I first met Howard when I got invited to play Poker one night with fellow ex-pats in Malaysia. Although Howard rarely played poker he clearly knows how to play and was one of the two guys who set up the regular game a few years back.
Having kids in the same school we regularly met and got to know each other but I never knew what he did for a living. It was only when a mutual friend suggested I speak to him as he had invested some money and was impressed with the returns.
A few meetups and it was clear Howard knew what he was talking about. He is a charismatic chap and incredibly laid back, especially for a hedge fund manager. Maybe this is his Australian nature?
As I outlined in my investment portfolio post, I have invested money into Howard’s Hedge Fund looking to grow my capital over the next 5-10 years. I thought it would be a good opportunity to interview Howard over one of our many coffee meetups.
1. Can you give me a little background on yourself?
I grew up in Australia with an older sister and younger brother. I grew up with a penchant for cricket, soccer, and table tennis, but the first two I was not very good at and there is no career in the latter. My father ran chicken/egg farms in Australia and packaging business in China and my mother helped him with all things back-office.
University in the late 1990s was a bit of a blur to me. I juggled a double degree in Engineering and Commerce at Melbourne University, relationships, running a website design business called Lightbulb Designs, helping my dad, working various jobs, president of a university social club, Australasian Association, and everything else that goes on.
When I graduated in 2001 the world was in the middle of the Dot Com bust, so I spent the next 6 years doing management consulting for Accenture, Bain International, and PwC. I really enjoyed the travel and experience. However, I also felt shocked at how many companies that I admired from the outside, once inside I found were politically paralyzed and organisationally dysfunctional. Instead of trying to fix dysfunctional behemoths (and trying to master bureaucratic gymnastics), I found I had a passion to build something much better, or at least try to build my own less-dysfunctional behemoth.
I travelled to China to run one of my father’s companies, MyPak, a global packaging manufacturer. I led the business expansion in Australia, Asia, North America, and Europe, and also led the design/development of new products. My father has fantastic commercial instincts and it is one of the thrills of my life working with him and learning from him. From 2007-12 MyPak Packaging became the leading Asian manufacturer and supplier of paper-pulp egg packaging in China employing over 1000 people in Guangdong, China, near the border with Hong Kong. The experience of being part of that golden age in China is a different essay.
In 2012-13, shortly after marrying my wife, Sarah, and having our first child, I reconnected with a high school friend, Desmond Lun. He asked me to partner with him to build a quantitative hedge fund, whilst he was working in academia at Rutgers University. He had some interesting ideas and I had the capital and experience to build the business around his ideas.
I relished the new challenge and in 2014 we launched Taaffeite Capital Management LLC. It was a fairly audacious plan: Launch an institutional quality hedge fund and target 20-40% pa.
The first few years went quite well and by 2018 I had increased my initial investment from $2M USD to over $7M USD. We had over $30M USD under management but I was forced to come to grips with reality: We had a number of strategic and structural issues that we had to address to become institutional.
In consultation with our institutional investors, we made the necessary change, replacing Desmond Lun with two full-time CIOs, Martin Redgard and Marco Veterani. Regard and Veterani had over 10 years of full-time institutional experience, managing over $300M USD and had been performing extremely well for 5 years (better than our previous strategy). Their commitment and institutional quality risk management (for example, portfolio-wide stop-loss at 3% of AUM and concentration limits below 5% per signal) would give us the right platform to take business to next level.
It is now a pretty exciting time for the fund, with another $20M institutional investment coming on shortly and we are working very hard to hit our return target of 20-40% pa for investors.
2. You have an impressive working career, what do you think were the defining moments that influenced you?
I think my time in management consulting taught me a lot about the strengths and weaknesses of big businesses and gave me the dedication to want to be part of building a great business. However, it also probably gave me a distaste towards bureaucracy and inefficiency.
3. You’re the CEO of Taaeffeite Capital Management (TCM), when did you set this up and what does this fund do?
It’s that famous Einsteinism, compounding is 8th wonder of the world. The problem is, it’s difficult to get a good compounding rate, especially if you are starting with a low amount. It is also very hard to generate returns above inflation.
To get a decent compounding rate, you need to get a bit more sophisticated. The real rate of return (after inflation) in a post-financial crisis world for “passive indexers” is maybe 2-3%.
Compounding $1M at 2% pa becomes only $1.5M in 20 years. To put this in perspective, a 10% return pa amounts to $6.7M in 20 years. Renaissance Technologies has returns around 50% pa (your $1M becomes $3.3B in 20 years).
So, the ambition is to achieve returns around 20-40% pa, as consistently as possible, and staying clear of taking any unnecessary risks. This is incredibly hard. Most large hedge funds are closet indexers. We spent a long time trying a number of strategies, and the sweet spot was strategies with:
- Mandate to look for best opportunities globally
- Easy to liquidate positions if required (risk of short squeeze)
- Could go Long/Short instruments
- Low correlation to beta
- Low leverage (continuously driving at high speeds can be hazardous even for professionals)
- Average holding period of 1-14 days (trying to capture daily price movements)
- Tight Stop-losses (something to protect against big left tail events that occur every few years)
- Concentration limits (even if an opportunity looks fantastic, shit happens so diversify)
After trying and looking at a number of systems, we found the perfect combination of CIOs, Martin Redgard and Marco Veterani, who had not only identified the same sweet spot but had successfully developed strategies over 10 years accordingly. The resultant TCM strategy is called TCM Liquid Alpha Program (“TLAP” for short).
