Episode #182: Larry Hite, “I Want To Be In A Position Where Something Great Can Happen…If I Don’t Get That, I Don’t Want To Play”
Guest: Larry Hite is the author of THE RULE: How I Beat the Odds in the Markets and in Life―and How You Can Too, an investor, trend follower, pioneer of system trading and the guaranteed fund concept. He is best known as the founder of Mint Investment Management Company. During his 13-year tenure at Mint, the composite of funds achieved a compounded annual rate of return greater than 30% before fees during that period. Hite pioneered the use of the “guaranteed fund” concept, which helped Mint become the first hedge fund to raise over $1 billion. In 2000, he founded Hite Capital, a family wealth management firm. He was profiled in the book Market Wizards by Jack Schwager and won the Hedge Funds Review Americas lifetime achievement award. The Financial Times wrote “Hite’s development of complex, algorithmically driven models that aimed to spot and follow market trends delivered average annualized returns of more than 30 per cent to his clients.” Hite also founded his own charitable enterprise in 1987 where he serves as President. The Hite Foundation initially focused on child welfare policy, making grants to improve public policy and practice with regard to permanency planning for children in placement. The foundation’s grantmaking now encompasses a broad range of philanthropic interests.
Date Recorded: 10/03/19
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Summary: In episode 182 we welcome our guest, Larry Hite. Larry and Meb start off the conversation with Larry’s origin as a trend follower, and the parallels to trend following and life. Larry follows with personal challenges he overcame in life, and how he found a path to success through a life lesson, weeding out what he couldn’t do, and include the things that gave him a lot of enjoyment and potentially a lot of money (or both).
Next, Larry gets into his start in investing, combing through hundreds of years of data and finding that cutting losses and letting winners run really works. He then transitions into some underlying foundations about how he thinks about trading, including, putting the odds in your favor by creating asymmetrical bets.
Meb then talks with Larry about founding Mint, one of the earliest systematic CTAs, and was the first hedge fund to raise over $1 billion.
As the conversation winds down, Larry talks about systematic rules, trend following, and making an array of bets.
All this and more in episode 182, including concluding thoughts on challenges and resiliency, and Larry’s most memorable investment.
Links from the Episode:
- 0:50 – Welcome
- 1:35 – The Rule: How I Beat the Odds in the Markets and in Life―and How You Can Too (Hite)
- 1:46 – The moment Larry became a trend follower
- 4:12 – Parallels to trend following in life
- 4:52 – On the Origin of Species (Darwin)
- 6:19 – Trend following applied to investing
- 10:15 – Larry’s start in investing
- 12:52 – Investing principle of not losing all your chips
- 17:05 – Trading risk for the highest return
- 17:10 – Beat the Market: A Scientific Stock Market System (Thorp, Kassouf)
- 17:16 – The Meb Faber Show – Episode #39: “If You Bet Too Much, You’ll Almost Certainly Be Ruined”
- 24:57 – Challenges Larry faced
- 31:06 – Founding of Mint Investments
- 33:11 – The discussions where people didn’t get trend following
- 35:21 – Why people are still reluctant to follow trend following
- 38:18 – Larry selling a domain and taking equity over cash
- 42:44 – Conviction to trend following
- 43:54 – Power of holding your winners
- 44:39 – The Meb Faber Show – Episode #165: Chris Mayer, “I Do Think The Biggest Challenge…Is Keeping It, Holding On To It”
- 44:41 – 100 Baggers: Stocks That Return 100-to-1 and How To Find Them (Mayer)
- 46:41 – Jeff Bezos Is a Trend Follower with Michael Covel on Trend Following Radio
- 47:10 – Larry’s strategy for making trend following work
- 52:15 – How to raise tough kids
- 56:36 – Most memorable investment
Transcript of Episode 182:
Welcome Message: Welcome to the “Meb Faber Show” where the focus is on helping you grow and preserve your wealth. Join us as we discuss the craft of investing and uncover new and profitable ideas, all to help you grow wealthier and wiser. Better investing starts here.
Disclaimer: Meb Faber is the Cofounder and Chief Investment Officer at Cambria Investment Management. Due to industry regulations, he will not discuss any of Cambria’s funds on this podcast. All opinions expressed by podcast participants are solely their own opinions and do not reflect the opinion of Cambria Investment Management or its affiliates. For more information, visit cambriainvestments.com.
Meb: Hey, podcast listeners, summertime has ended. We’re now entering Q4. Can you believe it? It’s almost 2020. The decade is almost over, it’s crazy. Today, we have one of my favourite episodes ever. Our guest has over three decades as a successful trader and investor and is one of the original pioneers of systematic trend following trading. He co-founded Mint Investment Management, and led the firm to creating one of the industry’s first commodity trading advisors, CTAs. And I believe he was the first to manage over a billion dollars. He then went on to start his own family office, redirects his own investments, continues his research into the field of systematic trading.
