September 25, 2020- Join our discussion with the CIO of Bluesky Equities, Kevin Brent, CFA where we talk about venture capital and asset allocation in addition to:
- Kevin’s early stages in his investment career
- Investing opportunities in the age of COVID
- His top investment themes and ideas
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Transcript:
Welcome investors to the Absolute Return Podcast. Your source for stock market analysis, global macro musings and hedge fund investment strategies. Your hosts Julian Klymochko and Michael Kesslering aim to bring you the knowledge and analysis you need to become a more intelligent and wealthier investor. This episode is brought to you by Accelerate Financial Technologies. Accelerate, because performance matters. Find out more at www.Accelerateshares.com.
Julian Klymochko: We are live. Kevin, how are you? Thanks for coming on The Absolute Return Podcast.
Kevin Brent: Hey, nice to be here.
Julian Klymochko: Great. So, let’s kick things off. Why don’t you start out just by telling our listeners a little bit about your background and how things came to be in terms of where you’re at right now, Chief Investment Officer, how that progressed and, you know, if someone was looking to follow the footsteps to get to that point you know, what sort of advice would you have for that type of person? Well, aside from getting lucky,
Kevin Brent: The advice I have is always get lucky because that is a very key component of everybody’s story when they are successful. But I actually got into finance a little haphazardly, a buddy of mine who is way smarter than I am wrote the first CFA exam and failed.
Julian Klymochko: That’s a tough one.
Kevin Brent: And so, I said, you know what? I bet I can pass it.
Julian Klymochko: Yeah.
Kevin Brent: And so, studied, past, got my first finance job as a mutual fund wholesaler.
Julian Klymochko: Oh, right. Smiling and dialling?
Kevin Brent: Exactly, like you know, 50 calls per day to advisors and brokers. And while I was completing my CFA, I wanted to get to the buy-side.
Julian Klymochko: Right, was that like a lifetime passion for investing or was that sort of, you know, a newfound thing once you did CFA level one, you’re like, wow. You know, I kind of like this stuff. You got to experience it selling mutual funds. And did that spark your interest in investing or is it something that you had prior to that?
Kevin Brent: That was actually what sparked my interest in investing. Prior to that I’d actually done sales. I sold Xerox copiers. I sold electronics at Future Shop for Best Buy, I guess if you have US listeners. And so, it was going through that, that I sort of learned, hey, this is finance. It’s math, I’m good at math, I’m good at understanding trends. And just a lot of the pieces that fit into being interested in investing, I was interested in.
Julian Klymochko: Right.
Kevin Brent: It was just sort of getting that exposure and then, fortunately, you know, getting the right opportunities to be able to progress through, you know, the sell side through corporate finance where I worked at one of the major railroads in that corporate finance department to you know, getting this job at Bluesky Equities where I started as an investor analysis.
Julian Klymochko: Right, bottom of the round.
Kevin Brent: Yeah, technically employee number one because it’s a single-family office. And so, it was just the family who was managing everything with retail brokers.
Julian Klymochko: Right.
Kevin Brent: And so, I sort of came on to help professionalize and have more of an institutional framework with how they manage their portfolio and started out again, just analysing their oil and gas stocks. Cause we’re here in Calgary where it was real estate and energy.
Julian Klymochko: Yeah and so those would largely be public oil and gas, equities?
Kevin Brent: Yes. For the most part you know, throw in a few mid streamers for diversification.
Julian Klymochko: And in terms of, what time was it? Was this, you know, like kind of in the heyday before we’ve had this brutal bear market in oil and gas?
Kevin Brent: It was immediately prior, so I started October 15th of 2014.
Julian Klymochko: Okay, alright.
Kevin Brent: One of the very, very first things that I did actually was put together an analysis of the different options we could use in order to hedge the significant energy portfolio.
Julian Klymochko: Right.
Kevin Brent: We still have it.
Michael Kesslering: Very good standing.
Julian Klymochko: Still in the spreadsheet, right. And I’m like, hey, this is how we can do it if we want to hedge with options. If we want to hedge with futures like these are the ratios.
Julian Klymochko: Right.
Kevin Brent: And you know, it was like the down case scenario, it was the December expiring auctions. And I had the scenarios for if it was below 75, if it was below 70. And if it was below 65 and, you know, WTI as of when those options expired was below 50.
