for me, it sort of looks interesting. I know in the sort of PA book that I run, my short book has started to make money even in up markets, which is always a sign that something's starting to give. And like I said, when I look at investors, they're

I would say your average allocator is more worried about another 20, 25% plus you in the S&P than the S&P falling 30% this year. That would be where the hedging would be my guess. But on the Trump side, I mean, there are definitely walls of worry to be climbed as well. You've got tariffs. That's a wall of worry that we're probably going to climb up and fall off how many times before we have clarity, if we ever do get clarity on that.

The big trade that I got right was saying, look guys, it's going to be deflation, not inflation. So forget about your inflation trades, just stick to your deflation trades. Right. And the thing is like, if you can make a message that's that simple, allocators love it because they know what you're trying to do and know where you're going to be positioned. And they have a good expectation of when you're going to make money and how you're going to make money.

And when I look at the world now, the world is inflationary, right? And which is not necessarily bad for equities, you know, and a world where nominal GDP and nominal prices are rising equities theoretically should do quite well in that environment. Theoretically speaking, the problem with it is that it's a world where costs are rising. So the cost of doing business is going up. And that's, that's where it's a problem. Now, what I find fascinating

is that yields have continued to rise and have continued to act in a very bearish manner. But no one, in my experience, I don't see people like freaking out, thinking that yields are going to go much higher, even though there's trending higher. It's the complete opposite of when I first started in the business. When I first started in the business, people thought like 4% on the 10-year treasury was a short.

Do you remember that? It's not that long ago. And when I first got interested in markets, I thought for the year JGB was a short at 3%, right? When it was a buy. That was a fantastic buy. Now what's weird is you've got this continual rising yield environment.

But no one really panics about it. Do we see governments implementing austerity? Do we see the central banks going and reopening QE programs to try and keep funds? No, don't see any of that. And then if you look at like fund flow, you don't see huge short positions like you used to in the bond markets. People are convinced that

you know, those markets are stable. Well, I just don't see that. I don't see, what I see is politics has moved to running large deficits all the time. And the Trump policy decisions have made treasuries an unsuitable asset for foreign reserves for foreigners. Because you don't even know you'll get to keep those assets if you disagree with American policy. So I look at the world and I see this sort of like

you know, okay,

Now, deflation is here, but people aren't willing to trade it. And I feel like there's a sort of intellectual disconnect in that deflation was good for long-dated assets, tech assets, that sort of thing. And now they don't think inflation is going to be bad for those sort of assets, whereas I'm not sure that's true. There is an argument to be made that some of the Trump policies could be viewed as a form of austerity, depending upon how it is worked out. I mean, if you believe that tariffs are bad for GDP,

And they're obviously raising revenue for the government. And at the same time, you've got the Doge, Department of Government Efficiency, they're going to be cutting there. It's not austerity in the traditional sense, but it has austerity-like effects. They're not really, you know,

Given like social security takes up the vast majority of the budget, interest payments are quite high as well. And defense spending is not going to get cut. I'd be very surprised if it gets cut under a Trump administration. If anything, it's going to be increased. You know, and tax, there was a tax deal to tax Mali Nationals. Trump has scrapped that. So I don't see any...

Certainly nothing like what happened during the Obama era. Nothing, not even remotely close to that. The only thing I would say is that maybe there's slightly less spending and more of the fiscal deficits increased through tax cuts again. But that's not my read of where Trump was going with this.

His political model is basically, he took the old Republican model of cutting taxes, but added in the democratic model of giving more people money to create a huge electoral mandate. But that money has to come from somewhere. And look, one of the things that's really surprised me, if you...

I've been a fan of gold and I've been short bonds. I sort of offset those two trades. I sort of took the view that if the Fed was aggressive enough, then gold could be weak. And if the Fed was not aggressive, then gold should do very well. And so those two trades should offset each other in a sort of low volatility way, which is exactly what's happened.