He’s the author of the new book, and, believe me, you need to read this book, “The Rule: How I Beat the Odds in the Markets and in Life—and How You Can Too.” On top of all that, he’s one of the original market wizards. Please enjoy my conversation today with Larry Hite.
What was the origin for you becoming a trend follower? You know, you listen to Warren Buffett and others say he was like inoculated at birth on being a value guy. Was there a moment you can look back onto because, and I’d love to talk a little bit about your history evolution as a trader, but was there a moment when you said, “I get it”, trend following is, sort of, a bug that bit you or was it a, kind of, gradual process? Do you recall?
Larry: It seemed like really a natural process, literally. I mean, think about it. Are you single?
Meb: No, I’m married.
Larry: Okay. Well, when you met your wife, you were attracted to her. You thought she was good looking, whatever it was, her personality, it didn’t matter. As you got to know her, you found more things you liked in her, so you spent more time with her. And then all that time was like putting love in a bank and then the dividends came, children, the relationship deepened. Well, all of life works that way. It also works in reverse. Because if you went out on a date and the person really was annoying you, just deep down inside, the voice was terrible. The body might have been great, but the voice was like scratching nails on a chalkboard. You’re not gonna go for a second date. And everything in your life runs that way, it’s a feedback loop. And all trend following does is cashing on that feedback loop.
Meb: You know, it’s funny, this analogy, because if you look at people in life, many people don’t cut their losses, whether it’s relationships, whether it’s being stuck in job situations, and a lot of that leads to quite a bit of unhappiness. So, I mean, not just from a portfolio perspective, but you see people that, for whatever psychological reason, they continue to wanna believe that the situation will improve. And they continue to just go down a roller coaster straight down on whatever it may be, job, career, relationships, marriages, you see it a lot, though.
But it’s funny because, you know, you think about trend following in general too and it applies to so many other areas of finance that I think people don’t think about. And we often talk a lot about the venture capital world, as, in many ways, a trend-following perspective. Now, their stop-loss is just the company’s go-to zero or, you know, they exit at some point, but they’re really buying and holding the big huge winners that are 10,000, 100,000-baggers, in some sense, and they don’t sell them until, and a lot of the stock investors we talk about, they never end up holding the long-term investments. Anyway, there’s a lot of parallels in life and I think that’s a wonderful insight.
Larry: Did you read The Origin of the Species by Darwin?
Meb: I don’t think I’ve read the original text, but I was actually, in a previous life, I was a biology biotech guy as coming out of university. So, I definitely have some grounding there. But I’ve never read the original text.
Larry: What it really is, trend following and evolutionary biology are, kind of, the same thing. Because what happens is species adjust to the environment, and that’s what you have to do to have a successful life. When Darwin said…he didn’t say it’s the strongest animal, he used the term physicalism, the death, the fittest.
And what he meant was not how many pushups you could do, what he meant was, what kind of environment are you living in, and how fit are you for that environment? Very important. So it may be called trend following, but it goes back to biology, it goes back to biomechanics. And it’s very important that people understand that this is a natural process. David Ricardo, very few of David’s things about trade were ever committed to print. But he had one line that said, “Cut your losses and let the winners take care of themselves.” Well, over the years, I revised that, and I will give you…You think anybody is interested in making money?
Meb: Yeah, yeah, everyone. And by the way, listeners, David Ricardo was an economist from 18th century.
Larry: Yes, David made a fortune as a speculator. But his rule was when in doubt, get out, quickly. Now, I remember that rule that let’s say you start out, you wanna trade 10 things, as they hit the stops, you take the money out, but you put it into the rest of the list that’s winning. You rank that and you’ll find out, you’ll get not only rich, but you’ll get richer than most of your peers. Because you’re always going from losers to winners and that’s a really major advantage. And the market’s allowing…In fact, losses are actually quite good for the trader, because he builds up a cushion for his profits to come. So it’s very tax-efficient.
Meb: It makes sense to you now, you know, you’re one of the most successful trend followers of all time. But do you remember a point at which…Because I came to it, I was a biology guy, I was a fundamental discretionary trader, made all the mistakes in the world, you know, painful mistakes one after another trading. Until, eventually, I arrived at trend following by eliminating every other possible terrible way to invest, and then it really made sense to me. But it wasn’t out of the get-go. You know, was it a similar situation for you? Because I’m an LA guy and I know that you started out as an actor screenwriter. So at some point, you had to make the transition, I imagine.
Larry: Let me explain it a bit. But the way, were you a good athlete?
Meb: I was decent at, like, a high school level, not at a college pro-level.
Larry: Okay. My point is I was blind, and I’m dyslexic, so I am used to living with failure. That’s what I know. So I would never let failure get in my way. If I wanted something bad enough, I found a way around it and that’s what you gotta do. You wanna weed out the things that you can’t do because you don’t have an edge. And you wanna include those things that give you a lot of enjoyment, where you make a lot of money or both. And that struck me as just the way it mathematically would work.