Julian Klymochko: Right, so there wasn’t a lot of diversification within the portfolio?
Kevin Brent: No, not at all. And so, you know, one of the first things I did was go in and triaged the portfolio. Sell the names that look like they were headed for bankruptcy, or that had high debt ratios, or just you know, we trimmed it from over 60 different energy positions down to about 20.
Julian Klymochko: Right.
Michael Kesslering: Can you talk a little bit about how you, I guess the family office started moving towards private investments? Did you start out as an LP in private equity and VC funds and then start doing some direct investing or how did that progression evolve?
Kevin Brent: So, it started originally with the patriarch of the family and being involved in the energy sector in Calgary, he had access to both public, but also private investment opportunities. And so, it started through a private investing in a sector that he knew and knew well and had the opportunity connections to be able to get access to those deals. And so then from there and oftentimes, you know, the, obviously the pattern still continues to this day where, you know, you invest in private entity that entity grows and eventually either goes public or gets acquired. Right? It’s not dissimilar to the venture capital and model that exists today. And so, the other side of that is when I started, the president of Bluesky Equities was a very active angel investor.
Julian Klymochko: Right.
Kevin Brent: And so, he was one of the first members of the local Angel group here in Calgary had written a number of different checks into very early stage businesses. And so that was a much smaller part of the portfolio, but still and a number of those investments existed and that they had the familiarity with it. So, I was just sort of introduced by you know, sitting down and starting with this group, looking at this portfolio of hundreds of positions, both public and private and researching the backstory. Okay, how did you get involved? How long have you been involved? Let’s evaluate it now. What’s the prospects like? Let’s review the financials and the different disclosures that we would receive, because again, on the private side, you don’t have necessarily that same quarterly audited reporting, right? Some groups are great. They’ll give you a monthly update. Let you know what they’re doing. Haven’t asked for their investor’s, others drop off the radar. Oh, we haven’t heard from them for a year. And technically that’s the only legally required time that they have to provide you with information.
Julian Klymochko: Right, so the portfolio, when you get there, it’s largely public oil and gas, equities, some real estate. And then this portfolio of say, start-up angel investments like that, how did that develop over time? You indicated pairing down the oil and gas portfolio. Was there a strategy with respect to further diversifying and becoming more VC like instead of just oil and gas and real estate family office?
Kevin Brent: Yeah, definitely. To talk specifically to the sort of VC side of the portfolio is prior to my involvement, the model was the family would write a bigger check, take a fairly significant ownership, stake. Often a seat on the board, be fairly active in not necessarily operations of the business, but the strategic strategy and the guidance and everything else along those lines.
Julian Klymochko: Right.
Kevin Brent: However, the problem with very early stage like angel stage or seed stage, venture capital, is you don’t have a great win ratio. Whether they fail or they have to pivot the direction that they thought they were going, to changes, they require more capital. And when these businesses are stressed, it’s a lot more time, effort and energy from a board member than it is from a passive investor.
Michael Kesslering: You see all your time being spent on the losers and literally no time being spent on the winners were from a personal time allocation, I could see that being an issue.
Kevin Brent: Well that, and when you have a more material stake in the business, if all of a sudden, they can’t make payroll next Friday, well, you have a lot more of an incentive or requirement to throw good money after bad in order to try and salvage that original investment. And so, then all of a sudden, your six figures turn into seven and then, you know, you’ve really got to salvage it. So, what we wound up doing is pivoting the model. There’s a group down in the US called 500 Startups and their model was to take more of a portfolio approach.
Julian Klymochko: Right.
Kevin Brent: Right, you know, 500 checks. I think now they’re up to, definitely over a thousand.
Julian Klymochko: Got to change the name.
Kevin Brent: Exactly, but basically, it’s that. It’s extremely difficult at that early stage in order to determine what’s going to be a success, what’s going to be a failure.
Julian Klymochko: Right.
Kevin Brent: You know, the pedigree of the founders, the idea, all that kind of stuff. So, you just write a whole bunch of checks and allow your big wins to offset the losses. And so, we wound up pivoting to that model. And so now, from an angel stage, we write very small checks at least to start. Kind of like the Warren Buffett model, pre the internet, when, if you want to get the financial statements of a company, you had to own one share.
