Don't Miss
Home » Articles » Why managing your own money is a bad trade

Why managing your own money is a bad trade

A great trader who decides to manage just his own money made a poor trading decision. If you trade anyhow it’s irrational not to manage other people’s money.

Living the dream

living-the-dream-iconOk, let’s back up a few steps. Let’s assume that you’ve been trading for a while and you’re getting comfortable doing it. Perhaps you’re becoming pretty good or even very good. You’ve even reached a point where you’re spending full time trading and being comfortable on the results. Now what’s your next step?

If your saying that you already reached your dream and that you intend to continue trading for your own account, I’d say you just made a poor trading decision.

I know many people dream of spending full time trading their own account. Perhaps even make enough money to hire a trading assistant. A shiny office with nice equipment. A real, full time, professional trader.

That’s an admirable goal for sure. I have friends who took that route and I have the highest respect for them. But I still tell them that they made a bad trade.

Think about what we do in this business. It’s not about the love of playing the game. It’s not about how being passionate about chart patterns. Obsessions about solving the mystery of the markets. All of these things are peripheral at best.

We’re here to achieve high return per unit of risk. It’s not about going for the highest possible return. It’s about going for the highest possible return per unit of risk. Good traders are not gamblers. We take calculated bets based on risk, reward and probabilities. That’s what a good trader does for a living.

When you decide to manage just your own money, you’re accepting less reward for higher risk. That, is a poor trade.

The bad trade

LeesonSo, back to the fantasy world. You’ve quit your day job and you’ve started trading your own money full time. You’ve got an account of $500,000 to trade and you have no intentions of trading for anyone else.

If you’re a conservative trader, you probably compound at 15% or so. That’s a respectable number that few manage to average at. In that case, your return in an average year is $75k. Hm.. that’s not a great salary. Where I live you get that much working in the grocery store. So we need to aim higher. A bit more risk in there, and we aim for 30% return. Now we can get $150k a year. Not great, but you can live on it. Only problem, the 30% may be average, if you’re really, really good. But consistent returns of 30% every single year? Not likely. Sometimes you’ll take a hit. Perhaps lose half your capital. Sometimes you might reach near double.

It’s going to be a very unpredictable life for you. After you had a poor year, you’ll feel like the end of the world. Let’s face it, you will have poor years. We all do.

You’re thinking of cranking the risk even higher? That’s a good way to blow up your account. You’ll soon be forced to go beg for your old job back.

ClenowFuturesIntelligence

The good trade

Start over. You’ve got your half a mil. You’ve gone full time. Now let’s find some investors.

You make an effort and manage to round up another million. People have seen what you’ve done for yourself and they want in. So now you’ve got $1M of OPM, other people’s money, and $0.5M of your own. Pool it, trade it the same way. Practically no extra work.

Aim for a conservative 15%. Charge 2%+20%.

What happened to your risk? What happened to your returns?

Now you’ve got a base revenue of $20k. You get paid that for just doing what you would have done anyhow. With zero additional risk. If you hit your 15%, you get another $30k performance fee. So in addition to the $75k you made for yourself, you now got another $45k. A total of $120k, at low risk.

Oh, and perhaps you’ll raise another million. Or two. Or five. With $5M, you’ve now got a base revenue of $100,000. For a 15% return on that, you’d get performance fees of $150,000. Revenues of $250,000, plus your own gain.

Getting a base fee gives you security and stability. It allows you to focus properly on doing the best possible job, and not on maximizing risks to pay your bills.

You got this gain by doing what you would have done anyhow. With the addition of getting a few external investors in on the ride. If you’re good, everybody wins.

Higher returns. Lower risks. Same trading.

Why would you not trade OPM?

trading-placesThere are a number reasons. Some are valid, some are excuses.

  • I just want to trade, I don’t want to run a business. Fine. It’s an explanation as to why you made a poor trade. It doesn’t make the decision any less irrational, but it’s good that you know why you took the wrong trade.
  • I don’t want to risk other people’s money. Well, either you believe in your skills or your don’t. Why would you risk your own money if you’re not confident in your abilities?
  • I don’t know how to find investors. When you started out, did you know how to trade? If a skill is lacking, that’s ok. Either make an effort to learn it, hire someone to do it for you, or accept a poor trade.
  • I just want to trade, not deal with clients, book keeping and boring things. Be a good sport and contribute to the economy by hiring someone. For higher returns at lower risks, you can afford it.
  • Regulations and compliance is too expensive. Yes, this is a pretty valid one. It is much more difficult these days, especially in Europe. Well, it just means that you need a larger critical mass. You can still do it, the bar just moved up a little bit.
  • My strategy can only be traded with small amounts. Sure, this could be a concern for some strategies. Those strategies are fine for as long as they lasts, but they are more vulnerable and could suddenly stop working. You should probably keep looking for more strategies with higher capacity.

 

Yes, of course I’m deliberately provoking you with this article. It’s often a good way to get people to think in a different direction. If you’ve been dreaming of trading full time for yourself, give this article some thought.

Managing money for others, along with your own, means higher returns at lower risk.

 

Does it really make sense to trade just your own money?

 

60 comments

  1. main issue is always regulation and compliance in europe. Great article Andreas!

    • Yes, it’s not like the old days where you just start trading away. Still, it’s possible to overcome these problems. You just need a little larger scale than before. It’s difficult, but so most things worth doing are.

      Here in Switzerland it’s still quite cheap and easy, as long as you’re managing individual accounts. Once you step into collective investment schemes, funds for instance, your cost of compliance goes up dramatically.

      My understanding is that it’s still very cheap and easy in the US though. I lack first hand experience with American regulations.

    • US vs. Europe

      That is 4 things, actually:

      1. You are based in Europe and manage European money
      2. You are based in Europe and manage US money
      3. You are based in the US and manage European money
      4. You are based in the US and manage US money

      Your statement ‘in the US it is probably easier’ needs some further details, according to the above. All I know about the US is, that you have to be an ‘ accredited investor’ (means: have money in the millions) to be legally allowed to hold certain asset classes which you are free to hold in Europe (maybe you have to fill out a MIFID test).