Meb: It seems when you put it that way that it’s so obvious. And so, you know, as you started the career trading…And by the way, the book, listeners, is called “The Rule: How I Beat the Odds in the Markets and in Life—and How You Can Too” is really a wonderful book. We spent some time with it this past week. And it talks about Larry’s evolution, you know, where it wasn’t a traditional Wall Street path that you would have today. You know, we’re going back to the late 1960s I believe, early ’70s, Wall Street is a little different place. I mean, hey, today, they were announcing…every major brokerage announcing free commissions. That probably wasn’t the case when you got started.
Larry: No, very expensive.
Meb: But you started as a…do I get this right, was it a commodity broker or a stockbroker?
Larry: I started…I had to be a stockbroker but I wanted to be a commodity trader. That’s what I really wanted to do. It just struck me where I can get richer, faster. And I love the concept of stops, I think stops make all…I’m now sitting on…since the book is out. I have a view going straight up the park north. I was born in a three-room apartment in Brooklyn and I looked at a cement wall. Now I look at Central Park going up. That’s from my living room when I’m sitting at a desk at work, and I’m going the other way.
So I got what I got because I decided I had to stay alive. I’m a very functional person. And then, I thought, “Well, how could I do this?” And I got to the library, I looked over hundreds of years of data. And the one thing I found was cutting your losses and letting your winners run really works. It really actually works.
Do you have access to a computer?
Meb: Of course.
Larry: You have a database, right?
Meb: Of course.
Larry: Okay, I’m gonna tell you what I made people do. When Alex Greyserman was a chief investment, computer guy, said, “The first thing I want to do is I want to write a program that we go into the market randomly.” We have a number generator, and it’s like 20 things lined up, says which one as it goes, and then another random generator will say it was a long or short. Well, people thought I was nuts, but I said, “No, I wanna do this.” And I found that that it was a very good way to make money. Then those cutting your losses and letting your winners run is magic. And so I’ve amplified that, I use options, I use spreads. But all in the service of reducing my risk and making more money.
Meb: In the book, you talk about this in, sort of, four ways, in stops and riding your winners. I think it sounds so simple and obvious to us, as trend followers, but a lot of people, that’s somewhat of a counter-intuitive idea. And in the book you say, look, there’s four foundational principles I apply to get them into the game of money and game of life. And I’m just gonna read the first couple, but first is, “Get in the game in the first place.” Two was, “Don’t lose all your chips because then you can’t bet.” Three, was, “Know the odds”, and four, “Cut your losers and run with your winners.”
But let’s talk about two for a second, which is, “Don’t lose all your chips.” Because what you mentioned I think is something that is what takes so many people out of this game. Where it’s either position sizing about how much they bet, or the fact that they’re just willing to ride a losing position all the way down to zero. And in many ways, this freedom of saying, “I’m agnostic, I don’t care. At some point, I’m out and I’m done, but I’m gonna live to survive another day.” Maybe talk a little bit about this, sort of, foundational principles of yours. I think it’s a really important philosophy, whether you’re a trend follower or not.
Larry: I don’t have to be in…You know, one event the stock market is? The one real event is you don’t have to play, right? If you go into a poker game, you gotta put up money before it begins, you gotta throw something in the pot. So it costs you money if you leave. You threw it in the pot. Here, you have the ability to choose under what conditions you play, how you play, and the way you play. That’s a very…and you get that for free. Nobody is standing there and saying, “Hey, you can’t just stand here and do nothing.” But when you’re looking at those prices, they come out and you become…[inaudible 00:14:56] and you just go look at them. You don’t have to do anything. Nobody is gonna make you do anything. That’s an enormous edge.
If you could only bet when you have an edge, that’s really good. And then much better, if you can get a little bit behind the guy you’re fighting so that your hit comes from behind his head, he’s not gonna see it. So you gotta look for what does the situation mean. And I didn’t mean that in a negative way about coming from behind, but you wanna be in the best position for you. You may use options, you may use buying shares, whatever. You can come up with a configuration that puts the odds in your favour. You can’t do that in any casino, really, but you, as an investor, by yourself, you can set the ground rules, so that’s really a lot.
That’s an enormous advantage. So you don’t wanna throw that advantage away. No one says you have to play. But when you play, you wanna make sure that you are creating an asymmetrical bet. What do I mean by that? Asymmetrical bet is when you talk about leverage, right, people assume the more you leverage, the more you get. That’s not always true. Sometimes you can find the position or work to a position where your downside is very truncated, but your upside is immense. And that’s what the markets give you. But you have to be on the lookout for it, and you have to want it.
Meb: This concept of edge, I think is so important. You know, you mentioned in the book, a very foundational book of Ed Thorp and some of his ideas on beat the dealer and beat the markets. We were blessed to have Ed on the podcast as well. You know, but you talk about something that I think is so important to investors, because they get so caught up in the stories of the day. I can’t tell you how many people feel like they have to have an opinion on Tesla stock, or they have to have an opinion or position on Bitcoin. And I say to these people, there’s tens of thousands securities around the world. You don’t have to have an opinion on each one. You don’t have to have an opinion at all. You don’t have to play, you can really only play when you feel like you have a true edge. And I feel like that’s really hard for people.
