Encouraged by the excellent response to our first interview with Sundeep Bajikar, under the “Interviews with the Investing Elite” Series, we are pleased to publish the second interview.
The interviewee is David Schneider, owner of investing website http://nomadicinvestor.com.
David is an independent investor, entrepreneur and writer, currently based in Tokyo, Japan. He trained as a commercial banker in Germany and studied finance at London Metropolitan University. He also worked as an Asset Management Trainee and continued as an Equity Research Associate in Tokyo, Japan. From 2005, he co-founded two hedge funds with a Long/ Short Equities strategy working in Tokyo and Singapore. He developed his bottom-up value approach for selecting investment opportunities and managing concentrated portfolios based on the 80/ 20 principle.
David has authored two books on investing:
1. Modern Investing: Gambling in Disguise (https://www.amazon.com/dp/B01LW8HM11)
2. The 80/20 Investor: Investing in an Uncertain and Complex World (https://www.amazon.com/80-Investor-Investing-Uncertain-Principle-ebook/dp/B01C8DT4IK/ref=sr_1_1?ie=UTF8&qid=1456525541&sr=8-1&keywords=the+80+20+investor)
Interview with David Schneider
1. You have been an investment banker and an investor both. How did it feel to be on both sides of the table – the sell-side and the buy-side?
David Schneider: It’s a well-known fact on Wall Street, that there is no love lost between the buy-side and the sell-side. I personally enjoyed working on both sides. It gave me an inside view on how the money machine works and what financial incentives are in place, besides from political power plays and real weirdos frequenting the trading floors and investment management offices. I have seen employment contracts with my own eyes, their bloated guaranteed sign-in bonuses and the yearly routine of senior bankers and manager complaining about their bonus payments. It’s big money business, with very high salaries. I have seen high manager turnover on both sides and less than stellar teamwork. But these observations pertain only to my former employer companies.
Today, I truly enjoy being an independent investor and managing my money, without the institutional constraints, elaborate regulation or constant judgment and second-guessing by other investors and market experts.
2. Which role do you believe is tougher – analyzing companies as a sell-side analyst, or generating consistent alpha as a buy-side analyst / portfolio manager?
D.S.: In my opinion, it’s a living hell to be a sell-side analyst. Ranging from daily morning meetings that require you to get up at 4 am or earlier, the constant pressure from sales people to come up with good stories and the pressure from top management to achieve higher institutional rankings, it surely isn’t a walk in the park. You have to constantly explain news flow, which many times is unexplainable for an outside analyst.
The work of sell-side analysts is much harder. They have to do work on demand and continuously assess new information. These days it’s truly a 24-7 business. Analysts have to be sales people themselves to continually promote their work and their company. It’s a tough job – on the bright side, they earn more and cater to a much broader audience than buy-side analysts.
3. In the current scenario of sufficient access to information and analyses, do you think it’s become harder to find mispriced stocks and therefore generate alpha consistently?
DS: Times have changed, and so has how investment opportunities reveal themselves. Yes, it has become more difficult from a conventional point of view. Already in 1976, Benjamin Graham himself noted in one of his last interviews, the form of how he made money from the early on in his investment management career. He went so far, as to indirectly endorse index fund investing. But harder is always relative – during Graham’s time it might have felt easier for him and a small astute group of pioneer investors. But during this period, the majority had as much difficulty generating alpha, as they do today.
4. With the advent of Algo Trading / HFT, do you think the role or importance of human traders/investors will reduce going ahead, at least in the institutional/hedge fund investment space?
DS: Yes, it’s a certainty. The age of star fund managers is over, at least for large giant financial institutions and money management companies. They will more and more promote their sophisticated and elaborate investment processes, their IT infrastructure, research resources, processing power etc. FinTech and introduction of AI will play a much larger role.
5. Within the listed space, which basket would you be more positive on, the large cap stocks, or the mid/small caps? Do you think large cap or index stocks could beat mid/small caps, or the reverse is more likely?
