The Evolution of Short-Term Trading ft. Tony Kaiser

[00:00:07] Tony

It’s got to be a shock to the system. The reality is there’s always a shock at some point. And when that shock comes out, it doesn’t make any sense. If you look at the rally and you look at the data and you look at it all went down, that might make perfect sense. If you look at where we are today, it makes no sense other than, as you said, 10% of all these salaries go into pension funds, all this money’s going to whatever. Now, what’s going to happen to that flow when they’re down 50%?

[00:00:45] Intro

Imagine spending an hour with the world’s greatest traders. Imagine learning from their experiences, their successes and their failures. Imagine no more. Welcome to Top Traders Unplugged, the place where you can learn from the best hedge fund managers in the world so you can take your manager due diligence or investment career to the next level.

Before we begin today’s conversation, remember to keep two things in mind. All the discussion we will have about investment performance is about the past, and past performance does not guarantee or even infer anything about future performance. Also understand that there’s a significant risk of financial loss with all investment strategies, and you need to request and understand the specific risks from the investment manager about their products before you make investment decisions.

Here’s your host, veteran hedge fund manager, Niels Kaastrup-Larsen.

[00:01:41] Niels

Welcome to another episode in the Open Interest series on Top Traders Unplugged hosted by Moritz Seibert. In life, as well as in trading, maintaining a spirit of curiosity and open-mindedness is key, and this is precisely what the Open Interest series is all about. Join Moritz as he engages in candid conversations with seasoned professionals from around the globe to uncover their insights, successes, and failures, offering you a unique perspective on the investment landscape. So with no further ado, please enjoy the conversation.

[00:02:16] Moritz

Hello, listeners. It’s Moritz here, and thanks for tuning in to episode number seven of the Open Interest series on Top Traders Unplugged. Today on the Open Interest series I have a really interesting guest, a short-term systematic trader who’s been trading the markets for decades but who’s never appeared on a podcast before. His name is Tony Kaiser, the CEO and Founder of Kaiser Trading in Melbourne, Australia.

Tony began his career in 1988 at National Australia Bank where he started the FX options trading desk and used systems to trade their prop book. Ten years later in 1998, he left and launched his own company Kaiser Trading. Kaiser Trading has been in continuous operation since more than a quarter of a century and the firm had peak assets of about 2.2 billion in 2011.

They trade short-term systematic strategies, a niche in the CTA space given that most money is following longer-term trends. That’s also one of the many reasons I wanted to get Tony onto the podcast because there simply aren’t that many short-term systematic traders around anymore. You may know Crabel and Niederhoffer, and some of you may remember Amplitude and Boronia, both of which have closed down meanwhile.

So that’s an interesting space and I’m sure it’ll be fascinating to hear what Tony has to say about all the challenges, the opportunities, the ups and downs and everything else. So without any further delay, Tony, welcome to Open Interest. It’s great to have you here.

[00:03:46] Tony

Moritz, thanks very much. I probably left one thing out of the bio. I actually was at Jardine Fleming, which was an offshore investment management company in ’87. So I was a young guy back then and experienced the ’87 crash. So I’ve seen a few cycles over the years.

[00:04:07] Moritz

Great. That’ll make our discussion even more interesting, I’m sure.

So to kick it off, I was in your office a couple of months ago, I think in November, in Melbourne, and I was blown away by all the tech infrastructure that you had humming along there. I think it was essentially half of your real estate is serviced in your office. And I thought we should have a chat.

We’ve seen each other before but I’d like to get you on the podcast. But before we get into the specifics and all the details, given that you are essentially a veteran of the industry with a longer than 25-year track record, how do you look at the space today? Is there anything, to open it up, that you would say when you look at how it has developed, where we are today, anything that you’d like to get off your chest?

[00:04:51] Tony

Look, it’s been an interesting journey. From when I started back in ’98, I was probably one of the first short-term systematic guys. Crabel was around and is still around, and as you said, Boronia, which was the Grinham brothers. Look, markets, we can talk about markets. I’ve been in markets now, whatever, 36, 38 years. They’ve gone through various cycles.

It’d be fair to say I think CTAs have struggled probably post-GFC from 2009 onwards, having lived through 30-odd years of markets. If we look at probably when I started at ’98, if you look at where rates were, if you look at the movement of interest rates up and down, there were increases ’88, ’90, ’92, 2000, ’03, ’07, and it made for good two-way price action, and CTAs benefit, as in we’re agnostic whether we buy or sell.