You talk in the book about a concept that is really interesting because we often say it’s important to be asset class or investment agnostic. And I may get this wrong, so please correct me. But you said something along the lines of, I don’t trade various commodities, I’m trading money. What did you mean by that? And please correct me on the actual verbiage on that.
Larry: No, no, no. You came very close. I trade risk, I’m looking for the lowest risk to get the highest return. So it’s a situational thing. People think there are two kinds of bets, bets you win, bets you lose. But there really are four kinds of bets. There are good bets, there are bad bets, that’s two kinds of bets. But a good bet puts you in a position that if you’re risking a dollar, you make $12 when you win. That’s important. That’s what you can do with options a lot. Although you are not the casino, you’re using the markets to invent your own casino. You don’t want to take any bet that’s a bad bet. You wanna make 10 times the risk with 50% chance of being right. That’s what you want. You don’t care how beautiful the girl at the table is at the casino, but you’re looking at the money and you’re looking at the expected value.
Meb: This concept of, sort of, process and outcome is something we talk a lot about, you know, good bets, bad bets, winning bets, losing bets. And, you know, the worst thing…I always tell people, the young traders, the best thing that could ever happen to you, as a young trader, is you make a bet, whatever it is and you lose a fair amount of money when you don’t have much. Because that teaches a lot of lessons. You know, one may be the very real pain of losing money. But also the worst thing that could happen to you is probably making a nonsense bet and having a huge wonderful outcome because then you believe that…you, sort of, confuse all of this with process and outcome.
Larry: You’re absolutely right. I was working in a firm, and the guy running the firm for a very wealthy family, he had screwed up what he was gonna do. It turned out now he was in a very bad position. So he called in different people. And I was one of the guys he called in and he said, “What would you do, Larry?” And I said, “First loss is the best loss.” Well, he did not follow my advice. And he won. And I turned to a friend of mine who was working there, I said, “Oh my god, this is the end of this firm. We’re gonna need another job.” Because this guy now found out that he just went through a minefield with his eyes closed. So every time he gets to a minefield, he’s gonna close his eyes real tight. And then he’s gonna blow up and that’s what’s gonna happen. And that’s exactly what happened to this guy.
Because keeping your eyes off the ball just doesn’t help. That was a luck shot that worked, but more or less guaranteed not to work. If you don’t know the risk you’re taking, the market will tell you and you won’t like how it tells you. Do you have time for a story?
Meb: We got all the time in the world.
Larry: So I have this cousin of mine. He’s not brilliant. He decided he liked Merrill Lynch at the bottom, so he loses all his money, one bet. And then he goes out and he borrows another $10,000, really quite amazing. And then he comes back to me, and I said, “Well, how much did you lose?” He said, “$110,000.” I said, “No.” I said, “You can’t lose $110,00 because you only have $100,000. And so with options, you can’t lose more than you put in.” And he said, “Well, you know…” I said, “What?” He said, “Well, I borrowed another $10,000 because it got so low. I only needed to go up like a nickel and I would have made 4 times my investment.” And I remember he said to me, “I’m gonna make a killing.” I said, “There’s going to be a killing. You’re not gonna like the face on the killing floor.”
Meb: I think this is something that people learn eventually, hopefully, it’s when they don’t have a lot of money. But there are so many things going on, you know, at the poker table, people often call it, you know, going until when you start to lose money, positions going against you. Often cases, people lose all rationality, they start to bet aggressively, they start to, in this case, feel like you have to double down. And, you know, this was a good case of value investors in the financial crisis that took a lot of value investors out to the woodshed. Where they kept doubling down on a lot of these value investments that eventually just went to zero. And many of these value funds lost 70%, 80% never recovered.
And the nice thing about having a trend methodology is you’re gone at some point. You live to play another day, which is probably the most important rule in all of investing is at least you survive. And not only, he compounded the problem by borrowing money and making it worse.
Larry: Right, we have this…there’s a whole myth, especially for boys about playing with pain. Well, you know what, speculating is not a strength game. This is not lifting up 500 pounds. You gotta know what you’re doing and you get no points in the markets for doing something difficult. You only get points in the market for having the odds with you no matter how you configure it, that’s what pays off. Smart betting pays. Being a tough guy doesn’t pay. So the market is smarter than you, than any of us.
Meb: I love some of your stories in the book because they’re so honest and I don’t I wanna give away all the stories because, listeners, you should definitely read the book. But there was a couple of really challenging moments earlier in your career pre-Mint. This may have been ’60s, ’70s. And, you know, I remember one where…And probably some of these experiences led to the, kind of, worldview you have today. But I remember a smile about one where you’re on your knees in a stairwell, saying, “My God, please let me survive today in the financial markets.” I thought that was a beautiful, honest retelling.