Julian Klymochko: Yeah, exactly.
Kevin Brent: And so, we kind of do the same thing on the private market.
Julian Klymochko: It’s like a tracking position.
Kevin Brent: It’s a call option on their future growth.
Julian Klymochko: Right.
Kevin Brent: And so, we have now written checks into 70 different early-stage companies with the intention to follow on in later rounds, if their business plan pans out in the way that was anticipated. So, the successful companies we provide, we will follow on for their series A and continue to provide capital, basically doubling down on our winners, even though oftentimes it’s more like four or five X down on the winners.
Julian Klymochko: Right, yeah. And speaking of that, you know, you’ve taken a look at, well, I’m sure much more than 70 invested in 70, probably looking at opportunities every day. What are you looking at these days and what really intrigues you in terms of, you know, growth, seed stage investing opportunities?
Kevin Brent: So, I mean, there’s all kinds of different opportunities that are out there. I mean, a few that are exciting is productivity software. So, everyone is looking to be more productive. The trend from COVID and work from home has really been upping the productivity of businesses, right? B2B, SaaS you know, obviously a crowded space, but if there are groups that are able to materially increase the productivity of employees or assets, that’s very easy to sell. It’s very easy to see the value that’s being created.
Julian Klymochko: Right.
Kevin Brent: As opposed to a lot of B2C consumer-facing products where you’re like, well, it’s a nice-to-have, and maybe a lot of people would say, this is nice to have, but I find that a lot difficult to get, you know, a lot of the insight into the, I don’t want to say the key performance indicators, but, you know, like the things like your cost of customer acquisition and your margins and all that kind of stuff, so that’s one area. You know, there was a pitch I saw today that was that was really cool. It was homeownership as a service. And so, it’s basically looking at these extremely expensive markets in Toronto, Vancouver, New York, San Francisco, London and coming up with a co ownership model so that millennials are able to get equity in a property without having to go the traditional route of having a significant down payment and getting mortgage and everything else along those lines, so, it’s kind of like rent owned.
Julian Klymochko: or is it like fractional ownership?
Kevin Brent: Well, yes, it is fractional ownership, but let’s be honest, like who has a mortgage here? We all have fractional ownership, right?
Julian Klymochko: Right.
Kevin Brent: In some way, shape or form, it’s just now instead of being split between you and the bank, it’s split between you, other investors who are also going to share in the appreciation or depreciation of your property.
Julian Klymochko: And they’re your roommates as well.
Kevin Brent: Their models looking at condos. So, it’s basically, if you were going to rent a one bedroom instead, put down a little bit and buy, you can’t see the air quotes here, but you know, you build equity with your rent in this case.
Julian Klymochko: Right, perhaps it could integrate into Airbnb or something of that nature.
Kevin Brent: Yeah, exactly. I mean, that’s one of the things that’s happened in a lot of major cities. They are restricting Airbnb rentals to only the primary occupants.
Julian Klymochko: Right.
Kevin Brent: So, all of a sudden, if you go, then you have a bunch of investors who were running ghost hotels. Well now they can’t do that anymore. So, this is a way that they would be able to still get have some type of co-ownership opportunity, but there’s still a primary occupant that’s in there.
Michael Kesslering: It’s almost a two-sided marketplace where you’re fulfilling a need, a home for capital, as well as, say, perhaps me being the renter, where I’m able to get some equity in a home. As well I assume there would be some synergies in terms of the cost of capital, right? In terms of the debt financing as opposed to myself going to the bank, I would assume I’m able to get a lower cost of debt in terms of mortgage rate.
Kevin Brent: The way that model works is that it’s not actually the occupant that needs to get the debt. So, they need to qualify for the debt or the mortgage. So, people who wouldn’t necessarily qualify for a traditional mortgage for a half million-dollar condo, and one of these expensive areas can still qualify because it’s institutional backers that have the 97.5% ownership of the condoms.
Julian Klymochko: Yeah, you’re seeing a lot of newer business models specifically in real estate this week, we saw Opendoor, go public through a special purpose acquisition company. We’ve seen Zillow do a bit of a pivot where, you know, they’re actually offering this home buying, iBuying service, which is interesting in and of itself. So, a lot of innovation happening in, you know, all these different sectors.