So effectively, let’s summarize what a CTA is. We trade global currencies, global bond futures, global stock index futures, energies, metals, soft commodities. So effectively for us, the liquid markets. I think in the beginning, everyone or any investor is really just looking at what return do I get from that asset class and then what diversification do I get from that asset class?

It would be fair to say, the first decade, if you had invested in the S&P 500 or stocks in general from ’98 to ’08, you’d made no return. In fact, you had a negative return after the ’08 crash. And I think at that point, we were probably up about 300%. So it was an easy sell because if you looked at where you were going to get a return, it was an absolute return product that performed in 2000, 2008 and any time there was a crisis.

I think it would be fair to say post-2008, CTAs were flavor of the month. So I think ’08 obviously great for the industry. If we look at who our client base was, it was the large global fund of funds, sovereign wealth funds, the offshore pension funds, large investment banks, private wealth units.

Being a manager in Australia has always been difficult because it’s a long way to come and most investors don’t want to travel on a plane for 24 hours to see one or two managers when they can effectively go to New York or London and see the majority. And so the reason we probably got the assets that we did was obviously performance.

I always look at us, and any manager almost like an English Premier League manager. You’re good while you’re winning, and they don’t want to know if you’re not winning. But the big thing why they came was the effect that we added to portfolios when you considerably reduce the drawdown risk profile because we performed in those periods that they didn’t.

Come 2009, obviously, the world, we can talk about it having lived through it, almost went under. The banking system was in crisis, there was systemic risk everywhere, and the central banks around the world put rates down to zero or close to zero. If we think of the Fed rate, 0.25 I think from about February ’09. And they kept them there. This is the thing that probably got me. They kept them there probably up into January 2022.

There was a slight increase pre-pandemic. If you think of the length of time that they kept rates at nothing, it really meant that the carry trade… And when I talk about the carry trade, if you invest in equities, the earnings per share dividend, whichever way you want to look at it, that’s their earnings. And you’re comparing that return against zero rates. And so it’s a no-brainer, equities are going to go up.

If you look at the bond market, obviously the 10s, 30s, the longer bond market, its yields were say 6%, 7%. If you think about rates going back in history, ’82, rates were at 20%. And really, you saw a 40-year decline in interest rates. And then we saw a 14-year ‘82 rates at near zero. And so effectively, long-term bond yields kept going down as they approach cash.

And then if we think of property, again, same story. And then obviously, private equity, what are they doing? They’re buying up businesses, packaging them up, looking to offload. So whichever way you look at the investor universe, it’s long carry. What I mean by that is any investment is going to be compared to the risk-free rate of return.

Now, the thing why investors would put CTAs in a portfolio is the downside protection that it gave in 2000, 2008, and you can even say, in 2022. But if you are in a period of ’09 to ‘22 where that downside protection, it costs you, and what I mean by costs you, even though we’re short-term systematic, any models that sell in a market that’s really got a floor under it by the Fed or any central bank, it’s actually an unnatural market.

I would say the markets that we saw ’09 onwards was almost like a Ponzi scheme. From that, it made it very, I would almost go, detrimental to our space. It’s interesting here we are today, and we can talk about moving forward. I always say investors invest by looking at their rearview mirror, i.e., what has performed in recent years and where do I put my money, rather than looking out the windscreen of what are you likely to get in the next 10 years?

So it’s interesting if we sit here today and you go, well, you’ve been doing this for 26 years, tougher time, why do you still do it? I’d say, I still do it for the pursuit of excellence and the love of the game, even though, as you said (you talk about Amplitude and Boronia), a lot of these guys made their money and shut down. I’ve probably made my money, but I still enjoy, probably, the intellectual challenge of the game.

As usual, I’ve gone shorter and shorter so more into that minute space interesting research. But if we look today, you’ve got US cash rates at 5.5%. And so effectively, if you’re an investor, and you’re going to invest in anything, you need to beat 5.5% against risk-free rate of return. The beauty about CTAs is that if you invest in a fund as compared to a managed count, okay, you put the money up, but effectively 90% or 85% of that is sitting in cash. So that in itself gives CTAs a tailwind of say 4.5%, 5% which gets added to their return.

Now, if you were to look at the returns of CTAs from ’09 to ‘22 and add 5% per year if there was cash, the returns would be quite considerable. I did listen to podcasts during the week where they said what are CTAs for? Is it a bond-style investment plus? There is an argument for it because a reasonable component, if there are interest rates, can come from cash as well as the return.