Larry: Yes, it was very funny because I was [inaudible 00:25:36]. There were a lot of Swiss guys from Switzerland. And I literally, when I saw what had happened, this position, I just got on my knees and I said, “God, I don’t care if I lose all my money. Don’t put me in deficit.”
Meb: I think this was Corn Futures right?
Larry: Yes, yes, it was, actually. And it was two crops. We were wrong. And then it went limit up when I was short and limit down when I was long. So I got killed both ways.
Meb: It’s so funny. It makes my palms sweat reading this book because it reminds me of a couple of painful trades I had early in my career. But the one that I honestly do not think I could have recovered from and it takes an enormous amount of, I think, character and just fortitude for you to survive was the story about your partner putting…or I think it was maybe not following the rules or putting you guys into a trade, then, kind of, wanted to hide for a little bit that, really…Can you tell us about like, how you persevered? Because I don’t think that I could have survived that moment and then go on to do everything you did.
Larry: Well, furthermore, I survived as most people do from war because I had no choice. So I had a family. I just started, and all of a sudden, I get to the office. My lawyer calls me up, he says, “Larry, come to my office.” We were in the same building. And there was my partner who’d been my apartment for 10 years. Actually a very interesting guy. He was a scholarship student at Tufts. He looked like Omar Sharif. He had all the kinds of stuff that you think you’d want. He got into the markets. Volcker changed the deal. He never got out. I never have…I don’t put in a buy without a sell. I don’t put in a sell without a buy. That’s the rule. He hid that, I was on the road, he had hid that.
All right, I was very sick. I was sick to my stomach, but I had to do this. I had a young family. I was desperate. We owed this one firm $3 million. And I go in, I see the head of the firm, and he comes at me very tough. And I put my hands and I said, Oh, hold on, hold on. Look at me, you can’t kill me. I’m already dead. The only chance you have of getting your money back is me. So I’d think about this.” And he said, “Yeah.” He tried being tough and I said, “Look, you really can’t kill me, but maybe there’s a way out.” And it turned out, I turned it around because I could not accept failure. What was gonna happen to my family? I supported my parents, I have to support my children. What was I gonna do? I had to make sure that I made this right.
So would I like doing it? No. But I had to do it. I bought my parents a home in Florida in a development community that they wanted to be in. So they didn’t have any money. And I had to work this out. So I had to go back to all the investors and explain to them why it was in their interest to put in more money. That was a tough trip, but you have to do it. If you don’t have a choice, what are you gonna do? I not only supported my children, I supported my grandmother, two grandmothers. I had to do what I had to do and make it work.
And I don’t think it was so heroic. It’s what I had to do. If I would have had an easier way to do it, I wouldn’t have done it. But I had to make it work. And I think if you’re unlucky enough to be in that position, you would do the same because you have these obligations. And I was raised in a very family-centred, although not particularly rich family.
Meb: It’s impressive, man, I tell you. You make it sound an easier recovery than probably it was at the time. I mean, I think a lot of people would not have come out the other side like you did. You know, so you went on to found Mint. And I think, listeners, the younger millennial crowd may not be familiar, but this is, at the time, I think one of the earliest systematic commodity trading advisors. We call them CTAs today or trend followers. One of the first…if not the first to hit a billion in assets compounded in the ’80s, double digits, I think even closer to 30%. What was the origin story there? You know, how did you originally get started? I know you were doing a lot of hopping over the pond to London, but rewind, tell us a little bit about the origin story of Mint.
Larry: I want to do this very much. I wanted to do trend following and I met some guys in London who had a brokerage firm and I showed them how this would work. I said, “Look, here are the simulations, here’s how we did it, this is the culture.” And I went, it was very tough, but I said, “Look, if you don’t help me, you’re gonna have a much bigger loss and it won’t be a loss you can use for taxes. So, let’s think how we can work this out.” And we did. I went to 100 or so investors, and I virtually went to see every one of them. Those were not pleasant conversations, but I had to do it. And then I went back, I made a couple of deals, and I got 100 grand, and then I started again. But that loss, that did not dissuade me from trend following. He broke the rules.
Meb: You know, trend following is having a great year in 2019. But you were early in this discussion of trend following. I would love to hear a little bit about…we have a lot of institutional professional allocators on this podcast. Talk to me about your discussions with investors over the years. I mean, it’s obviously easier after you had an amazing run. But what were some of the traditional discussions of people that get it whether it’s endowments, foundations, institutions, pension funds, allocators, the big money?
You know, because even in 2019, I feel like, you know, many professional investors just have a mental block when it comes to trend following as a strategy. Talk to us a little bit about the, sort of, interactions over the year, people that got it, people that didn’t get it, all your thoughts on building a billion-dollar firm.