DS: I seriously don’t care which one outperforms in the future. Large professional money managers will have to deal with these questions, as they are judged by monthly performance, or even daily performance. I consider the entire investment universe and asset class as my oyster and so should all intelligent and independent investors. If small caps are cheap and they are obvious no-brainers, I will invest. If bonds offer decent risk-return profiles, I will invest. If a giant financial institution like Deutsche Bank is declared as dead, I will invest. I am an opportunistic investor and asset classes and regions will offer ample opportunities. You just have to choose your picking ground.
6. Within the small cap space, how does an individual investor tackle the issue of evaluating management? Can an investor take a call on small cap stocks, based purely on published information, and scuttlebutt investing, without engaging with the investee companies’ management?
DS: Good question. If an investor is willing to invest a sizeable amount of his/her investment portfolio in just one small cap, he/she better have full conviction. But that counts for any investment. Naturally, conviction can only be gained by detailed and thorough research and understanding of the subject matter. That does not mean this approach is foolproof. If management deliberately intends to cheat and defraud investors, they will be able to do so. In these rare cases, it will be almost impossible to detect fraud without sitting next to management and overviewing its every move and decision – coming short of hiring a private eye. There are many classic cases of defrauding of investors, and very sophisticated and experienced investors, at that.
7. Please describe in brief the theme of your book “The 80/20 Investor”, and your upcoming book.
DS: “The 80/20 Investor” is about simplifying investing for retail investors by harnessing the power of the 80/20 principle. 20% of the efforts generate 80% of the results – in this case, performance. People learn what this 20% is, and how they can implement this unique strategy for their own portfolios.
My upcoming book is about Index Funds, their advantages, their flaws, and how retail investors should really make use of them. It’s a critical view on an asset class that has enjoyed so much media attention in recent years and so many endorsements from famous investment celebrities and academia. I will show that most retail investors will most likely be on the losing end and may in fact experience their first real financial market challenge.
8. Your latest book “Modern Investing: Gambling in Disguise”, discusses the concern that modern investing is rigged to the advantage of a few unscrupulous, smart investors. In such scenario, should individual investors invest via the mutual fund route, or take the direct equity route?
DS: There is as much fraud, opaque business practices, and misleading information within the money management industry, as there is within listed companies or securities companies. It’s a jungle out there, and a lot of people want your money. They use very sophisticated tools and techniques to achieve that goal. We need to remember that whenever money flows from our pockets to someone else’s, we take a substantial risk. Your responsibility as an independent investor is to reduce that risk by doing your own homework, your own thinking, regardless of what the investment is. That counts as much for choosing the right fund manager, as selecting a single investment.
9. There are thousands of Hedge Funds operating in the U.S. Experts are of the view, that a consolidation may take place within the hedge fund industry. How should one go about choosing a hedge fund to invest in?
DS: Good question, again. First, retail investors should always do their own investing, or stick to simple index fund investing with a proper asset allocation strategy. If one still decides to let someone else manage their money actively, the conviction in management and key personnel is the most important factor.
All famous value investors have had their terrible performance periods. If you don’t have conviction and confidence about the manager’s skill, the most elaborate and rational arguments will not stop you from bailing out on your investment at a time of crisis – usually the worst possible moment to withdraw your funds. What makes it even more challenging is that you need to have conviction not only about their investment skills, but also operational skills as business managers of their money management operations.
10. Large hedge funds (AuM of over USD 10bn) are usually unable to invest in promising small cap stocks, due to the market cap restrictions. Would investors be better off sticking with small sized hedge funds (AuM of say, USD 250mn), who may be in a position to invest in small cap stocks?
DS: See my answer to question no. 9. Conviction in a manager is more important than trying to anticipate which market segments do better/outperform. It adds another layer of unnecessary complication, which will most likely result in failure and under-performance v. general index funds. Again, that might be a vital question for institutional investors; it isn’t for retail investors. Their job is to protect their money and only get into bets, with favorable odds. Besides, just because a segment is overcrowded or large funds can’t invest in small caps, does not mean they could do worse than smaller hedge funds. The biggest hedge funds in the world beat their peers and benchmarks comfortably. Renaissance Capital, Ray Dalio’s Bridgewater Associates or Citadel come to mind.
Being large has its own advantages.
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