      You can’t advertise it, Andreas, but I can tell, that you can manage clients’ accounts as low as 100k (that was the situation last time).

      So yeah, any further comparison of the European vs. US situation would be welcome; if anyone knows anything.

  2. A good, provocative article.

  3. Good article, Andreas, as always!

    I trade with small account ($100k) and the size simply limits me trading diversified trend-following Futures portfolio, something similar to what you write in your book.

    Is it realistic to expect to ever rise money based on trading on sim. account, or based on historical tests?

    • Realistic, no. Do people still do it? Sure.

      Look at it this way. It’s not realistic to make money from trading, since most people fail. But as we’re here reading this, we’re obviously not deterred by such details. So why let other obstacles prevent you?

      Statistically speaking, you’ll probably fail. But if you don’t try something difficult, you won’t find any meaningful rewards.

      You’ll never reach great success if you don’t attempt unrealistic endeavors.

    • Fair enough. It’s not like I’m throwing towel in …

      The point is, with smaller account it’s kind of Catch 22 – I can’t trade fully diversified portfolio, so I’m using synthetic positions, Options on stocks, etc. But if had bigger capitalization, I would very likely switched to Futures trend-following system similar you describe in your book.
      It’s kind of opposite of your article target audience – I see the merits of trading OPM, but to do so you need bigger capitalization that only OPM can give me.

      What would be your advice for traders with smaller accounts that cannot deploy fully diversified system? How to make the transition from trading your own money to OPM?

    • It’s very difficult to get in, I won’t lie about that.

      One way is to start as an employee. Work for a respected firm for a while and that might get you enough connections and credibility to raise money for your own venture later on.

      Find ways to get noticed. Always take the moral high road. Don’t fall for the temptation of getting into the cheap money on the retail side of system selling, mentoring and other nonsense. It will burn your credibility where it matters.

      Find creative ways. You could for instance log all trades and performance on a website. Write ongoing reports about trades, strategies, performance etc. Keep a history and build a track record.

      There are no perfect answers here. It’s difficult and all you can do is to increase your probabilities as much as you can and hope for a little bit of luck on the last stretch. At least that how I got in.

  4. Dear Andreas, there is another small issue. Eventually if one decides to grow, you need someone to trade on your behalf should you go on holiday, be stuck somewhere with no access to the markets or simply be ill to the point of not being able to trade at all. I suggest reading Marty Schwartz book “Pitt Bull” where we see the transition from the pits to managing OPM. Can you trust someone else to do your work? Suppose you find and develop and implement a robust trading model: your “business” is not robust because you, the trader or PM, are the weakest link. If you are not well and you have open positions going against you, what do you do? Not only accountant, regulation, etc. has to be taken in consideration but the backup of you has to be considered. And this is just the start…

    • The only easy day was yesterday, Riccardo. 🙂

      Naturally, I’m provoking on purpose here for some fun. The point I’m trying to make is valid, but there are many practical obstacles on the way.

      I remember Pit Bull! I read it when it just came out. Must have been around my final year in university, back in the 90s. Good book.

  5. Great article Andreas and it pretty much describes my situation right now. I have ~$500k of my own money to trade, I am confident I have a good strategy (obviously!) and keen to step up and manage OPM for exactly the reasons you stated. I think I could, with a bit of effort, raise up to another $500k from my circle of friends and maybe if I try really hard even raise a little bit more.

    However, I am a bit stuck as to how to do this from a regulation, compliance and tax perspective without exploding costs (for say managing ~$500k OPM). I did a bit of (internet) research and could find little that could work for this size enterprise, especially in the EU (it appears easier in the US). Do you know of any options that would be feasible or at least give me a pointer how I could find out more? I live in England and my potential investors would be from various places around the world (but none in the US).

    • Look into local regulations carefully first, Mark. I don’t have detailed knowledge of the UK situation, but it’s getting tougher all over Europe. Check what kind of license you would need and if there’s any exceptions or simplifications for small scale operations.

      One thing’s for sure. You don’t want to upset the FCA. The old joke being that the FCA makes the SEC look like the TSA.

      I would try the obvious route first. Call the FCA and ask them. Tell them what you’re planning and ask for their views. Worst case they won’t tell you much, or overwhelm you with regulatory documents. But it’s sure cheaper than asking a lawyer.

  6. hi andreas,

    I wonder if there’s a mistake in your article example: 20k base revenue with 30k performance fee should be 50k, not 45k.