Larry: If you read the Bible, people love stories. They like them. That’s how they build their life on stories, on myths. I understood that you had to tell people a story. And once you got that…and a lot of people were not gonna like it, but when you explain the dire consequences of not going ahead, you find that people, common sense, which is not so common, wins out. So, yeah, it was the worst year of my life, except that I had one thing, I had a new baby. So that added my responsibility, but it was a joyous thing. So you go do whatever you have to do because you have to, and you’ll figure out ways to get it done.
Meb: You mentioned narrative, and I think this is interesting because we talked to a lot of investors, and you have actually an example of this in the book. Where you say, look, if you were to mask these asset classes, so stocks, and I think you use the Soc Gen trend-following Index. But if you were to just blind them and say, “Which would you prefer? And how should you combine them?” In many cases, the allocation to trend following type of strategy should be very high on the order of 20%, 30%, 40%, 50%. You know, and we’re probably the biggest outlier, as far as I know, as traditional asset managers, the allocation of trend following, ours is half.
But I don’t think I’ve talked to an institution anywhere that’s allocated more than 10% that’s not a trend following shop already, you know, that’s, say, in an endowment or an institution. What do you think the reluctance is from the allocator perspective of why they’re, in 2019, still reluctant to allocate to trend following, sort of, allocations?
Larry: Because they wanna keep their highly paid jobs.
Meb: And you think a lot of it is just career risk?
Larry: Oh, career risk is a major risk for these people. They went out, they got a job. Let’s say they went to graduate school, they don’t wanna take any risk. And they’re getting paid several hundred thousand dollars a year. And probably if you look at their family background, they are very much in the minority. So they’re making more money than anybody in their family made for decades, decades. They did not want to get off that gravy train. Because very few people are brave, they’re just not. And the older you get, especially when you’re in your child, you’re bringing babies in the world, this other risk, this career risk is very big. You’re 25 or 30 and you got children, so you do not have…the discipline is very hard to follow. Plus, people don’t like to admit they’re wrong anyway.
Meb: Yeah, I think to someone like you and I, it’s an obvious takeaway, but I think for a lot of people it’s strange. And I think the narrative…I was joking with Jerry Parker about it once where I said that the problem was y’all back in the day named this managed futures instead of something a little simpler, like just calling the whole thing trend following and that’s that or something maybe a little more marketable. I don’t know. But it’s funny to see the reluctance. But, hey, it’s having a great year this year, after a few fallow years in the last few.
A couple more questions, Larry, that I think are really fun. One is, you spent a lot of time talking about asymmetrical trades. And, of course, you know, trend following being one. But you have, arguably one of my favourite stories, I was also involved in selling a domain. I owned the domainriskparity.com and sold that a few years ago to, I think, a Swiss hedge fund. But what I should have done is what you did. Do you wanna tell the story about your domain-selling expertise.
Larry: Well, I wouldn’t go as far as calling it expertise. But I said I wanted to get a piece of the ongoing business or get out with it, you know. So they negotiated more money. I think you get rich on tails. So the longer you hold something [inaudible 00:39:10] the money option is very valuable, can be very valuable.
Now, what happened was when I did that, I got a couple of million dollars, which I gave to the people that worked for me because they stuck with me when there was no money at all. And to me, that was very worthwhile. They were true blue. And so when we had this offer for money and I said no, I want the tail, and then we negotiated that. It’s funny because I was really, kind of, in a no-lose situation because I wasn’t making any money out of it. So I could just say no, this is what I want. And I stuck it, I said, “Look, if this works, you’re gonna make a fortune. I want a piece.”
Meb: I love it. Listeners, you’ll have to read the book to get the full story. But I’ll give you a teaser, which is this involves the mint.com domain name and the beautiful lesson. We actually wrote an article about this recently, Larry, was that this decision to be paid in equity, instead of cash is one that you look around and there are so many stories about how people get really wealthy. And I’m talking about celebrities, athletes, musicians who make…look, let’s be honest, they make great money. But we’re talking life-changing money in many cases, where they made that.
And its everyone from Jay Z to the guy who did the mural at Facebook to all these athletes today. Kevin Durant of the now Brooklyn Nets. You know, these guys had either invested in companies or started brands. And the mural Facebook guy, you know, exchanged something for actual ownership.
And what you’re talking about is something that’s like the ultimate trend following and applies in life is that it’s these huge outlier tail events that generate all the return and dominate it. Where venture capital, they talk about the 100-baggers, or stock market, or in trend following, you know, it’s the one position that returns hundreds and hundreds of per cent versus all the very, very small losers. And this is just such a wonderful example of trend following in life that’s not something that’s traditionally what people think of when they think of managed futures.
Larry: No, but you’re right. Yeah, absolutely, that’s how you get rich. If you look at the numbers, if you’re in a game, where you can only make marginal money, that’s where you’re gonna exist for the rest of your life. You have to have a way you’re gonna get out of that. You have to adjust those rewards up, but why not? When you’ve lost a lot of money there’s not much is gonna happen and you’re not risking a lot, or you’re risking something in the future. So, I was able to make a lot of people who stuck with me, I gave them half the money. I gave another quarter of it to my children and, you know, the people that work with me through very hard times.
