Invest Like the Best with Patrick O'Shaughnessy
00:41:36 · Jeremy Giffon
[00:41:36] S2: The founder is incredibly important, the founding act is incredibly important in any business or country or organization really. I do think that it's notable that the current paradigm in which we live, the largest and most important finance firms come out of a culture of leveraged buyout which first of all is a debt driven idea, it's financial engineering, it's extractive insofar as the primary goal is to make a thing more profitable and I'm not trying to disparage leveraged buyouts. I don't think they're like as evil as people say, but the core idea behind it is like using debt and financial engineering to make a lot of money in a way that the quality of the business itself is maybe ancillary to the core trade. And those are what the founders and the founding acts of these large firms today are. Now that the Apollos and Blackstone's and KKR's of the world, I think in a lot of cases the leveraged buyout is a very small part of what they do today, but I still think it's still in the core culture. One thing that we've pondered about before is what does the next twenty or thirty years look like when the largest financial firms in the world, their founding action was seed investing. It's equity driven, it's power law, it's hugely optimistic, it's largely qualitative. What would a Blackstone and Apollo look like if that was the core seed at the start of the inception of the firm? It's notable in the same way that equity financing is a far newer idea than debt financing and equity financing is obviously a far more optimistic idea. It's uncapped to the upside and so there's all these sort of philosophical ideas around equity versus debt and debt is far more ancient and debt obviously has very controversial past about whether it's morally good at all and there's this idea of like what if the crux of finance is with these kind of wildly optimistic people versus people who might be more conservative, concerned about the downside, more concerned about maybe one way of looking at it is a shift from the quantitative to qualitative.
00:43:38 · Patrick O'Shaughnessy
[00:43:38] S0: What other differences are interesting to you between East Coast and West Coast finance? The people doing it, the optimism versus not pessimism, realism or dollar orientation. You straddle these two in an interesting way.
00:43:50 · Jeremy Giffon
[00:43:50] S2: I don't think one's better than the other. There's truth to the caricature, which is East Coast is extractive, pessimistic, downside oriented, West Coast is naive, unsophisticated. That is true to some obvious extent. And I think they're merging now. It's no coincidence that the West Coast is definitely eating the East Coast. Venture capital has created the biggest businesses in the world and private equity has not and where private equity has, it's largely been through acquisition and financial engineering and so it's sort of inarguable that venture capital is this sort of much better force for the world. It's a tiny little asset class that has produced all the most important things in the world. It's also this civilizational technology which is you're willing to give young people millions of dollars to try a very speculative idea with basically no retribution or downside if it doesn't work. So it's clearly this amazing force. I think there's been a very interesting like flip in compensation between East and West and so when I was growing up my understanding was that Wall Street is where you would get paid huge amounts of cash on a yearly basis. You would have no enduring equity value but you would get paid a lot of liquid cash And the West Coast was this idea where you would be rich on paper, would have equity that would maybe be this enormous payoff in some distant future, and I would argue that those have started to flip now, whereas like Wall Street, because all these businesses have gone public, you know, on Wall Street you're comped on RSUs and you're thinking like a firm and you're less worried about the carry in any one fund and you're more worried about the stock price and performance of the firm as a whole and interestingly in Silicon Valley, it's almost moved towards a annual cash basis, but given how these markets, know, companies staying private creates these sort of mature secondary markets that sort of de facto yearly tenders becoming almost a parallel liquid marketplace. You're actually paid huge amounts of cash in Silicon Valley and I think we've seen that with the AI stuff and even you know venture capital firms getting acquired and GPs leaving their firms and all that sort of stuff where it actually is becoming more liquid, more mercenary.
00:45:53 · Jeremy Giffon, Patrick O'Shaughnessy
I'm always interested in these structural shifts and how that starts to change things where The Valley is a place where you're liquid and you're getting cash out yearly and you're jumping from firm to firm and Wall Street is a place where you have a bunch of RSUs and you're sort of thinking more about the long term and the interest value of the firm. [00:46:12] S0: If you add all this up, where are you looking for opportunity? You have such an interesting mandate because you could do a venture style growth equity deal. You could do a special situations private equity style deal. You've historically across your career invested in dozens of software companies. You've, I think so far wisely avoided companies that could get railroaded by Cloud Code. But nonetheless, I think you're still curious about where there might be value in software. Just as a pure investor, how are you approaching this very strange high vol, high uncertainty landscape? We're very fortunate to
00:46:49 · Jeremy Giffon
[00:46:49] S2: have such a wide mandate and sort of what we can do and look at. Maybe the only consensus view is the niche sort of apocalyptic vision at some of the core zealots at the labs. But outside of that, I think it's really sort of a jump ball. Markets lack a lot of nuance. SaaS is a business model of this idea that you pay usually per person, per month or per year for access to a tool that helps you use your computer. I think in that sense, SaaS is in a lot of trouble, but I don't think for a lot of these businesses that are being really sold off today out of fear that that is actually what is important to the business at all. It is actually interesting to me, I wrote a post recently about the idea that a public manager being long, the Mag seven is without taking up specific view on the trade, probably like good capital allocation because sometimes you just got to do the really obvious thing and just follow consensus. Consensus is usually right. One of the pushbacks I got to that as well, these things, you know, they're the biggest companies in the world, they're priced to perfection. I think it's underrated the fact that the fifty two week variance and these things is like nearly a 100% for the biggest companies in the world and so they're not priced well at all and the market lacks lacks extreme nuance. I think it goes back to what we were talking about which is probably someone smarter than me could draw out a much clearer picture, but there's something to do with passive flows and the marginal price of security and what's informing the marginal price of securities is The posts. In the group chats that the random people are writing that the algorithms chosen. In this way the algorithm, the AI frankly, my understanding is that's what's driving most of the algorithms now on Twitter and YouTube is pricing the market in some very real sense because it's choosing the narrative that it wants to show to people and then those people are pricing off that. It's another lesson which is markets are not efficient, there's no nuance. That would be the big thing that we're seeing today. I think there's a lot of delusion either direction.
00:48:38 · Jeremy Giffon, Patrick O'Shaughnessy
The most honest thing for a lot of managers to do would be to sit it out, but they're structurally unable or unwilling to do that and so you just sort of, you know, hope for the best and put capital out the door and it's sort of a problem for tomorrow. A lot of things are still getting priced irrationally in the private markets in ways that are totally unrelated to the quality of the business but are more of a function of just the incentive structures of the funds. [00:49:02] S0: You mentioned the SaaS is just a model and there's good and there's bad. What do you think about this trend of super CapEx heavy, token heavy, real world asset? There's this new genre of company that seems to have emerged as really dominant. I was looking the other day, was curious in our portfolio, what percent was not pure bits? And it's like 60 something percent is not just software based on the market value of our investments. I was surprised by that. Like it's a really high percentage, whereas VCs have mostly historically been all software for the last ten or fifteen years. What do you make of this trend, this class of business, lower gross margins, things like this?