  7. I’ll tell you my true story. I’d experience of managing $100M overseas and I came back to my own country and started to manage on my own. In our country (India) there are so many rules that it would make managing OPM would almost make no sense for the IM or Trader. Here everything are based on trust and if the guy who gave you money (99.99% would be kind of managed accounts and there is no legal way to protect the performance fees if you’re not registered with SEBI as PM) is not interested for any reason he would simply pull the plug. I got an opportunity to manage a decent money and it was managed accounts ( Guy whom I’m suppose to manage said funds are near to $1m. $= Rs61). After doing due diligence and everything for over 9 months ( He got my live trading position through teamviewer) he finally decided to give a shot and I did. Unfortunately I’d drawdown for first 3 consecutive months (infact it happened this year) and drawdown was close to 5% of Rs.500, 000,000. I did few stupid trades and violated rules on position sizing and I acknowledged him that it is infact my mistake and would do better and could easily make money. While managing funds overseas I had big drawdown but went on to do well on the funds that I managed for the company. Well the guy whom I managed asked me to return back the money of that drawdown and he pressurized me to send him cheques (Indian spelling of checks). I send the cheques and he keeps on asking me when to deposit the cheque. The twist in the tale is the account which I managed was said to be the account of uncle of his wife and he told me that they feel very bad for the losses. He also told me that size of the fund is Rs.1,000,000. I asked him how broker would allow making a loss of Rs.2, 500,000 if the size is Rs.1Million. He keep on asking me and I told him that I need to sell one of my asset to pay him back. He was infact restless and he told me that I couldn’t be trusted because I’m taking too much time (Had the incident on September30,2014) to pay him back. Month got rolled over and I asked him email of the person concerned in this matter (Wife’s Uncle).
    I sent a big letter to uncle of his wife and stated him that he should give me substantial time to pay back the losses. I sent this mail last Sunday (Nov2,2014) and I’m yet to get back from him. I think he might have recognized that I would take time to pay him and he didn’t have any communication with me since the time I sent email to the person.
    He could even call me tomorrow or day after but I believe the mail which I’ve sent to the concerned person could have made him to understand the situation. Here is the details of the mail.
    _____________________________________________________________________________________
    Email sent to Uncle of the wife
    I’m Guruprasad who is the reason for this short term mess and I’d like to clarify few things in this regard.
    I take 100% responsibility and not interested to shift the blame despite the fact that there has been some misunderstanding on the size of the capital that was said under management. XXX (Name Withheld) trusted me and I don’t want him to suffer for my mistakes and I take complete responsibility. I thought it was 5cr(50M INR and 5% drawdown(temporary loss is called draw down) of 25Lakhs(2.5M INR) is very common in this business. Later on it has been conveyed that size is 10Lakhs(1M INR) and I couldn’t understand how 25Lakhs would be allowed to lose if the size is 10Lakhs. Despite all this misunderstanding I still take responsibility.
    Let me put few things bluntly for your understanding. There is zero legal responsibility whereas I’ve huge moral responsibility which means I’d safely return back your money but it would take some time and for your kind and humble information I’d like to say that dictating terms on repayment would never work but I’d make sure to give it back with atleast 12% pa for the delay that would probably be made by me to payback you.
    Secondly torchuring on daily, weekly and monthly basis by making phone calls (Nothing as such has happened, just saying), sending sms and calling names like cheater, or guy who can’t be trusted or calling some third rated names would only cool the ego than understanding and appreciating reality.
    Thirdly I don’t have an idea on how I’ve been portrayed but I’m not some third rated guy rather have huge experience in stock markets and also have been in similar situations. While managing $100M I was in 30% drawdown (meaning- $30Million in temporary loss) and from there I tripled the capital and I meant to say these are common in stock markets. I had sleepless nights for 6 months and not once my manager asked me to resign because he knew that these are all common in stock markets. I’m not justifying anything but saying that any experienced person would have these kinds of setbacks even on annual basis and its common in stock markets.
    Fourthly I’ll tell you that if you have invested in MFs and if your NAV have gone down by 50% you can’t ask your Mutual Fund manager to return back the loss which he had because — Stock Market Investment are subject to market risk and you should read the offer documents carefully before investing. There is no responsibility for them to return your funds but that doesn’t mean they’re uneducated or filthy guys or cheaters. They diligently tried to work hard but due to various factors they incurred the losses and these folks are not ordinary guys rather they have their grad degrees from Ivy leagues like Harvard, Wharton & IIMs. They might have faced sleepless nights but stock markets are bigger and would make anyone humble.
    Fifthly I’ll tell you prices of few stocks in the markets.
    1. DLF was around 1200 plus during January of 2008 and now its in 120 which means it has lost more than 90% and it wont return even to half of that money.
    2. HDIL was around 800 bucks during January 2008 and now its roughly in 80 which means it has lost 90% and it won’t return to its high.
    3. Reliance Capital was around 3000 bucks during 2008 and now around 600 bucks.
    4. RCOM was around 850 bucks during 2008 and now around some 85 bucks.
    5. Cisco (World’s No.1 in routers) was around $80 during the peak of tech bubble 2000 and was one third now despite increase in sales.
    6.Yahoo was around 140 bucks during the tech bubble 2000 and now less than half despite being in better position compared to 2000. Even after 14 years.
    Let’s have the look of ICICI Infrastructure Fund.
    During January01,2008
    NAV for its Institutional Growth 18.9
    Dividend 22.54
    Regular Growth 35.74
    Dec31,2008
    NAV for its Institutional Growth 7.9
    Dividend 17.26
    Regular Growth 9.2
    Dec31,2013
    NAV for its Institutional Growth 10.58
    Dividend 26.27
    Regular Growth 14.71
    Even after 6 years Fund is still down by more than 50% and this is the reality of
    stock market investments.
    Why I’m Quoting these examples. All these money are not able to recover completely even after decades but you’re expecting it to return back within weeks and months and you’re completely unrealistic (sorry for being too blunt) in your expectations. This is not meant to shift my responsibility but has been quoted to make you understand the reality on pain of this business. I understand that money is hard earned and know how painful it would be to lose and I feel for it but I would like to come out with pragmatic way to sort out the problem without meaningless emotional outbursts.
    On final Note I’d like to say that I’d return back but need some substantial time because I need to return back without losing too much of my own money. If I sell my properties now I would be incurring a loss of 50L(5M INR) and on top of it I need to give 25L(2.5M INR) immediately which means I’m simply losing 75L(7.5M INR) of no use and which I don’t have any legal responsibility but only moral responsibility. If you’re true to yourself you too would appreciate that none would do this. I’m not saying that I won’t give you back rather I’m saying I need substantial time and would probably give you a minimum of 5% plus bank interest on annual basis(atleast 12% pa). This is the most professional, realistic and honest deal. I believe you would appreciate my pragmatic solution.
    I kindly request you to send me
    1. Your Name
    2. Account No
    3. Bank Name
    4. IFSC Code
    5. Pan No.
    I sincerely hope you would appreciate my professional sincerity to repay you in a professional and pragmatic way. I understand that it would be painful for you in short term but I sincerely believe this is the most professional solution I’ve in my hands that would also not jeopardize my interests.
    My mail might lack diplomacy but I firmly believe that it doesn’t lack sincerity and honesty.
    I hope I’m sending the mail to right email id.
    Thanks and Regards
    Guruprasad V
    ____________________________________________________________________________________