I think in that podcast, they talked about bonds not offering protection to a portfolio as in 60/40 in ’22 because obviously if you’ve got interest rates going up, bond prices are going to get hammered. Again, I listened to another podcast, they talked about ’23 being disappointing for the industry, and it was. I think particularly that third quarter last year took everybody by surprise given the setup of the market.

But if we think about it logically, even though we’re Australian, I tend to be probably quite US-centric. If we looked at the S&P 500 and said its PE ratio is around 30, that means the earnings yield per share is around 3% on those companies versus cash at 5.5%. And then in the NASDAQ, I think earnings per share is about 2%. Again, if you’re in markets, there’s nothing wrong with taking risk, but are you being paid for that risk?

It’s interesting now if you look at where the market is priced, you’re paying to be in the market, and that makes no sense to me at all. You only have to look at 2000 and ’06, ’07, when there was negative carry in the equity markets, to realize that either earnings are going to go up dramatically or there needs to be a repricing.

Now, okay, I think third quarter or fourth quarter last year they were saying interest rates are going to come down. But it does appear as though inflation is being quite sticky and there’s obviously some confusion of whether interest rates will come down or not. And then I think we only have to look at the geopolitical risks around the world at the moment.

I think it’d be fair to say globalization is deflationary and deglobalization is inflationary. So the space is, I think, prime time just given the factors that exist. And if I was to look at alternatives, they don’t look encouraging. I think the other reason why it’s probably good is because this space has become unloved, so probably the amount of money in it isn’t that great. Anyway, long answer. Have you got a question on that?

[00:16:46] Moritz

Yeah, absolutely. Quite a few. Thanks for that. A couple of things. You’ve mentioned, you’ve been given money obviously because of performance but then also because your returns are uncorrelated to other things that investors could invest in. You’ve also mentioned, I’d like to get to that, that some of your peers have closed down. You’ve mentioned Amplitude, Boronia. Whether they’ve made their money, returns have decayed, I don’t really recall that.

But when we look at your sector, the short-term systematic space, there really aren’t that many managers in it relative to say the longer-term trend following space. Let’s just say it’s half a dozen. You maybe mention Altiq or QIM, and you’ve mentioned Crabel, but going down the list, it’s a relatively short list. Why do you think that is? What is the main reason that space, your sector is so under-popularized relative to everything else?

[00:17:43] Tony

Look, you have a lot of smart guys around the world that come out of some great universities or colleges, and they think they understand markets. But when you get into the nitty gritty of short-term trading, your impact, as in your market impact; where you think you’re going to buy and what you actually achieve, really, it doesn’t matter what the strategy is, whether it’s momentum, breakout, mean reversion, vol, whatever.

Effectively, if you have a good model, it’s going to have about an 8% edge. When I say 8% edge, if you think of if I tossed a coin, it’s 50/50. If you’re tossing a coin where if I win, I get $2, and if I lose, I pay $1, I can be right 40% of the time to get an edge of 10%. So it’s almost like a gaming theory formula. Effectively, you can play around with risk-reward ratios of what the model is trying to achieve. Effectively, 8% is around the number.

When I say it’s around the number, we have the same models, same parameter set, regardless of the asset class. And so when I hear guys saying I’ve got models for bonds and I’ve got models for stocks and I’ve got a model for this and I’ve got a model for that, my question is, why doesn’t your model work on anything? And they will go, because it’s a different time series. And I go, well, every time series will go through different regimes.

So our criteria to get models in is quite, I think, stricter. But then the implementation shortfall that can take place when you do that is quite significant. I think unless you understand all the little nitty grittys, I think it’s a very difficult space to get alpha. Whereas if you’re just say trend, effectively, the market has some characteristics which we know trend is a factor, it’s not consistent.

But if the market is trending, it can do quite well. And it’s a lot easier to create trend models than it is to do short-term models. And then the capacity limitations of short-term make it a lot more work.

You were in my office. You see there’s still a team of 25 people. It’s more proprietary money now. But it’s still a big team for the assets we run, given the amount of work that’s involved. So I just think the complexities are high.

[00:20:54] Moritz

Is it your love for difficult things, you like to take the hard routes to the finish line? Maybe go down the memory lane, like when you started this 25, 26 years ago and you compare it to today. So today, you’re co-located in London, Chicago, Hong Kong. I presume 26 years ago, that wasn’t the case. Maybe frame this.