Kevin Brent: I’ll give a shout out to one of our investee companies, Honest Store, out of Edmonton that is doing, well not real time, but monthly property valuations through data harvesting of, you know, the city assessments, local trends, everything else along those lines. And they’ve just opened up BC as of this week. And so now anybody in Vancouver, Kelowna or whatnot can see not just what their neighbour’s property is assessed at, but what they think it would actually sell far.
Julian Klymochko: Right, so that’s similar to what Zillow was doing in the US with their Zestimate or whatever.
Kevin Brent: Exactly, Yeah.
Julian Klymochko: That makes sense. So, speaking of, you know, all these changes during COVID and really, I mean, how did that affect your due diligence process? Obviously, travel has been pretty restricted and, you know, visiting offices, when a lot of people started working from home. Were there any major changes for how you operate in terms of evaluating new investments?
Kevin Brent: I mean, not really aside from not having face to face meetings and doing them on zoom. For the most part you know, data rooms still exist and are shared digitally. In the technology or software space. You don’t necessarily go and verify existing assets in the same way that you might, you know a mine or a manufacturing facility.
Julian Klymochko: Or a hotel or something.
Kevin Brent: A hotel or something along those lines. So, you know, we’re still having the conversations digitally or virtually with all of the founders and everything else, but I haven’t really found that the workflow has been that impeded.
Julian Klymochko: Right.
Kevin Brent: You know, there might be some kind of like complaints in regards to being able to look somebody in the eyes right across the table and read people’s expressions and the minutia of how they act in order to gauge someone’s character. But part of the reason that we write very small checks, at least for these early-stage investments is so that if it does go to zero, if the guy turns out to not be quite the personality that we had thought, then it’s just sort of part of that loss ratio, Right? Is not something that I would have detected for sitting face to face anyway?
Julian Klymochko: Yeah.
Kevin Brent: I mean, maybe I’d like to think so, but there’s lots of high functioning sociopath that are out there searching for investment.
Julian Klymochko: Yeah, certainly. And with respect to your model, you know, investing in asset light start-ups with basically monthly in tangible assets, you know, actually physically visiting the office or, you know, wherever they’re at, probably isn’t as big of a deal as another industries, obviously. So that makes sense.
Kevin Brent: If they have an office at all, and they’re not all working from home.
Julian Klymochko: Yeah, Exactly. Or some sort of remote spread out workforce, which is becoming more and more popular these days. Pivoting to another area that was popular a few years ago coming back to life with a lot of different innovative business models would be cryptocurrency. I know you’re a big into the space a number of years ago. What are your thoughts on cryptocurrency these days? And a lot of the changes, what I find interesting is this whole defy movement and the notion of lending within the crypto space, which is really something that’s, that’s kind of growing now, but yeah. What are your thoughts on say, you know, Bitcoin, and any other happenings in the cryptocurrency space?
Kevin Brent: Well, I mean, the only thing that we’re in currently involved in is we have a long position in Bitcoin.
Julian Klymochko: Okay.
Kevin Brent: I’ve actually found a fair bit of the deal flow has dried up. And part of that is, you know, the decentralized finance movement. Great for consumers, great for users, terrible for investors, because the whole point is to cut out all of the middlemen.
Julian Klymochko: That’s true.
Kevin Brent: Who are scraping basis points. If that is your model and the whole point is to decentralize it. Well, then, you know, if you are purchasing the stock of a corporation, then that’s the whole point is to not make money, but to free you from all of these entities that do make money off of you.
Julian Klymochko: Institutional lenders, they’re trying to cut them out.
Kevin Brent: Exactly and so it’s difficult from, you know, again, an investor standpoint. And so, I mean, I’ve been saying for a while that the real big opening up of this is going to be when people can interact with the blockchain without realizing that they’re interacting with a blockchain.
Julian Klymochko: Right.
Kevin Brent: Right, still to this day, there’s too much terminal access, right. Like an easy app. You know, they exist now to buy and sell various cryptocurrencies, but when it comes to the more advanced facilities that a lot of these decentralized finance applications want to do, you still need to understand how to code a smart contract or at least audit it or et cetera, right.
Julian Klymochko: You need to be very technically proficient, to be able to be comfortable with that aspect.