    Lessons I learned from this incident.
    1. I’d be better off to manage institutional money than managing individual money because individuals doesn’t have the stomach to digest the losses. No matter what, individuals would never digest the losses with the independent money managers but they wouldn’t have any problem if they lose money with MFs.
    2. No matter how much skilled you’re, if you are making consecutive losses for initial 3 months for your client, your client don’t give a damn about your skill or reputation. He would definitely doubt your doubt and would be happy to get the hell out from you.
    3. You need to know how much fund you’re managing for the clients. I’ve been blindsided in this issue. Earlier it was said to be 50M INR whereas the guy who gave me said that it was only 1M but I had a drawdown of 2.5M. Where is the logic in this?
    4. The desperation to trade big accounts ($1M is big in India) had made me to take a crucial risk of managing an account of a person who doesn’t have stomach to digest the loss and I’ve not even seen the person whom I’m managing funds.
    5. One need to be very clear on risk, returns and time frame of the person whose fund is going to get managed.
    6. Always remember that individuals would never give respect to individual money manager, no matter how intelligent they are rather they would give respect for MFs.
    7. Don’t manage funds for friend of a friend or uncle of a friend or aunt of a friend or xyz of a friend unless otherwise you had one on one interaction with the person whom you’re going to manage money to trade stocks.
    8. I think sending email is the best thing that happened in this episode and this could have clearly helped them to understand the situation.
    9. I think this is the lowest point in my career and I firmly believe that I’ve learned valuable lesson on everything from this episode. From managing money to risk management that is needed to be successful in this business.
    10. I made whatever I’d from this business ( From house to everything I’ve from trading stocks) and I certainly believe that I would become very successful trader in this business.

  8. I’ve wrongly typed 500,000,000 instead of 50,000,000. Its Rs.50MN

  9. Hi Andreas
    Great website. Just a query on your Globalanced Systematic fund .It seems according to Bloomberg charting to have had a 25 % loss since inception in late 2011.Do you know why the performance has been so poor?

    • Thanks, John. We’ve got a few products in different areas, and Systematic has certainly had a tough run for a few years. During the initial couple of years, where trend following products suffered substantially, the Systematic outperformed in poor market conditions. Losing money is never fun, but it’s unrealistic to expect gains when the peer group is taking a large beating. Still, losing less than the others is a poor consolation of course.

      In the past couple of months, this fund underperformed the sector though. That was mostly attributed to the same substrategies that created the relative outperformance earlier. The best funds this year were the pure trend followers, which were also the ones who lost the most in the years before.

      Out of our asset management offerings, this was the fund that has the least attractive development over the past few years, but the strategy did very well in the preceding years. In the past few years, our products in the systematic equity space did the best, along with counter trend futures models. These things tend to go in rather unpredictable cycles and it’s nigh impossible to tell in advance which approach will do well next year. My recommendation is always to spread your investments on many different styles.

  10. What city and country do you live in? Grocery checkout clerks making $75000 annual seems a bit high. Where I live many people with doctorate degrees with a decade of experience don’t make that.

    • Welcome to Switzerland! A decent entry level salary for a junior finance guy over here should be around $150k/year. Stay a while and do ok in the business and this can rise fast.

      Naturally I’m provoking a bit on purpose, but at least the store manager should probably get something like that. Salary levels are quite different here from the Dallas area. Making ‘six figures’ here is extremely easy, and something that anyone with a masters degree can do before he’s 25.

  11. Andreas,

    You failed to mention the most basic reason someone with a decent amount of equity (let’s say $2MM US) should trade for himself which is the 2 and 20 or 1 and 15. On a 25% gain in a year he would be foregoing over $100,000 in profits. Compounded over time, say 20 years it makes a massive difference.

    • The article wasn’t suggesting that you’d allocate to an external manager, Jason. The point was, if you’re going to trade your own money anyhow, it makes sense to trade other people’s money at the same time. Thereby cashing in on the fees instead of paying them.

  12. Hello Andreas,

    what do you think of social-investing sites like wikifolio.com? You can create a portfolio and if there is interest from other people in your strategy, an OTC certificate is created which tracks the performance of your portfolio and is traded on an exchange. So you can quick and easy create an investment vehicle for your strategy and eventually get noticed without all the hassle of legislation. Of course you have the counterparty risk of the issuer of the certificate but do you think this is a realistic way to get into trading OPM?

    • Hi Lazaros,

      I’m not familiar with this site, but I’ll take a look. Odd that it’s just in German.

      Generally, it can probably be good to experiment on such sites, to follow the market and test strategies.

      The danger in social trading might be to listen to other users. It’s probably a fair assumption that while there are some knowledgeable people on such sites, a vast majority is probably not. This just the way that the internet tends to work… Listening to the views of vocal, anonymous people on the internet risks getting stuck in a group think mentality. That’s probably how most people get into Elliot waves and similar rubbish.

      I wouldn’t put much hope on getting noticed because of such sites (though I may be wrong). I think the value is probably more in giving you a simulated experience of being a fund manager. It can help you approach problems more realistic, by exposing you to a simulated environment.

      Simulations are great, but it’s too easy to change things after the fact. Entering all trades, doing all rolls etc will give you a more accurate experience. Even if it’s not real money.

      A long time ago, before I had my own pnl responsibility, I used to play around with Marketocracy.com. It probably 15 years ago, and I have no idea what’s on that site these days. They had a pretty good simulation environment for running a fund, including enforcement of compliance rules etc. A quick look at the site now, and it seems like it completely changed direction…

      I notice that some of these sites actually lets you invest through the users’ strategies. Now that’s as dangerous as it is stupid. Essentially, they’re playing with legal loopholes to let anonymous amateurs manage money for retail investors. That’s a ticking time bomb. Both legally and financially. It’s irresponsible and doomed to blow up.