Meb: I think that turned out to be its own good trend following trade is sticking with Larry over the years. Has your philosophy changed at all? You know, is going from running other people’s money to being a family office…? I know you’re involved with ISAM, if that’s how you say it, and some other groups. But now that you’re mostly a family office, is any of the approach any different, any of the ways that you think about…?
Meb: I’d say that’s an easy answer.
Larry: Absolutely not. If anything, it’s hardened. I am a trend follower. And I try to be Warren Buffett. And I actually got so good I was buying his public companies before they were announced because I spent a lot of time trying to crack his code. And I did, somewhat, I would buy the same stocks. But I realized the leverage that he had that I didn’t have. So I stick this…basically, I used a lot of options. And I’m always trying to make a big amount of money for a small risk. That’s what I do.
Meb: Let me ask you a question because the Buffett philosophy actually of trend following, he ends up owning many of these positions for many multiple bagger status. And, you know, we spend a lot of time on this podcast talking about cutting your losses, which I think is super important and a lot of people don’t wanna do. But on the flip side, and I think equally as hard for a lot of people, is when they have a winner, they wanna sell it pretty quick. If you buy a stock and that sucker doubles, and for many people, it may not be life-changing money, but it may be very significant money. They could go buy a house, they could be something or even triples.
Talk a little bit about how you have to have systematic rules because the challenges that those doubles or triples eventually become a 10 or 100-bagger. We had a great guest on here, Chris Mayer, who wrote a book called “100 Baggers.” But would love to hear your thoughts on how, sort of, power laws of these massive returns and the very real seduction of trying to take profits too soon.
Larry: You gotta know the game you wanna play, and then you gotta know what the benefits of being in that game. So the reality, you want a mixed bag of games, because what that money is doing is working for you, right, you’re not working for it, it’s working for you. So, if you’re a little mathematically inclined, you create a bouquet of things that can make you a lot of money. They all won’t, it’s exactly the math behind venture capital. But in trading, you can go through a database and see how a strategy worked, you literally can. It doesn’t cost you any more money. And so you can craft a strategy.
And I will tell you, I’m much more [inaudible 00:46:00] than I ever thought I’d be based on those kinds of bets. And I must have some bets that really pay well and I know I’m gonna stick with them for a long time because they are high compounding. They’re growing at compound rates. I can, maybe, understand them. So, for instance, I own thousands of shares of Amazon because I understand what he’s doing. The kinds of bet…Michael Covel once wrote a great paper and it said, “Jeff Bezos was a trend follower.” He really is. He comes out with a product and he sells it into a network of people, and if it doesn’t work, the product’s gone, and he goes on to the next product. And that’s a very good way to get rich, and that’s what you do.
Meb: As we are starting to wrap a bow on the end of this decade, which is crazy to think, I don’t think I’m really prepared to start saying it’s 2020 yet. But you’ve been in the markets for multiple decades, is there anything, as you look into the future, set your eyes on the horizon, or even recently, that has been particularly surprising to you, or you think is interesting, or things that people aren’t thinking about? I mean, we live in a world today of negative interest rates. That’s something that I think, has certainly surprised a lot of people. Any general thoughts on, kind of, the investment markets, the way the world looks heading into the 2020s?
Larry: Yeah. Well, first of all, I know I can’t predict well, but I could look at situations that I think, over time, will develop. Then I gotta come up with maybe an option strategy where I can get a very big leverage bet with great asymmetrical play. Maybe I’ll find four of those in a year and then one of them comes up, my net worth goes up multiples. That’s my real business, that’s what we’re here for. How do I source those bets? I find certain things work, new highs work. I look at the kind of option bets like you have. So can I skew the return? That’s important to me. It’s not a good deal unless it’s a great deal.
And you wanna apply very sensible, what I call asymmetrical leverage. Several years ago, 20 years ago, I didn’t have much money and I went away with my children. I took them to the Caribbean. And I come back and I’m working in the World Trade Center. And I always would be one of these guys who slept late but went home late. And I noticed that people were coming out, but there were a whole bunch of people come into the building and they wore, kind of, raggedy clothes and it was very, very cold. It was February and I had gone to Canoe Bay with my family and I happened to be trading from a telephone booth. Right? They didn’t even have phones in the rooms. So I’m trading from the phone booth and I’m bored.
My wife was at vacation. I, kind of, like, all right, I had enough vacation. So I started to look at “The Wall Street Journal.” And I made a portfolio of only stocks that were making new highs. I had a quarter of a million dollars. Every year, I’ve given away 10% of that money. So I started with a quarter-million dollars, today I have about 5 million bucks maybe 10. Because I’m looking for those asymmetrical games where I can make a lot of money.
And not only what you’re in, but how are you in. What risks do you have to take? That’s very important. As my assistant said to me one day, she said, “Well, you’re not the kind of guy who would bet a delicatessen to win a pickle.” And I thought that was the truth. I would bet a pickle to win a delicatessen, otherwise, I don’t wanna make the bet because good bets are hard to come by. And good bets are defined by what you’re risking and the multiples that you can make. And every once in a while they work.
