Draw a Wall Street paycheck long enough and you will work with an amazing spectrum of personalities. Today’s note from Nic Colas (of ConvergEx) is an homage to his past coworkers in the form of some offbeat comments that have stuck in his memory over the past 25 years on the Street (and will ring true to anyone who has spent more than a day on a trading floor). On the psychology of money management: “Last year we made $360 million and lost $330 million." On the importance of language in positioning an investment story: "The company’s revenues aren’t unpredictable; they are just chunky.” And our favorite, from long ago: "Who cares if most money managers underperform. They all seem to have big houses and pretty wives." No, not all these quotes are exactly "Politically correct", but they all represent some useful truths about investing and capital markets.
Via Nic Colas Of ConvergEx,
Over the years I have worked at six firms on Wall Street, doing everything from mail-room duty to mutual fund phone rep to stock analyst and portfolio manager. What sticks in my mind about each assignment is not so much the work involved as the people I have met along the way. To put a little structure around this topic, consider the following thought. If there is a movie genre that most closely replicates life on the Street, I would argue that it is the prison flick. There are set personality types in both, such as the bully, the snitch, and the “Guy just trying to do his time.” In my experience, you learn more from your co-workers (or cellmates, if you prefer) about life on the inside than any other source of information. So today I offer up a few of the most memorable pieces of wisdom given to me over the years.
“Last year we made $360 million in profits, and lost $330 million.”
At one hedge fund where I was employed about a decade ago, there was an annual ritual in “The Room” which involved standing up in front of your co-workers and discussing what you had made in your portfolio the prior year and what you were promising to generate in the following period. The most volatile team of traders – a two man operation with regular multi-million dollar intraday swings in profits – led off the discussion. They broke down their gain in the prior year of $30 million into their winning days and their losing days: $360 million versus $330 million. It was as neat a description of the emotional rollercoaster of investing as I have ever heard. On winning days, you feel like a champ. On losing ones, not so much.
“Who cares if most money managers underperform. They all seem to have big houses and pretty wives.”
One of my business school classmates, an especially well-grounded fellow from the right side of the tracks in Memphis, came up with this gem. This was over two decades ago, so the sentiment is a touch sexist, to be sure. But it does point to one subtle but critical fact: investors just want to make a decent return. If a portfolio manager mildly underperforms in a rising market, he or she is unlikely to lose a lot of assets. Such was the case for active managers of equity portfolios from the 1980s to the early 2000s, for example. And such is the still the rule for fixed income managers. The bottom line is that investors ultimately care about real returns as much as relative ones. Deliver decent real returns and most people will not ask if it was the market or your prowess.
“The company’s revenues aren’t unpredictable; they are just chunky.”
With all the focus on what makes for a successful initial public offering lately, I remembered some of the lessons I learned helping out on equity capital market transactions as a sell-side analyst in the 1990s. For every hour spent actually pitching an issuer to use your firm for their IPO or secondary offering, about 20 hours of time go into creating the “Pitchbook.” Every word is scrutinized for its ability to put the issuing company in its most positive light. Even the “Investment Concerns” section has to be rah-rah positive. So when one highly experienced capital markets officer reviewed a pitchbook with the word “Unpredictable” listed as “Potential Investor Concern #1” he quickly replaced it with “Chunky.” When I asked him why, his explanation was, “Chunky, Nicky…. Like peanut butter. Everyone like peanut butter. No one likes anything unpredictable.”
“I am not saying ball bearings can cure cancer. I am saying ‘What if’ they could.”
On the same topic of selling IPOs and secondaries, one bit of the process that gets short shrift is the role of the equity salesperson. It is they who call their money management clients with the pitch, tailoring the given company’s story so that it appeals to as many potential buyers as possible. Valuation is always a struggle – not just in high flying social networking IPOS. Portfolio managers always want the stock cheaper. Good salespeople become adept at finding as many potential levers of earnings growth to counter the objections of the potential buyer of the stock. One especially talented salesman explained his rap with this only-slightly exaggerated example:
“Say we are doing a ball bearing company IPO. Boring. These things go in heavy duty equipment around the world. There are only three global players, and they still cut each other’s throats on price. And the cycle is rolling over. I need a new hook. What else can ball bearings potentially do? Hey – valuations in med device companies are sky-high. How about that pitch? I am not saying ball bearings can cure cancer (or anything). I am saying “What if” they could. That’s not in the valuation of the stock. You get all that cancer-cure upside for free if you buy this ball bearing company IPO.”
“He bought the first hundred poorly.”
Back to the hedge fund gig for the last two quotes. We used to get Excel spreadsheet printouts of every trader’s pad (their portfolio) left on our chairs in the evening. These lists included the positions of the owner/founder of the firm, one of the most talented (and now wealthiest) traders on Wall Street. One day I noticed that he was long 1 million shares of a large telecomm company. Now, this was during the tech bubble of the late 1990s and this stock was going nowhere fast. Why would a highly skilled hedge fund manager be long 1 million shares of a stock that doesn’t move? I asked this question out loud, and the trader next to me mumbled, “He bought the first hundred poorly.”
Lesson #1 in trading is to never, ever double down. Buy something stupidly, and the right answer is to ditch it. Never add. Our boss had gotten to a level where he could break that rule. The position turned positive the next day, and he sold. But it was very much a case study in “Don’t try this at home, kids.”
“I will make it all back.”
Every trading room has its flamboyant tough guy. Ours traded cyclical stocks, and he was famous for having been “Put on the beach” early in his career for losing too much money in one week. He took the leave, got his head straight, and returned a stronger trader for it. But one day after I had arrived, he got caught out overnight and the pre-open reports had him down $1 million on a $20 million portfolio. Our founder walked into the room, took one look at the sheets, and said to the tough guy – “Hey! Are you down $1 million? Do you want to go back on the beach?!” Much razzing ensued, which infuriated the tough guy trader. He responded, “I am going to make it all back. Every penny. Today. And then you will apologize to me.” OK – his language was much, much cruder. But you get the idea.
No one did a stitch of work that day. We all watched the tough guy trader’s pad, tick by tick. At 4:01pm he was up something like $50,000 versus the initial $1 million losing start to the day. Huge standing ovation from the room for his performance. Even the founder joined in.
The lesson here was a visible display of the old adage that “If you think you can do something, or if you think you can’t, you are probably right.” The point is he tried, he believed, and he succeeded. And of all the lessons in this brief note, I try to keep that one the closest.