Dear Hedgeye Nation,
If you’re looking for an investing master class on Macro from a true market professional, your search is over.
During this remarkable discussion with Hedgeye CEO Keith McCullough, Diego Parrilla (portfolio manager at Quadriga Asset Managers) explains the core tenets successful investors need to understand, embrace and implement to be successful.
Here’s a quote from Diego:
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“I think a lot of investors think investing is about making money. I would argue that this is a game that where if you want to win you must first not lose. It’s a game of capital preservation and then it’s about compounding on that capital preservation. |
This conversation is not to be missed. Below we’ve transcribed key excerpts from this discussion.
CLICK HERE to watch the entire 47-minute interview between Diego and Keith.
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Keith McCullough: I’m excited to kick off the Hedgeye Investing Summit. This is one of my favorite times of the year, because I get to spend a lot of time learning from accomplished and competent people. We like to think that the people we invite are not only people you’re going to learn from, but people who are actually doing things in the marketplace that are actually producing results. There’s no better example of that than Diego Parrilla, portfolio manager at Quadriga Asset Managers.
Diego, you get to go first because your performance is probably better than anyone else that’s going to speak at the summit. I challenge anyone to come up with a number that’s better than +35% for 2020. 2020 has not been an easy one to navigate.
Diego Parrilla: It’s an honor. Thank you for having me. I think one of the most important concepts is to understand the rules of the game. I think a lot of investors think investing is about making money. I would argue that this is a game that where if you want to win you must first not lose. It’s a game of capital preservation and then it’s about compounding on that capital preservation.
If you cannot preserve your capital, then compounding doesn’t matter.
Based on this, I think there are three pieces that I would use if I’m using a soccer analogy. A portfolio is a team. It’s not about stars doing well. Messi is the best soccer player in the world, but a lot of people think, ‘If I could only have a team with eleven Lionel Messi’s, it would be great.’ It doesn’t quite work like that.
You need a team with offense, defense and midfielders. This idea of team is critical.
The second point I would make is that precisely on the point of team, you need your individual players, people like me that are managers or strategies that do what they are meant to do.
You want your strikers to score goals. You want your goalkeepers to make saves. You want your midfielders to keep the ball and pass it around.
In that sense, when you fail to do that, you end up with a very dangerous thing called false diversification. You end up with a team of 11 strikers or 11 goalkeepers and that doesn’t really work.
The third thing is this is not about having a crystal ball. It’s not about being smarter. This is about having a team that is balanced and understanding that these cycles are moving.
Rebalancing is also a key I would give. The market will go crazy sometimes, for whatever reason. This might be a time to rebalance your team and take off some of those strikers and add goalkeepers. The opposite can happen too. The strikers can be on sale, and the S&P is at 2,200 and you want to rebalance.
You want to embrace the volatility of the market. Don’t fight it. Embrace the volatility and embrace the irrationality. You want to make money while you sleep. There’s no better way of doing that than by picking your team, picking your players and rebalancing them on a systematic basis.
That’s the key, rather than pretending you have a crystal ball and doubling and tripling up on positions.
McCullough: For a long time, Wall Street painted hedge fund managers as people who could see the future with divine intervention and make people a lot of money in a very concentrated portfolio. You sound like an American football coach by the name of Bill Belichick. Do your job. The players on the field need to do their job.
Hedge fund PMs really struggle with that because they don’t have asymmetry in their portfolio. On that last point, which is I think Bill Belichick prefers a game that’s laden with uncertainty, because that’s where he can manipulate and evolve. Is that why you do better with volatility?
Parrilla: I’m a goalkeeper. As a goalkeeper you’re only as good as your last crisis. Wall Street tends to be short-term. It thinks you’re only as good as your last trade. I don’t agree with that. As a goalkeeper you have to be ready like a fireman. Being a contrarian is pretty core. You deal with dynamics that are often against you. You deal with artificial markets.
This is the framework of where antibubbles comes in. It’s quite powerful I think. Here the idea is let’s think about what a bubble is. I borrow George Soros’ definition. He defines it as assets that are artificially expensive based on a belief that happens to be false. Basically the emperor has no clothes.
What I did in my second book is generalize the framework and say, ‘Fair enough. Misconceptions can distort reality but not only through artificially high valuations. You can also have things that are artificially cheap.’ I call those antibubbles.
This is powerful because it acknowledges that bubbles and anti-bubbles come from beliefs. You’re looking at assets that are grossly artificially cheap and it’s a matter of when they revalue, not if. The second dynamic is that by identifying those misconceptions you have assets that will implode and reflate at exactly the same time and catalyst by design because they’re mirror images of the same misconception.
And going back to another point about being a contrarian. There’s an element of risk premia in ideally you’re getting paid to take the other side of the market. The last two big market moves of 2018 and 2020 came from the VIX around Tech. Volatility was artificially low based on qualitative and quantitative drivers.
Qualitatively, there was extreme complacency. Mommy and daddy – the central banks – were going to come and rescue us. Quantitatively, trend followers who are max long at the top on artificially low vol.
What this creates is a lot of hidden leverage. Value at risk is artificially low. It’s like if you’re doing 200 mph on the highway and the speedometer reads 80 mph. If you crash, what do you feel? You feel the impact at 200 mph or whatever risk you are running regardless of what the speedometer says.
You need to understand these processes and try to build your portfolio of assets that are artificially cheap so you can perform that asymmetric role in performance when you need it most. And that’s when the bubble collapses.
As a goalkeeper that’s what we humbly try to do in these violent markets.
CLICK HERE to watch the entire 47-minute interview between Diego and Keith.