I am very surprised at how well US equities have traded in an environment where gold is up 23% and treasuries are off 10, 15%. Those macro assets, gold doing well and treasuries doing poorly, are not normally market moves I would associate with an S&P up 20%. That makes sense. But then when you look below the surface, most stocks in the States are not doing as well as the large caps.

One final question I want to get to is related to other short sellers. So you've got, we talked about Chanos no longer in the business, Hindenburg, the activist short selling and, and,

They're very different, activist short selling and the short selling you're talking about are quite different. I've talked to Carson Block at Muddy Waters. They're doing more long investing than they've ever done before. So you seem to be focused on these sorts of signposts about sentiment and about where allocator demand is and where managers are focusing their time. I mean, is this something that has you more excited seeing more and more short sellers throwing in the towel or at least splitting their focus on

on other styles of investing? It's interesting to see how many have dropped out. I get it because they probably know it's, it is very hard to go and defend a short focused portfolio when the S&P is up 20, 20% every year. And you're trying to say, you have to say to clients, when is the market going to crap out? And you don't know when.

You know, that becomes both soul destroying and also, you know, uneconomical at some point of view. And so typically, and fund managers need to pay a bill, they need to keep lights on. So they got to go where the market is, right? That's always the way is. So look, if markets fell 20% this year, you know, every, every, everyone would be set up short selling funds again. That's just, that's how it goes. Um,

So seeing like short sellers drop out of the market, isn't a sign that they're giving up on short selling. It's just a sign that markets have gone up a lot. And, you know, and that's just the way it is. What I find more interesting is that sort of some of the methods I've looked at

shorts, they stopped working for a good five years or so. They worked very well for a long time and then they stopped working for five years. Which is one of the other reasons I decided to give back money. It's like, okay, here are my techniques. They're not working. Okay, I'll give you back the money. What I'm thinking about getting involved again is that they're suddenly starting to work again, if that makes sense. So some of these disconnects

that I couldn't understand have started to come back together. And so, you know, everything in life is cyclical. It's just, you don't know how long, what cycle you're in and how long that cycle is running. And I do think we're at the foothills of a very, very long cycle. And what's been good, you know, talking to you and talking to other people is I think I've got like a pithy scene for it.

which I think is interesting. It's a different type of market to what people are used to. So it's going to take a while for the fund management community to catch up. But the way I see what I see is happening is we are going from a capital abundant market as capital is everywhere and easy to get

to a capital scarce market. So that is where interest rates are much higher. It's very much higher to get capital for you to do what you want to do. And it's been driven by this political need to rebalance labor income relative to capital values, i.e. making homes cheaper relative to incomes, for example, or making rents cheaper relative to wages. So that's creating this sort of higher wage inflation

which causes interest rates to rise, which makes businesses more difficult. It means you're generating less capital, means interest rates have to rise more. And that is the sort of cycle we had through the 50s, 60s, and 70s. I think that's where we're going. We're going from a capital abundant era right now

to a capital scarce route and it's driven by politics. So that's why I think where a lot of fund managers are going to struggle with because they generally try to avoid talking about politics because they feel like it's outside of their wheelhouse. But I think if you've been alive and awake for the last 10 years, you should realize that everything is political.

You know, we've just happened to be the free trade era was an era where all governments agreed to be stay out of the markets. So we thought markets are in charge. The Trump era or 2016 onwards era, an era where all the big governments have decided that governments will be in markets to get the outcome that they want, if that makes sense. And so we have to adjust to that. And the logic of it is very compelling and I'm seeing it in the markets every day.

The question for me was whether there was an opportunity to make a product that would solve Alicator's problems, if that makes sense. And I think that looks like a case to me. All right. Well, Russell, we will leave it there. Thank you so much for coming on. You have your sub stack. Where can people find you? Well, the sub stack's the best place at the moment. So it's www.russell-clark.com. Thank you so much. Thanks, Max. Take care.