When you left the bank as a prop trader, why did you immediately move into the short-term space? I presume other options were available, but you specifically focused on that, the harder thing to do.

[00:21:33] Tony

I think it all comes from where you come from. When I started, I ran the option desk. Running an option desk, as a trader, I think is a very good learning ground. Why I say it’s a good learning ground, you need to be quite strategic in thinking. Okay, where do you think vol is going? Is it going up or down? You need to be quite strategic of do you think the market is going up or down and where do I want the gamma to be in my book?

And then on the flip side, you’re almost a spot trader trading the gamma of the book. So you’re combining… The way I look at it is a spot trader is like playing checkers and an option trader was like playing chess. And then from there, I went on the pursuit of the holy grail to try and become a better trader. So anything, any book, any psychology markets, you name it, I read it to just upskill myself.

So I was a discretionary trader, as in running an option book. So I wasn’t a systematic trader. And then you’re a discretionary trader on multiple levels, from what’s happening sub-daily, intraday, to where do you think things are going strategically. I was probably always drawn to the prop side rather than just running say the franchise of a book runner.

I remember this is barely 90 Market Wizards, Jack Swagger. I don’t know if you’ve read the books at all, interviews of top traders. If you can imagine, in Melbourne, Australia, nobody heard of the term hedge fund. And here was the legendary traders and I thought- I sort of had that idea in the early ’90s that’s what I’d like to do.

Because what happens in a big bank, you do well trading, you run a desk, you then run the FX, you run Treasury, and all you become is I’d say HR manager, as in running personnel. Whereas for me, the love was always of the markets. And so, I thought, well, at that stage, they were the biggest Australian retail bank but they weren’t an investment bank.

So their risk appetite wasn’t significant. Not bad, but not… I thought I’ll never get paid the money that I think I deserve. Maybe I had a delusion, but there was, in one of the books that, I think, his name was Van Tharp. He was a trading psychologist and one of the…

[00:24:27] Moritz

Unfortunately, he passed away two or three years ago.

[00:24:29] Tony

Yeah, but he made the comment, and you’ve got to remember I read this whatever 30-odd years ago, that most traders are delusional, most traders don’t understand their edge, and the only way you can prove that is to systemize the process. I was reading that, and I go, yeah, I think that’s accurate, that’s accurate, that’s accurate. So 30 years ago, I’d say I was pretty good on computers given the era. But I’d say 30 years later, I’m no good, and that’s probably because I’ve got a team of programmers and quants that give me the tools that I work with.

But anyway, I thought, okay, let me see if I can systemize the way I trade to improve my edge. Because you’re at a bank that wants daily profit, not a fund that’s going to experience large drawdowns, it’s got to be pretty consistent, the only way you could really achieve that was to be relatively short-term in focus, or make enough short term to cover your more strategic bets.

Anyway, it was a dilemma. So if you could think of in the early ’90s, to get the data on markets for time and everything else was a problem. Anyway, I’ve got this machine, it probably doesn’t exist anymore. I think it was the logical information machine. Effectively, you had a massive database, and you could sort of program it a bit and you could start to improve your edge.

Even though I was a currency trader for the bank, my theory was that if you could trade currencies, you could trade bonds, you could trade stock indexes, you could trade anything. I don’t think it was surprising that proved to be the case. And so I thought, okay, I could see that I had an edge in my trading style 30 years ago. My head quant has still been with me all that time. I hired her from Melbourne Uni, PhD mathematician. I would say it’s the longest relationship I’ve had. It’s coming up 28 years.

I then used this to prove that my ideas work. But see, the next problem was I was leaving a big institution that had to pay for everything and going to go on my own. And I was like, okay, how do I do this in a more low-scale budget framework? I thought, can I take daily data and trade that short term? Because again, minute bar, tick data, hours, there wasn’t the computing capacity back in that day. So I really adapted to using daily data to create the signals. And those models have held pretty true over that journey, which is a long time.

Now, that’s not to say that if we didn’t evolve and didn’t learn, we would have died. But it is interesting that here we are, 26 years later, and now we’re far more focused on minutes and combining that data in with what we do. So I think it’s just I’m more of your trader’s trader that’s quant systematic.

[00:28:16] Moritz

Let’s speak about that a little more because that’s an interesting piece you’ve just mentioned. I guess 26 years ago, you had daily bars. You were trading short-term systems of these daily bars, whatever, or range breakouts. Maybe you had some intraday stuff, I don’t know. But I presume shorter-term trading back then, was kind of slower than shorter-term trading today. Maybe speak about that.