Meb: I think that’s a great example. I was laughing as football fans will understand last weekend when I was watching Clemson play Carolina. And Carolina almost upset Clemson, and then Vegas had announced there was a bet. Where they bet something like $50,000 on Clemson to win. But it only paid like $1,000 if you did win. And these, sort of, short-vol bets have no attractiveness to me. They’re the opposite end of betting the deli, I think, but people do it for some reason. It’s always a sure thing out there.
I wanna ask you a question, Larry, you know, I think one of the biggest benefits of the book is not, in my mind, necessarily all the trading wisdom, which is fantastic, but a lot of your life wisdom. And so, a question that I have for you that I struggle with a lot. I’m a new father, I have a two-and-a-half-year-old who woke me up this morning playing his guitar. And I think the thing that I really struggle with often is what you talk about in the book where so much of your life, resiliency, and worldview was built of one where you encountered challenges, and hurdles, and obstacles, and struggle.
And, you know, as I think about someone who will eventually raise, you know, children to become adults, what do you think are ways to instill that into children that may not probably face the same challenges that you had, you know, that they may have an easier life or an easier world today, albeit differently? Just any general thoughts on, you know, someone who has, you know, been through this all, ways to think about it.
Larry: Yeah, first of all, I will tell them that it’s gonna be tougher than they think. And they are very lucky because they’re very unique and they’re tough. I would build that into them, they are tough, be it a boy or a girl. They can take it. It is hard to tell a two-year-old that. But it’s a good thing to build up their character, their image of themselves, so when something bad happens, they can roll with the punches. That’s what being tough is about, it’s rolling with the punches. It doesn’t say you’re not gonna get punched. You are going to get punched. I don’t know, you have a boy?
Larry: Well, he will be…I guarantee you, some little girl will turn him down for a date. He will not be a great athlete every play in every game, but he has to live with that and go ahead to the next thing. What I love about trend following, I was what they call across-the-board trader. I didn’t care what I traded. If the odds were good, I put it into my deck, and then I roll on from one to the next thing. That’s where you’ve gotta toughen them up by loving them and telling them that they’re tough because life is going to be tough, especially for a young child who’s just a baby. I mean, think of that.
Like, I remember my youngest daughter turned to her mother and said, “Oh, we’re out of cereal. Get some cereal.” Right? And I said, “Okay, hold on, you know, about 6 miles from here, there are children who have no cereal. That’s the complete thing, not everybody lives with us like we do. We have a car and driver. We live in a 10,000-square foot house. Life has ways of throwing curveballs and you gotta duck, or catch, or something, but you have to do something. And you, mister my little baby, you’re lucky. You’re a tough kid. I’ve seen you get up and fall and you get up all the time laughing.” And that’s my gift to those children, train them.
Meb: Beautiful advice. Thank you, Larry. As we start to wind down, there’s a question that we ask everyone on the podcast, and you may have mentioned already, you may not have. But as you look back over your trading career, over the many decades spanning all sorts of probably thousands, if not tens of thousands of trades, long, short, everything in between, what’s been the most memorable trade? Could be good, bad, in between, but what’s the one that most comes to mind?
Larry: I went to buy a stock, I forget what it was, and I decided that the price that they wanted for the stock was too high. So I did something very clever and I sold a put at a price that I wanted. I was getting paid to actually buy that stock at that price. Well, about a year went by, I forgot about it, it was a small risk. And all of a sudden I was up $35,000 on about $2,000 bet and I remember that. And, you know, that also got me into the idea of asymmetrical bets.
Meb: The big summary here is to buy something and forget about it.
Larry: Yes, you do that.
Meb: I was laughing about your comment about the trade because we often say the real benefit of private equity is it forces stock investors to actually be trend followers because they can’t sell the positions they bought, and they have to hold it for 5, 10 years. And this actual illiquidity, what people call premium is actually a huge benefit because it keeps them from selling. So it reminds me of your bet that you’re talking about in your trade. Any chance you remember what security it was?
Larry: No, I can’t. I wish I could, but I remembered the run. It was a big run. And it really got me into this concept of asymmetrical returns. I invest to basically have very high risk-reward ratio, expected values. So I wanna be in a position where something great can happen. And if I don’t get that, I don’t wanna play.
Meb: I love it. Thanks for joining us today.
Larry: Thank you. Thanks for having me.
Meb: Podcast listeners, we’ll post show notes to today’s conversation at mebfaber.com/podcast. Please check out the book, The Rule: How I Beat the Odds in the Markets and How You Can Too by our guest, Larry Hite. If you love the show, if you hate it, shoot us firstname.lastname@example.org, we love to read the reviews. Please review us on iTunes and subscribe to the show anywhere good podcasts are found. My current favourite is Breaker. Thanks for listening, friends, and good investing.