    • Regarding Wikifolio, I ran into these guys yesterday at a finance convention in Zurich.

      I asked them if they don’t see a problem with bypassing regulations. The way they work now is that anonymous people on the internet, hiding behind the usual cool screen names, are in fact promoted as asset managers for retail clients. For actual asset managers, there’s strict regulations, certifications, oversight etc, and what Wikifolio is doing is throwing all that out the window.

      I asked if they don’t see a problem with letting anonymous amateurs act as asset managers for small savers. If it’s not a concern that what they are doing goes in the complete opposite direction from the tightening safety that regulators have been building up.

      Their reply wasn’t very convincing. They assured me that they interview all the traders, asking them questions to make sure they know what they’re doing. That, frankly, sounds like utter nonsense. Hey, let’s do the same with doctors, lawyers and all other professions. Let a company with a financial interest in approving them ask a few questions over email before approving everyone.

      They also say that they have over 2,000 ‘approved traders’. Obviously there’s no way that they have done any sort of real checks on that many people.

      Wikifolio has built an impressing business. They’ve done quite well for themselves. But what they’re doing is extremely dangerous, irresponsible, and should be illegal.

      Caveat Emptor.

    • Hi Andreas,

      thank you for the info. I took a closer look at wikifolio and was also amazed by how easily they bypassed regulations and let people manage OPM. They use a neat little trick in that the portfolio you are creating is only a simulated one, no real transactions are occurring. That’s why they don’t charge transaction fees which is very tempting if you are running a short term strategy. The german broker Lang & Schwarz, who is behind the wikifolio project, issues then a certificate which tracks the performance of your simulated portfolio after fees, like others products are tracking the performance of the S&P 500 or the DAX 30. This certificate is legit and complies to all regulations like other certificates and options do and it is traded at the Stuttgart exchange. So by buying this certificate you indirectly invest in a strategy of a trader.

      Before your certificate gets issued, you have to send them your ID, home address and your telephone number. They have a telephone interview with you, which I agree is not much of a background check. What amazed me is that the top portfolios have a few million EUR under management. I doubt that so much money comes from individual investors so I guess there is institutional backing of the whole project.

      The one thing I liked in the whole concept is the transparency of the portfolios. Everyone can see the current holdings and every trade that was made. That is something that is missing in the traditional funds where the investor doesn’t see the inner workings and the trading style in real time.

      After all I decided to give it a try and created a trend following portfolio with the intend to invest my own money in it. The fact that there are no transaction fees is very enticing and can boost the performance of shorter term strategies.

      I agree with you that one should be careful investing in such certificates. There are portfolios that use huge amounts of leverage on single bets with the result of having 200% and 300% increase in value over a few weeks. You should always do your due diligence before you invest in anything and make sure that you understand the risks involved.

    • How about Darwinex ? They have an asset management license from FCA (UK) which covers them all over the world (except US and Japan) and they do look very professional. The concept behind it is simple and ingenious: they take a trader’s strategy and transform it into an investable product they call DARWIN (it’s an acronym) which comes in 3 risk flavors: low, medium, high. So there’s no need for traders to be regulated because you don’t actually invest in them. If let’s say the trader goes crazy, gets drunk or whatever and loses 50% in a week, the DARWIN based on that strategy will limit the loss according to its chosen risk flavor. I was actually pleasantly surprised to see that some traders who deviated from sound risk management did lose money while their investors actually made money (because they’re protected by the Darwin algorithm). I think that’s a novelty in the asset management world. They only went live a couple months ago, but once they get traction and become popular, I believe this model could become a threat to the mutual fund model. Why would one do dollar cost averaging or invest a lump sum let’s say 10k or 20k in an active manager who will lose him 50% in a year like 2008? But at the same time boast that his benchmark lost 55% and still get his salary? It makes more sense to invest in a trader whose interests are perfectly aligned with the investor’s because he only gets paid a performance fee. I looked at the results of some mutual funds from my home country (Romania) and the results are horrendous. For instance, a fund which has some 17M Euros under management with an average of 10k Euros per investor in the fund: the fund unit reached a top of 17 at the end of 2007, went all the way down to 3 in early 2009 and it is now at 8.5, still -50% after 8 years.

    • I’ve never heard of them. Seems like just another tiny forex broker jumping on the copy trading band wagon like everyone else. This is a growing trend among brokers at the moment and it’s designed to increase order flow, i.e. commissions. It has nothing to do with the asset management business and won’t have any impact on it.

      It’s a very dangerous development, where brokers use legal loopholes to let anonymous hobby traders play asset managers for small retail clients. This goes contrary to the intent of the law, not to mention common sense.

      FCA regulation is UK only and doesn’t give any sort of global license. Any UK based broker is required to be regulated by them.

    • I was skeptical at first too, being disappointed in the past by such outfits like Currensee or Rapacap. But there is definitely something different with Darwinex. First of all, there is no legal loophole they’re taking advantage of. They have asset management license so hobby traders can play all they want, at the end of the day the investor trusts his money with Darwinex algorithm, not with the traders per se.

      Secondly, all UK brokers must be FCA regulated, but not all have asset management license. http://www.fsa.gov.uk/register/firmPermissions.do?sid=304719 S.

      Thirdly, they might be tiny now but the model has great potential as far I see it. You say that it has nothing to do with asset management, but unlike all other copy/mirror trading services, Darwinex doesn’t compensate a trader based on the volumes made but strictly on risk adjusted performance.

      It won’t interfere with the CTAs who have $1-$5M minimums and Billions AuM, but I see it as an alternative to mutual funds with lousy performance. Don’t want to sound like their PR department, but I’ve been hoping for something like this to appear for the past 2 years.