Kevin Brent: And the whole aspect of broad adoption and truly decentralizing finance requires broad adoption, which means your grandmother needs to be able to borrow, you know tether instead of USD or whatever it is that that you’re looking at do. So, you know, I think it’s exciting. It’s going to take a while, like a lot of emerging technologies, right? Like if you look again at all of the hype that stemmed from the internet, which easily took 10 years to mature and it’s still maturing.
Julian Klymochko: Yeah, exactly. And even go back 20 years ago when there’s good internet infrastructure, however, you got to be crazy to put your credit card information and, you know, think that it won’t get stolen. Now, these days, you don’t think twice with respect to ordering something on Amazon or eBay or even some website that isn’t nearly as popular. You just put in your credit card details and that’s fine, right? So, it really took a long time for that trust to develop. And that’s how I kind of see, you know, Bitcoin and different applications developing. Bitcoin has been out there for about 10 years and still a lot of people still skeptical, but each year that it is out there without controversy and continues to work as it’s supposed to, like the internet just continues to grow, establish that credibility, and then more and more people sort of get comfortable with it and are open to utilizing it. So, speaking of that you mentioned holding Bitcoin.
Kevin Brent: Yeah, what’s interesting about the internet is that it took a centralized protocol.
Julian Klymochko: Right.
Kevin Brent: In order to get everything on the internet to be able to communicate with each other seamlessly, Right? And that decentralized protocol was basically a layer upon which all the users and hardware were able to connect and all of the creators and software we’re able to communicate to them. We don’t have that in the cryptocurrency space or the blockchain space.
Julian Klymochko: Right.
Kevin Brent: We’ve still got a number of competing infrastructure layers, and oftentimes they are unable or it’s incredibly difficult for them to communicate between them. And so, you know, that’ll be one of the aspects of the killer app, right. Is whenever all of these different groups can agree upon something. It’s almost an anti-commercialization movement. The web was a commercialization movement. Everyone wants to make money off of this.
Michael Kesslering: Its libertarian bent, right? To the crypto side. It attracts the libertarians by nature, which don’t want that centralization, right?
Kevin Brent: Yeah, exactly. And so, you know, it’s interesting to think without that sort of profit motive. It’s a lot more difficult for all of these disparate groups to be able to you know, come up with an agreed upon framework.
Julian Klymochko: Right, yeah. Where you require that consensus. It’s really hard to, you know, further develop things within that sort of framework. The Bitcoin blockchain is kind of set and making any sort of modifications. You have all these weird forks and things of that nature. So, it has its positives and its negatives in the way that an infrastructure was set up. But one thing that I find fascinating is the institutionalization in terms of ownership of specifically Bitcoin, we see that Grayscale Bitcoin Trust, which is the publicly traded, GBTC. Roughly $4 to $5 billion dollars’ worth in that, which is a significant portion of the outstanding Bitcoin currency. And another very interesting move that we saw recently was a corporation called MicroStrategy. They’re publicly traded, they put about a four to $500 million dollars, so their balance sheet into Bitcoin because they’re uncomfortable holding Fiat currency. There, you know, they weren’t liking all the fiscal and monetary stimulus happening worldwide, and they highly concerned about potential hyperinflation and they very clearly outline their thesis with respect to holding Bitcoin. And so, I think more and more institutional investors as we go on, they’ll become more comfortable and start making those allegations. You guys are long. We’d like to hear, you know, your thesis with respect to being long a Bitcoin here.
Kevin Brent: Well, I mean, it does come down to the reflation or inflation trade.
Julian Klymochko: Right.
Kevin Brent: Right, and you know, Bitcoin like gold is only a hedge against your Fiat currency, your local currency. Right, and I know, I’ll start almost on the counter-argument that Japan has been printing money for years and years.
Michael Kesslering: 30 years.
Kevin Brent: Yeah, has not been able to create inflation despite their central bank owning, you know, 70% of the bond market. I don’t know if that’s the exact amount, but you know, an incredibly large amount.
Julian Klymochko: Even equity ETFs now that they’re buying, that is crazy.
Kevin Brent: Yeah, right. And so, there’s a few different trends that are a little bit worrisome and that are changing that I think could actually create more inflation in the future as opposed to what’s happened in the past. You’ve got this reassuring of manufacturing with the “trade war between the US and China.” Because there’s been a long-term disinflationary effect of being able to use lower income countries for labour and production in order to manufacture goods for less.