How has trading frequency evolved? How in general do you need to evolve your trading systems I presume also quicker than maybe some of the long-term trend following in order to stay on top of your game?

[00:28:54] Tony

I guess the time horizon back then was one to four days, if I had to say what it roughly was. It probably came in at an average of two or three, which you think is quite short-term, but given where I’d come from, that was actually quite long-term. And then, obviously, assets grew over that journey quite considerably. You probably tend to try and stretch it a bit because it’s a function of where you enter your stop. You can’t be this elephant in the room to be able to execute and maneuver.

So that in itself had its challenges. In the early years, you can look at any style of model and we would know the periods where it’s going to work and the periods where it’s not going to work and how can you fix the periods where it’s not going to work. Like if we talk vol breakout, vol breakout essentially works is there’s a compression of volatility and the market is going to break out. However, it only works if you’re in a moving state environment.

Some of the markets, if we talk about JGBs, became untradable, rates went to zero, nothing happened. You could say the criteria of that trade is present, but it’s not going to work because the underlying dynamic of the market is not there. Even if you’re quite short-term, the reality is that if we’ve got the markets going up for 12 years, it doesn’t matter how much you want to be a short seller, it’s not going to work. It doesn’t matter what your timeframe is because of the bias of the data.

I would think today that there’s probably a lot of hedge funds out there that have used the data for the last 12, 14 years and they have got to be making all their assumptions on what happens in the market dynamics. And I’m going to go that all those market dynamics won’t hold true for the next 10 years because if you look at the really right environment and its impact on markets, the effect of carry in any asset class is huge.

So if you’ve got 7%, 8% on a model and you’ve got negative carry of 3% or 4%, there’s not much edge on that model left. What I’m saying is you’ve got to evolve. If we look at where we are now, ongoing, there’s so much information in the minutes to ticks to sub-daily that we are now very invested in harvesting that noise in our models. Why do we do that? I think the other answer is I like it.

[00:32:15] Moritz

So it’s probably more of a mean reversion style of trading than the majority of the risk that you’re taking if you’re harvesting that noise?

[00:32:23] Tony

Yes and no. I always say to the guys, if you stand in front of a train, you’re going to get run over. So the reality is, yeah, if you’re going to trade the noise, you’re going to be more mean reversion. However, if you’re trading mean reversion into even short-term momentum or strong momentum, you’re going to get slaughtered. So it’s really a case of putting all those pieces together.

One of the benefits of being in markets for so long, whether you say it’s the intuitive feel or the knowledge of looking at the shortcomings in whatever you do, if that makes sense.

[00:33:14] Moritz

Got it. If you look back at the models that you were running 26 years ago, we don’t have to speak about the specifics, but in general, I’d be very interested in that. You had your model breakouts, open range breakouts, vol breakouts, all that, running daily bars. Are there any of these still running today? Because the reason I’m asking, you could arguably say that you have a long-term systematic trend following model like a classic model that you ran say in the mid ‘80s and you could still run that model today unchanged, and it would make money because it’s so long term it still works.

Is there something like that also in your space where you’d say, oh, yeah, the open range breakout, expected hold period of three days, the way I traded it in 1998, we’re essentially doing the same thing today and it works, or is your space much more, no, we have to take things upside down, throw it out the window, it doesn’t work anymore, reinvent the wheel, do something new?

[00:34:15] Tony

I think the answer is the characteristics of what works still works provided the environment suits that. I would say even for long-term trend following, the return profile in recent years has probably deteriorated from earlier when the markets were far more trendy in nature. I think the level of noise or what we call V-shape or W-shape price action has become more pronounced and I wonder if that’s because there’s more players in the system that are trying to do the same thing.

But dollar-yen, when it took off a couple of years ago on the fact that US rates are 5% and yen rates are at nothing, essentially, any model of vol will perform well because it’s in a highly moving state. If you looked at dollar-yen for the preceding years, you would have had a pretty tough time making money out of that market. Now, for us, it’s probably in the modeling which we then embed in the concert.

Understanding the regime and the phase is far more important than any model. But if you can understand the regime or phase, you know what model is going to work in that environment. Rather than go, I’ve got a model and I’m going to run this on 50-odd markets and it’s going to work all the time. I’m going, that’s not true. That model will work when the market dynamics suit it.