      Look at this from my and other traders’ point of view: Why shouldn’t we be able to manage a few millions of OPM but so called professionals like the example in the previous comment (which is by no means singular) are allowed to lose people money for 8+ years and give them heart attacks with 70-80% drawdowns ? If we prove to be skilled traders, it’s win-win for all involved, if not, the potential damage to the investor is limited by a regulated entity on predetermined risk parameters.

    • It doesn’t matter if they have a license or not. Having an asset management license doesn’t mean that you can outsource investment decisions to unlicensed, unqualified, unregulated hobby traders. It goes against the intent of the law, it’s extremely irresponsible and it’s a matter of time before they are shut down.

      Compensation structure doesn’t matter. It’s a way to get hobby traders to be more active. That’s the end game here. Commissions.

      As for protection by some amazing super algo that a forex broker has come up with, I wouldn’t trust a word of that. Marketing nonsense.

      Listen, I get that these schemes seem attractive to hobby traders. That’s what they’re designed for. They make hobby traders feel more important and they offer a little extra money. That’s all fine. The problem is that it goes in the total opposite direction of the regulations and safety nets that are being built. The only reason that these things are still running is that regulators don’t yet understand what’s going on.

      Also, as much as I dislike the mutual fund industry, you can’t compare absolute and relative return products. And tiny little 17M Romanian fund sounds sounds more like someone’s hobby project than a real mutual fund. The margins are small in that field and a 17M mutual fund is so tiny that it’s barely worth bothering with. Fifty basis on that doesn’t make anyone happy.

      Social trading is growing, but it has nothing to do with asset management. It’s a ploy to make it more fun for hobby traders and thereby getting them more active. More active means more commissions.

    • To address your points: I guess the FCA were informed of the Darwinex model when they granted the asset management license. I very much doubt that it wasn’t so and that they somehow just got tricked. How could it have happened when everything is out in the open ?
      On the contrary, compensation is a deal breaker: let people come in with DEMO accounts like they do on ZULU (which btw is regulated in the US), pay them based on the volumes traded and you will attract a bunch of gunslingers firing up their EAs 24/5. They have nothing to lose if they tank their demo accounts, but stand to gain if they get lucky for a few months and attract a large enough following. On the other hand, allow only REAL accounts and reward only risk adjusted performance and all of a sudden it smells much nicer. 🙂

      The fund in my example is tiny because the Romanian stock market is a tiny one. But that kind of dreadful results could be found in mutual funds of any country. The reason I chose it was because its AuM and the average sum per investor is similar to what is to be achievable on Darwinex.

      This debate reminds me of all the doom and gloom surrounding Facebook long before its IPO and why it was never going to make money but fade into oblivion like MySpace. Here’s an example: http://thereformedbroker.com/2009/08/06/myspace-is-like-jacob-marley-to-facebooks-scrooge-beware/

      We’ll just have to agree on disagreeing and wait for the future to unfold.

  13. Nice article, Andreas. I’d add to it that from a pure trading perspective, managing other people’s money has the same risk profile as a long call position on your own equity curve where you also collect the premium as a management fee. Pretty good trade indeed!

    Cheers!

    • Yes, this is a really interesting aspect, Alexis. Normally, you would pay to buy an option. In this case, you’ll actually get paid to take the option. As you rightly point out, you collect the premium for going long a call.

  14. Andreas, have you heard of FundSeeder ? What’s your take on it ? The concept sounds very interesting and they also have Jack Schwager on board.

    • I haven’t looked closer at it, but I’m aware of it. While there are many similar sites out there which seem a bit shady, the fact that they have Jack on-board makes this one much more interesting.

      Jack is one of the good guys. I’ve actually only spoken to him in person a couple of times, but he gives me a very honest and competent impression.

    • Thank you for your quick reply. What other similar sites do you know ? I’m aware of Myfxbook (you can establish for free a verified track-record but they don’t connect you to any investors). There are 2 problems that I see with Fundseeder. First is that they will charge a ‘nominal’ fee to verify your track-record, but they don’t actually say how much it is. This could be a deal-breaker if investors fail to actually invest. And that for more than 6 months now there doesn’t seem to be an update to the site – they don’t appear to be up and running yet.

    • I had a look at the website. It is basically a Fund Seeder website (I know, amazing considering the name!)

      Large investment companies, such as Goldman Sachs, have pots dedicated to seeding money to fund managers; think of it as them using a little of their money to diversify and hopefully increase their returns, in a similar way to venture capital.

      The website allows would-be fund managers to link their live accounts (like Tradestation or Metatrader) and the website in turn shows their performance. They don’t show the trades taken, just the performance so none of this highly dodgy stuff you have seen earlier in the post – it is literally to give potentials a chance to highlight their performance.

      While you can’t use it to solicit investors (yes I know I said its basically a fund seeder website) it could open up opportunities for fund seeding contact (although you’d still have to go about the compliant new business process for whichever country you are in) or for potentially getting hired from a big firm.

      Hope that helps anyone reading this.

  15. Wholeheartedly agree. btw where is Herr Hackl?

  16. Andreas,

    “your return in an average year is $75k. Hm.. that’s not a great salary. Where I live you get that much working in the grocery store.”

    Well, 75k may not be much is you -have to- live on it in expensive Zurich -think purchasing power parity- but Nobel-laureate Daniel Kahneman argues this is exactly the price of happiness, even for a country like the US: http://www.joshuakennon.com/the-price-of-happiness-science-confirms-it-is-75000-per-year/

    Hint: the number is 1.5 times as much as your neighbor makes. Not to mention, you can live like a king on this amount in places like Prague or Bangkok (nice places on their own), if that’s what your cup of tea.

    I wonder what is your view on this, as you are, well, truly in a very special kind of business. According to the paper, making more than 1.5 times your neighbor makes is too much headache – in traditional businesses, at least -, for added happiness-points. In your business, is it still no more headache – truly, honestly -, whether you manage 1, 10, or 100 million of other people’s money?