Julian Klymochko: Right.
Kevin Brent: Which is disinflationary. The second thing, which we haven’t quite seen yet, I thought we were going to see a turn here with COVID, but it hasn’t happened, is Venture Capital. Massive Venture Capital firms that are subsidizing new products.
Julian Klymochko: Well, this is SoftBank vision fund.
Kevin Brent: Right, and that are allowing these companies to operate at massive losses because they’re not earning the returns that are required in order to be profitable. Well, that’s disinflationary, right. If Uber, isn’t turning a profit it’s because they aren’t charging enough.
Julian Klymochko: Yeah, exactly. We’re getting a very cheaper rides.
Kevin Brent: Exactly and so the trends currently continuing, you know, and I’m kind of involved in that, like, you know, helping early stage companies that are currently operating at a profit, reminding them, you know, with money to increase their revenue, even though they’re burning cash.
Julian Klymochko: Right.
Kevin Brent: But on the flip side, once you get to a certain level of scale that cannot continue.
Julian Klymochko: Right, but what I find fascinating is that in the current environment, if we look at, you know, what stocks are doing well, for example, the Snowflake IPO just yesterday. They’re growing massively, but losing a ton of money on the bottom line and investors just between the last, private rounds six months ago. Where the public equities trading now, one day after the IPO, it’s up 5X. So clearly public equity investors. It’s not just VCs are willing to subsidize these new growth firms in order for them to grow their businesses.
Kevin Brent: Which you know, I guess it goes back to the state of primary versus secondary markets and providing capital. Right, so when we’re investing in venture capital, it’s always on the primary side, it’s going into treasury in order to fund the competition.
Michael Kesslering: Not taking out shareholders.
Kevin Brent: Exactly.
Julian Klymochko: Meaning no one selling their shares to you guys.
Kevin Brent: Exactly, right. Versus, all transactions that occur on a stock exchange. Like if you’re doing your discount brokerage are all secondary.
Julian Klymochko: Yeah, except Tesla with their $5 billion dollar at the market offer.
Kevin Brent: Of course, and you do have secondary, like secondary offerings and companies can raise capital through investment banks, et cetera. It happens, don’t get me wrong. But for the most part, retail investors are not participating in that.
Julian Klymochko: Right.
Kevin Brent: And IPOs are the secondary offerings. Right, they just don’t get access too much.
So, they have to buy once the stock is free trading, and so if there’s limited demand, you’ve got this order book of institutional investors that are going to, you know, maybe put an ask in for a double, well guess what it’s going to trade at, right?
Julian Klymochko: Right, yeah, for sure.
Kevin Brent: And so, if you have purchasers that aren’t price discerning or value discerning.
Julian Klymochko: central banks for example.
Kevin Brent: Yeah, exactly. And lots of cheap capital, then things can definitely get bid on.
Julian Klymochko: Right, yeah. Say SoftBank Vision Fund. They seem to be wanting to pay top dollar. If we look at what happened with WeWork and some other start-ups that they got involved with that didn’t turn out too well, they ended up paying, you know, basically too high evaluation.
Kevin Brent: Yeah. So, I mean like right now this last six months of performance in the stock market has almost entirely come from large cap growth.
Julian Klymochko: Oh, for sure.
Kevin Brent: And so that makes me think maybe I should start checking out some small cap value.
Julian Klymochko: Right.
Kevin Brent: And try and get ahead of any type of reversal on the large cap growth.
Julian Klymochko: For sure.
Kevin Brent: And you know, there is still a place for you know, cash flowing, dividend paying companies.
Michael Kesslering: Boring companies.
Kevin Brent: Yeah, boring companies. And you know, interestingly enough, on the private side, that’s another area where we’re seeing value. You’ve got a lot of boomers that are retiring, that have been operating a business. It’s not huge, it’s just got a little moat, couple million in EBITDA, and there’s no market for that because there’s very few micro-cap PE fund that are out shopping.
Julian Klymochko: Plus, you need an operator if they’re looking to retire.