Therefore, the smarter thing is, can you understand what the market regime or dynamics suit the characteristic of that model? That’s the million-dollar question, not the model. I think the models by themselves, people can come and see me and go, I’ve got a model that works even external. And I go, you don’t have to tell me the model. I know given the characteristics of this is the edge, this is blah, blah, blah. And they go, how do you know? And you go, well, that’s what that model is going to give you.

But the smart thing is, can you categorize the market regime to when to apply the model? I think to be honest, that would be true for trend following, that’s true for short term, that’s true for…

[00:37:20] Moritz

Pretty much anything if you can. It is the million-dollar question. But how do you do this? Is this discretionary?

[00:37:27] Tony

No. The concept I think comes from having the ability to look at the market and understand it. I would say a lot of the ideas may come from a discretionary thought process that we code up and then try and prove the dynamic. Look, hindsight is a wonderful tool. I probably had some personal issues from ’09 that maybe took me off the ball a little bit when the market dynamics really changed.

The fundamental dynamic, the change, was rates went to zero. And so their impact on that market for that extended period, we still made money, but not as much, was huge. Now, the fundamental dynamics since ’22 have changed. And so I think you would expect to see market behavior more similar to the 1990s, early 2000s than what we’ve experienced in the past 12, 14 years.

[00:38:47] Moritz

So would you say that’s a good environment for the say longer-term trend following traders? Because recently they’ve hit it out of the park, so it seems to be a good environment for them.

[00:38:58] Tony

No doubt. I think the move last year and the first quarter of this year has been really good for the long-term trend followers. The question I would ask is, how much are they going to give back on the reversal of trend in equities potentially starting from now? But the good thing for them is they will readjust. The way my description is, they’re a cruise liner. So they will change course. If the trend persists on the downside, they’ll do well.

I would say a sudden change in trend right now is going to hurt just given the way they’re positioned. So the fact is, if you were to look at… We can talk about what’s fair value of markets? If the equity markets halved, they wouldn’t be cheap. Even if you look at obviously a good year for equities ’23, a good start to ’24. I personally don’t think it’s going to persist in ’24.

If you invested in markets from the beginning of ’22, you haven’t made much money. So, I would think, if there’s a reasonable downturn this year, then all of a sudden, you’re starting to look at two, three years of making no money. That was, as I said, very reminiscent if you go from ’98 to ’08 where they made no money. Now, all the index funds and low-cost index replication, I think they’re going to falter because the factor that drove those markets is not there.

I’ll give you some examples. If you think about it and you go, well, how’s this related to short term? It’s not, but I’m a markets guy. But you sort of want to know what’s going to drive the markets. Obviously, Apple, Meta, Alphabet, Amazon, I’ll write down a few others, Nvidia, Tesla, and then I’ll put in some old-school like Coke, Boeing, Walmart. So I don’t think I’ve cherry-picked the names. The biggest phenomena, I don’t know if people talk about it much,- and again, you talk about what drove equity markets in this whole index replication.

If I can borrow money at 2% because I’m Apple, Alphabet, Amazon, Meta, whoever, Coca Cola, and my stocks are yielding 6% or 7%, and I just borrow and buy back my stock, I’m improving my earnings per share and I’ve done nothing to improve my business. So if you look at Coke, its sales in 2013 were 47 billion. Its sales in 2024 is 45 billion.

So in over a decade or just over a decade, my sales have gone down by 2 billion. So sales are not up. My earnings per share is pretty flat. I’m trading on a PE of 24 and I’ve now got 40 billion of debt on my balance sheet, I probably had 8 back then, and I’ve used that to buy my stock. Now, even if you look at a juggernaut like Apple, it had zero debt in 2013. Again, it prints money, but it’s got 108 billion of debt today.

You saw our graphics on our tech, it’s pretty good. If you look at a graph of these company’s debt going up and their number of shares outstanding going down, the correlation is beyond 100%. You know what I’m saying? And so every one of these companies has borrowed to buy stock. Because if I’m the CEO and I’m getting my share options, I need them to vest so I’ve got to get the share price up. It’s a good way to boost my earnings per share without improving the company at all.

Now, the problem you’ve got is Apple, if you look at its sales in the last two years or even CPS, it’s gone nowhere. It’s trading at 26. Meta is trading at 43. Alphabet is trading at 24. Amazon is trading at 60. Tesla’s 37, it’s been a juggernaut. The big ones, Coca-Cola, we’ve got a company that’s got no sales increase in over a decade, earnings per share pretty flat. We’re not talking about a growth company and we’re getting yet less than cash.