TCM Liquid Alpha Program (TLAP) employs a statistical arbitrage strategy traded across foreign exchange and global futures markets. Artificial intelligence techniques are selectively used to improve the accuracy of short-term forecasts leading to a return stream uncorrelated to traditional asset classes and other fund strategies.
What is really impressive about the strategy is that it:
- Performs well during periods of market uncertainty with a low correlation to equities.
- Robust risk management and low realised negative volatility (worst drawdown of -7.86%).
- Experienced team with proven track record.
- Daily pricing and liquidity (investors can invest or redeem daily)
TLAP’s proprietary algorithms construct a portfolio of short-term positions with no directional bias. TLAP has a low sensitivity to macro factors and most hedge fund strategies thus bringing a substantial diversification benefit as part of a portfolio of liquid alternative investments.
4. Opinion seems to be polarised about the risk profile of quant funds, what are your thoughts? Risky or not?
In some ways, having a person heavily involved in making decisions can be advantageous. Humans can be incredibly good at processing data and exploring and developing ideas. But computers also have the ability to do very specific tasks much better than humans, and to an extent do it in a much more reliable and repeatable or predictable way.
For a task like processing and finding patterns in huge (often terabytes or exabytes of data), I think computers can do this much better than humans, and without many behavioral biases.
The problem with quant strategies is they are only as good as they are designed. Even with AI, it still requires someone to design the system. And if the system is doing things like over-fitting data or using options or running at too high leverage or concentration, time and time again it ends badly. Even though these things are fairly well documented as known tail risk issues, there are always quants that fall into these traps and it leaves a bad reputation for the industry.
5. You have recently migrated the fund to a new strategy; can you outline how this will be different from the previous trading strategy?
The current TLAP strategy that we implemented in October 2018, run by Martin Redgard and Marco Veterani has several key advantages:
- The strategy now has tight stop-losses (never more than 3% of AUM is risked before positions are sold)
- The strategy also has concentration limits of 5% per signal
It made sense as the firm matured to have two full-time CIOs, each with over 10 years of full-time portfolio management experience, as it was a struggle getting time from Desmond whilst he juggled a full-time academic job.
6. What are your plans for the fund?
Everyone in the TCM team shares a commitment to build a wonderful asset management business, that would create great returns for our investors. In a time where many people are soon retiring with insufficient savings to cover healthcare and retirement costs, many people are relying on their institutional investments to not only keep up with asset and consumer price inflation but also generate real returns.
7. Can you use your crystal ball a bit here? What are your current thoughts on the market and where we’re heading the next 6 months?
It is almost impossible to forecast out for 6 months.
My personal view is over the next 3-5 years one of two things is likely to happen. Inflation will rise to the extent that interest rates will go up, leading to a potentially severe recession, followed by another recovery.
The alternative is a Japan-esque scenario that the world totters along at low-interest rates, and global markets remain flat for a long period of time (ala Japan from 1979 to present).
The other trends to keep an eye on the stem from the gradual economic center of gravity shift East towards China. The Chinese have 1.6B hard studying and working people not afraid to be entrepreneurs and are politically able to think long and deep. In 2017 the USA had under 4 million births, China had over 17 million.
China’s leadership over the last 10-20 years has ambitiously taken advantage of cheap debt to finance audacious infrastructure projects across the country. Every other developed country in the world right now cannot get enough political support to build even a small high-speed rail line. China has built an infrastructure to support its development for the next 100+ years.
This rise has made wealthy nations and people feel threatened there is a “new world order”, but I am less concerned and have a more collaborative mindset. It is often better to focus on how you can best work together rather than just slow your competitor. The US-China trade tensions will hopefully slow down the development of the $1.3T belt and road project, which is incredible in its audacity however is potentially unnecessarily rushed by Xi Jinping (65yo) especially as debt markets tighten.
I often think of sustainability, and the ability of the Earth to support another 2+ billion people (China, India, Indonesia) wanting to spend and consume like Americans.
The other trend is the impact of aging populations. A large voting group controlling considerable wealth, there will need to be a large portion of investment and GDP allocated towards looking after our elderly.
8. What are some other key issues your clients are thinking about?
Our clients are typically institutional investors or UHNWIs looking to build a diversified portfolio of high-quality investments. The price of quality assets often doubles every 7-12 years. The corollary is if you are not invested that means your purchasing power is effectively halving every 7-12 years.
So the baseline, before expenses, is they want a minimum of 6-12% pa effectively risk-free . Helping them understand why we expect to achieve 20%+ pa returns and how risk is managed is what investors want to know. I have been developing and investing in these strategies for over 10 years now over $7M of my wealth invested in the TCM strategy. If I thought there was a better investment I would be diversified.