    • Hi Robert,

      1.5 times your neighbor isn’t as straight forward as it may seem, even if we assume this to be correct. Your neighborhood tends to be non-static. Either it changes with time or you change your surrounding.

      Everyone feels poor at times. The guy with the Porsche feels poor next to the guy with the Maserati. The guy with the Maserati feels poor when his buddy has a NetJets card. That guy in turn feels like a loser when someone gives him a ride in a G5. The G5 owner in turn feels like a bum when his plane is parked next to his buddy’s Bombardier Global 5000. This doesn’t end. (at least not until I’ve achieved world domination and had all faces at Mt.Rushmore replaced with my own!)

      This game is of course a bit absurd (welcome to the hedge fund business!), but it just shows you how your ‘neighborhood’ is a moving target. Once you’re making 1.5x from your neighbor, you’re likely to go looking for a new house.

      Bud: “How much is enough?! How many yachts can you water ski behind?!”
      Gekko: “It’s not a question of enough. It’s a zero sum game. Somebody wins, somebody loses. Money itself isn’t made or lost, simply transferred. From one perception to another.”

      Anyhow… Managing 1, 10 or 100M: In reality there’s more work with 100. Mostly because that tends to mean multiple clients, a couple of employees, marketing material, reporting, risk systems etc. Then again, it’s easier to do things correct with 100M. You can afford to do things right instead of shooting from the hip as you may need to at 1M.

    • Andreas,

      OK, I was not clear enough by the statement “1.5 times as much as your neighbor” the same way the linked article and study was clear: that is, 1.5 times as much as the MEDIAN income (in your country). Sorry about the confusion.

      As for the “how much is enough” question and if you really want to go up to the Gulfstream level, you may want to find this article (and many similar around the Internets) insightful: http://www.huffingtonpost.com/bronnie-ware/top-5-regrets-of-the-dyin_b_1220965.html

      (On a practical note: why own the Gulfstream, if it is probably much less hassle/more fun to just rent it when needed?)

      The bottom line is, your article seems to be compelling and reasonable, you did not manage to convince me – yet – that I want to be a trillionaire big money manager of so many clients; however managing a few millions of money of some wealthy friends – esp. if you happen to have some – now sounds a much more reasonable deal.

    • Hehe… Don’t get me wrong, Robert. I’m just having some fun and not really disagreeing with you. All your points are absolutely valid.

      I have no no interest in a private plane, nor a yacht to water ski behind. That was just to push the argument a bit for fun. (i’m still working on putting my face on Rushmore though) The observation is still real , and I see this phenomenon all the time when incredibly wealthy people feel poor next to slightly wealthier people. It might not make sense, but that seems to be how many people think in those situations.

      But, to the topic: Being an asset manager is a job like any other. You don’t have to aim for the massive payouts here. If you can increase your income a bit and get a little extra security for just a tiny bit of extra work, it makes a lot of sense. Take it down a few steps into more realistic territory.

      Say you compare trading just your own 50k or taking in 500k in external investments. Minimal extra workload (if you can just raise the capital). You still trade your own money, getting the return there. You also get a steady fee flow from your clients, for just taking a little larger trading sizes. This is really the point of the article. But of course, I pushed it a bit just to get some reactions.

      The core problem these days, at least in Europe, is the increased hurdles. It’s near impossible to start a small asset management business these days. Managing just a couple of millions doesn’t really work anymore with the current compliance requirements. In the US it should be easier.

      Btw, it actually makes perfect sense to buy a Gulfstream. As long as you’re not crazy enough to actually use it. There’s a pretty good market for buying planes and leasing them out. The business model is the same as buying an apartment building and renting out the flats…

    • Andreas,

      Thank you!

  17. On a separate note, it would be interesting to know for how long OPM stays invested with you on average? My friend told me for hedge finds the industry average is, money stays for 1-2 years. He might be wrong. Your numbers may differ.

    • We’ve got the bulk of our assets on the asset management side, where you know your client. Those types of clients are much more sticky than the anonymous flows that come into funds. (yes, flows in and out of funds are completely anonymous)

      When there’s a million coming into a fund product without prior notice, you never know how long it’ll stay. You have no idea who it’s from and if a million flows out next month, you don’t even know if that’s the same client or not. That part is handled between the client’s bank, correspondent banks, our banks and our administrator.

      I don’t really know about industry average, but for us the average is significantly higher. Our oldest accounts are from the mid-90s.

    • Andreas,

      Wait…

      You talk about:

      1. Unknown/anonymous money in and out of your management
      2. Asset management in the hedge fund business

      This is all interesting, but unknown territory to me.

      1. All I know is every financial service provides have KYC policies; I can’t imagine anonymous money these days (yeah, you can hide behind companies, but I still don’t get the point)
      2. For asset management (in general), I have a preconception it is sold (for $$$) to some rich guy who got rich in other way than finance, and can’t do on his own what Warren Buffett recommends to private investors (30 seconds video): https://www.youtube.com/watch?v=yk94tI_2QOY
      But asset management in the hedge fund sense? I have no idea what it might be. Assuming we are talking about private investors (you said, much easier to do that, because of regulation), not managing money for companies.

      According to my understanding investing or trading works like this:
      a) private investor opens a personal account at brokerage firm and manages her own money
      b) active investment manager cooperates with brokerage; manager will bring in clients; clients open personal accounts, give a power of attorney or whatever to brokerage, which allows investment manager to trade on behalf of client

      I understand you are might not be allowed legally by law to solicit your services here, but some general article or other source would be helpful; thanks!

    • My feeling is that you’re knowledgeable about the business (and probably work in it), but haven’t been in contact with these particular details yet. I was also a little surprised early on.

      The whole KYC stuff is already done by others. The fund manager has no clue where the money’s from, as long as it’s already in the system and has been passed by the banks.