So I understand companies trading at a premium because they think of the growth. The big question is, are valuations so sky-high now? You’ve got to look at, there’s been a big change in dynamic. You’ve got rates going from 0.25% to 5.5% over a two-year period. Are they going to come back or not or where are they going to come back to? But if I’m Walmart, we’re not talking new age stock, and I’ve got a PE of 30, I’m earning 3%.

If I look at in 2014, my earnings per share was $1.74, and today, it’s $1.94. It’s up 11% but my share price is up 200%. It’s gone from $22 to $62. And so I’m sitting here going, I think the world’s gone mad. And if the world has gone mad, that will be good for CTAs.

[00:45:29] Moritz

Maybe this is also a new regime in the sense that you have these passive flows and price insensitive buying, corporate pension plans. Like they come in, you get your monthly paycheck, part of that by definition very automatically goes into an equity index ETF very irrespective of price. So boom, they just go. Price goes higher, number goes up. EPS doesn’t matter, you just buy.

[00:45:54] Tony

I’ve given this a fair bit of thought, as probably you have, but I think that’s exactly what’s happened. It’s going to be a shock to the system. The reality is there’s always a shock at some point. And when that shock comes out, it doesn’t make any sense. If you look at the rally and you look at the data and you look at how it all, you go, that makes perfect sense.

If you look at where we are today, it makes no sense other than, as you said, 10% of all these salaries go into pension funds, all these monies go to whatever. Now, what’s going to happen to that flow when they’re down 50%?

[00:46:42] Moritz

Well, I don’t know. That is the interesting question. Ten percent of the salary still goes into the equity index fund probably regardless of whether it goes up or down. The question is what happens with the money that has already been invested in it?

[00:46:57] Tony

Look, I think the world… Don’t get me wrong. I thought the pandemic… So, essentially, we looked at factors that drive markets. Obviously, GDP would be one. Unemployment, you go is it a leading or lagging indicator? Generally, if the market is up, as in the market is at high levels and unemployment is increasing, that’s a good indicator that things are going to potentially turn down.

What I thought was going to get most of the people was the corporate debt, because the corporate debt, if you’re borrowing to buy back your stock, let’s look at Boeing as an example. They’ve got 54 billion. Now, if you look back in time, they’re borrowing to buy stock as a good company did well. Obviously, pandemic hit, pandemic has been gone, that can’t be still not making money.

Now, what you do know is, okay, it’s a big company, it’s probably too big to fail, but it’s now got 54 billion a debt and it hasn’t made money in four years or five years. The other thing is when I need to refinance that debt as that falls due, there’s a lot of free cash flow that’s going to be taken up. Because if I’m going to fund corporate debt now, what am I paying, 7%, 6%, 8%? I think, just as they borrowed to buy, which gave this massive tailwind, you now have a massive headwind because given the valuations, I can’t see a corporate treasurer borrowing to buy.

[00:48:56] Moritz

It’s too expensive.

[00:48:57] Tony

Too expensive. Again, if you start to look at markets and you go, okay, if the tailwinds go out because it’s not there, what are the shocks? Who knows? What are the shocks that are going to tip the system? Obviously, Ukraine, Russia, it’s been going on for two years.

[00:49:22] Moritz

It could be anything. This is the thing we don’t predict. We can’t predict forecasting these things. It’s an impossibility. It could be a thing that we don’t think about today.

[00:49:32] Tony

The only thing I can say though is if I’m in the markets and I’m paying to take risk, that makes no sense.

[00:49:43] Moritz

Two more things. I think when we look at the longer-term CTA space where most of the money is, I’d say that, on average, the correlation between peers is somewhere in the realm of 0.6, 0.8. It’s kind of like if you’re following longer-term trends, one way or the other, you’re going to be capturing that trend which leads to relatively high and persistent correlation between managers.

In your sector, the short-term traders, I haven’t run the numbers but maybe you know that number, I would assume that the correlation between you and other managers in that space is probably around zero. Is that fair to say?

[00:50:27] Tony

Yeah, it has a low correlation.

[00:50:33] Moritz

So you guys are doing different things essentially, be that trading. I would say it’s probably not wagering, I guess, that you are trading different markets because you don’t really go into palm oil and sunflower seeds and milling wheat because that would be too illiquid and probably too expensive for you to trade. The stuff that you trade needs to be super deep and liquid.

So we’re talking whatever, the Hang Seng, the S&P 500, even the 10-year treasury, all of these markets, but then every other short-term trader also trades. So the decorrelation comes from you guys running different models, doing different things at different times.

[00:51:13] Tony

Yeah, correct. We’ve got about just over 30 models trading all those asset classes, and now starting to go very short term into that. So, yeah, there’s a lot of different things you can do.

[00:51:33] Moritz

When you then have that low correlation between, so your return stream and the traditional asset classes or correlation to the S&P 500 is nothing, your correlation to gold is nothing, your correlation to oil is nothing, your correlation to the longer-term CTAs and even your own peers is close to zero. That would make or that does make your return stream a very effective addition to really any portfolio regardless of what that portfolio is.

So you would assume that just by investors looking at that return stream, because you have it in the database, they don’t necessarily have to fly to Melbourne, it doesn’t take much to figure it out to say I should be giving some of my money to Tony Kaiser because it will just improve the risk-adjusted return of the portfolio. So you guys should be running at max capacity I would say all the time.

[00:52:30] Tony

Look, I think we made some business errors. We got to 2.2 billion and closed. What was funny, all the institutions are scared about a manager getting too big and taking on too much money. And at that time, they’re going, you’re arrogant because you’re not taking our money now. I said to them, hang on, you are the same guys that don’t want the manager to get too big. And so it was a pretty good business.

If you’re not marketing, and you don’t have a pipeline because you think, okay, the money is sticky, that was the first mistake. Then post ’08, ’09, the markets went into a bit of a wash, which made it difficult to make money. A lot of the large fund of funds lost their assets because of their performance, not the CTA performance in their fund, but their performance in 2008.

We had a number of what I call managed accounts where they run leverage on us. And so if you’re in a 5% drawdown, which is quite reasonable, but they’ve leveraged it four times, they’re in 20%. And if they’re paying back their management fees four times, all of a sudden, they’re 28% drawdown, and then all of a sudden, they’re under pressure.

Look, I think the reality was we were expensive for the reasons that we were uncorrelated. We did a lot to portfolios, performance was high. I wouldn’t say it walked out the door, but that’s what it felt like at that time. And then all of a sudden, you’ve got significant investors with $300 or $400 million shutting up shop that might have had investment with Niederhoffer or whoever.

And then all of a sudden, your asset price drops by a billion and then the universe has gone oh, what’s gone wrong at Kaiser, his assets are going down. You know what I mean? And then I think it’d be fair to say that when I say the dumb money, just the index fund replication, you had all the factors driving that and people are going we don’t need to pay for alternate alpha.

I think that became the vogue. What was interesting, as an Australian manager, we never had any Australian pension funds.

[00:55:28] Moritz

Amazing. That’s weird. Almost.

[00:55:32] Tony

At that point, I think ’07, ’08, we were considered I’d say number one, number two of the short-term managers globally. And we’ve got Canadian pension, we’ve got a lot of assets from all over the world. Part of the problem was, I think from Australia, they wanted to travel to London and New York in their annual trip, what do we want to manager for in Australia, which was ironic.

But the world became fickle. And then now I think all the money is really controlled by the pension funds, and then the pension funds are trying to bring it internally and they don’t want to pay for anything. And then you’re like, well, we can’t run that much money. It’s expensive to run. Nobody wants to pay anything now because there’s cheap beta out there. And so we haven’t marketed for six or seven years.

I’m just like, I’ll just do this, stay in my corner, you know what I mean. You came in, everything’s pretty relaxed. I do what I do because I like doing it and we’ve got enough internal money to run. I’m almost waiting for the world to turn and then maybe people will knock on my door, maybe they won’t. I don’t really care.

[00:57:00] Moritz

You’re enjoying the game.

[00:57:02] Tony

Yeah.

[00:57:03] Moritz

No, right. I think this a perfect end to the conversation.

Tony, thank you so much for doing this and joining me on the podcast today. I really liked it. I thought it was really interesting. I hope that our listeners will find it also. Tony, I’ll put your contact info into the show notes. People can find you through your company websites. I think you have a LinkedIn page.

If they have any questions, I hope you wouldn’t mind if maybe an email comes in and we get a question to answer. We’d always be very happy to do that. Listeners, if you like, you can also email us at info@toptradersunplugged.com where we’ll pick it up and respond. So thanks everybody for listening. Until next time on Open Interest.

[00:57:50] Ending

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