      Here’s how it works. You’ve got your account with BoA. You tell your local banker to invest in SuperHedgeFund. SuperHedgeFund uses Credit Suisse as prime broker. So what happens now?

      BoA wires the money to a correspondent bank for various reasons, such as Bank of Ireland Nominees. BoIN then wires the money to CS. CS puts money into the account of SuperHedgeFund. All SHF sees is money from BOIN.

      Who does KYC? Well, BoA did their DD on you when they opened your account. BoIN doesn’t know your identity, but they’re allowed to take BoA’s word for it (FATCA etc..). CS are allowed to take BoIN’s word for it, and there we go.

      Your money is still held with BoA as far as AML procedures goes, just as if you had bought shares in Microsoft. After all, Bill Gates doesn’t know who owns his shares either.

      The second point is just me being unclear. What I mean is that my firm is engaged both in traditional asset management and in hedge funds. Now in traditional asset management, i.e. non-collective investments, accounts are opened in your name by us. Then we do need to know a whole lot about you. This is where KYC comes in.

      As to having a brokerage manage your money, I strongly advise against it. That’s a massive conflict of interest. Besides, if they know how to manage money, they wouldn’t be brokers in the first place… 🙂

    • 1) BoA – BoIN – CS – SHF connection: I got it. I was aware of the fact that I can buy various stuff from my main, high street bank (in Europe), such as as stocks, bonds, ETFs, mutual funds; however, I didn’t know I can buy hedge funds as well. Under what asset classes (from the above, or similar) should I look for [Example Hedge Fund]? I’ll definitely ask them!

      2) “traditional asset management”
      By that, do you mean the thing I suggested? That is is the thing usually sold to rich folks for much higher fee compared if he invested in a traditional stocks/bonds retirement fund (Vanguard style), something everyone can do on their own? Or, it can be a “Permanent portfolio”, if you like a gold portion; or, an “Ivy portfolio”, if you like real estate. (Yes; I can from this direction)

      Any reals benefits of “traditional asset management” can offer for more sophisticated folks like you and me; am I missing the point?

      Hedge funds: I see the benefit; though that’s a different kind of animal.

      Regarding the time frame; You say, money can stay in for more than 20 years under management, while my friend suggests money stays in for 1-2 years on average.

      I can understand if the unique selling point is, the client walks through the door of one of those old, traditional, Swiss private banks; then she might not pull out her money in 1-2 years, but keeps it in for 20 years.

      Compare this to what my friend suggested: when client opens an account at a mainstream (online) brokerage, then, there is nothing to lock her in for 20 years, marketing-wise; she comes and go in a year or two.

      That is the main difference; do you suggest? Now I see.

      Bottom line: if I want to manage OPM as in a hedge fund, and lock them in for the long term, 20 years; I am supposed to contact some old-fashioned, traditional Swiss private banks (which are friendly to my ventures). And that is the unique selling point for my marketing dept.

      3) “As to having a brokerage manage your money”
      I didn’t suggest that; I tried to say it’s a deal between 3 parties:
      – Client
      – Money manager,
      – Brokerage (only provides the platform)
      Sorry if it wasn’t clear.

      This public comment section is a fine platform for me to discuss; for the benefit of all your readers; we’ll just have less and less space, because of page design. 😉

      Thanks!

    • Yep, running out to space… I tried sending you a direct mail, but it seems like you’ve entered a fake address. 🙂 I’m at firstname.lastname@gmail.com if you’d like to take it off line.

      All you need to buy a hedge fund is an ISIN number or similar. Of course, in most jurisdictions there are rules regarding ‘qualified’ or ‘accredited’ investor. Check your local rules.

      Traditional asset management is tailored to the client. We’d sit down and get to know you first. Your background, asset base, investment goals, capital preservation vs appreciation etc. Risk appetite, asset classes, products, structures and such. It’s a very different thing than hedge funds. You’d get a tailored solution which covered very much more than just a trading strategy. We started out as a family office and that’s were our roots are.

      Hedge fund money isn’t very sticky. It tends to come and go with short term success or loss. The traditional asset management money is more sticky, mainly because you’ve got a direct personal relationship with your client and can adapt to their needs.

    • Thanks Andreas,

      I am getting back to you in some other form, after doing a little research, but actually on quite a few issues.

    • Ps. Once I came across this website which lists a lot of Swiss (or others as well? I forgot) private banks and their respective minimum asset requirements from clients. I didn’t bookmark and now I can’t find it; not sure if it is any good for our purposes.

  18. Hello Andreas,

    Thank you for replying to my previous questions. I have some generic questions on diversification, as they used to say, is the only free lunch out there. Do you agree with the fact that a pure trend following CTA has a diversification issue no matter how much assets under management, of course, the bigger ones have more issues. How do you diversify, from what I read from your book and others, you can do it though different underlying markets, but do you do it also with different strategies? Because at the end, a trend following strategy no matter how you tweak it, it will produce more or less the same kind of pattern. Do you think, its important as a CTA, to combine the pure trend following wit for example contrarian strategies, carry strategies, discretionary ones in order to have a layer of diversification.
    I have one last question, do you believe in the simulation of futures prices in a portfolio to estimate risk metrics, like VaR , Expected ShortFlall, CVaR?

    Thank you very much, your responses are just immensely helpful.

    Dave

    • It’s the dilemma of the business. Recent concerns about trend following performance has lead to increased diversification into style, time frames etc. The result is increased complexity which may or may not pay off. We’ve seen many times how funds shift strategy at the worst possible moment. And of course, professional clients prefer clean building blocks so it might be harder to raise assets. A typical CIO wants to build his own portfolio, not have hedge fund managers do it for him.

      It’s a tough call whether to combine styles or keep it clean. It’s an important business decision to make.

      The advanced level risk metrics are in my view not important to retail traders or even to small hedge fund shops. When you have one or two principal portfolio managers, you have a pretty good overview and keep track of the risks well anyhow. For larger shops and banks of course, you need a risk department to handle these things.