Kevin Brent: Exactly, so if you get a few partners or you have depth of people that you will be able to bring in, or at least just do the HR search function to be able to find somebody that has the skillset. All of a sudden you can pick up these companies for three, four times cash flow.
Julian Klymochko: Right. Probably with seller’s note as well.
Kevin Brent: Not at three times revenue. Not at 182 times revenue. Three times cash flow, Right? You drop a little bit of leverage in there and you can get your equity back in dividends, 18 months, two years.
Michael Kesslering: That is leverage buy out model that worked for KKR back when they first started, Right?
Julian Klymochko: Still Works.
Michael Kesslering: Yeah, any firm that tries that. I mean, that’s when those firms saw their best returns, was those boring investments, industrial companies that they can lever up a little bit and…
Julian Klymochko: Pour a lot.
Michael Kesslering: Yeah pour a lot.
Kevin Brent: I mean, the other side of that return though, it’s also what you paid for it, right.
Julian Klymochko: Exactly.
Kevin Brent: There’s so much private equity capital in dry powder, that is out there that a lot of these larger firms are getting bidding wars between different private equity funds.
Julian Klymochko: Oh, for sure.
Kevin Brent: And so, all of a sudden, they’re paying 12 times, 14 times underwriting, a whole bunch of growth.
Julian Klymochko: Well, that’s basically which private equity firm is willing to accept the lowest IRR for that investment.
Kevin Brent: Yeah.
Michael Kesslering: Bidder curse.
Kevin Brent: That’s actually one of the reasons we haven’t been allocating to private equity funds. Aside from a couple of our partners that are running these microcap funds.
Julian Klymochko: Some are self-proprietor deal flow that isn’t necessarily subject to a widely shopped potential bidding war between firms.
Kevin Brent: And that also provides us with co-investment opportunities too.
Julian Klymochko: Right.
Kevin Brent: Right, and so all of a sudden, we can pick up a bigger piece of some of these companies, but they’re already tiny. So, it’s a lot more appealing and from just a recycling of capital standpoint, right.
Michael Kesslering: So, in terms of what you do, it really straddles a lot of different buckets. You know, it’s not just playing bit all VC investing. It’s not just plain vanilla private equity investing. What I find interesting about what you’re doing at Bluesky, is it really across a bunch of different spaces.
Julian Klymochko: Asset allocation?
Michael Kesslering: Yeah.
Kevin Brent: I describe myself as a completely unconstrained portfolio manager.
Michael Kesslering: Which is exactly what any portfolio manager dreams of, right? Having the broadest mandate possible to generate returns. On that similar vein and do seem quite contrary and willing to not go with whatever is the sector du jour and things of that nature. Who are some of the investors that you really admire, you really like to follow in terms of, you know, generating your own strategy?
Kevin Brent: You know a lot of the guys, how do I put it? That, I mean, the timing was right. But that found something that was a secular trend that was occurring and we’re able to completely capitalize on it. Bill Gross and PIMCO, he rode this multi decade bull market in bonds.
Julian Klymochko: His entire career.
Kevin Brent: Yeah.
Julian Klymochko: It’s like it started when he started and retired and you know, the rates went from 15% to sub-zero and you mentioned the notion of luck and there it is persona.
Kevin Brent: A hundred percent, right? Recognizing and being able to ride it. And I mean, being good at it, like for a long time, he was, the best bond fund, you know, on the planet effectively, right. You know, Jim Simons and Rentec with the first sort of quant fund. Now there’s a bunch of guys, anyone who’s come out of data science, well, not anyone, but, you know, I’ve seen so many different pitches of people that have an algorithm, but being the first, you compound at 60% a year for 20 years and that’s generational wealth. Right. you know, Warren Buffet and value. I mean, Warren Buffett, everyone says Warren Buffet, there’s something to be said for each of these areas. And they all focused on one versus what you said before, unconstrained and from a prudential standpoint, I need to have exposure to all the asset classes just about. Struggling with fixed income, Although the one area that we’re exploring right now is actually directly buying Chinese government bonds on the fixed income side.
Julian Klymochko: What is the Thesis behind that?
Kevin Brent: So, a couple of things. One of the few large bond markets in the world that still offers positive real returns. They’ve come out of the coronavirus pandemic having printed far less money.
Julian Klymochko: Right.
Kevin Brent: And so, you combine the lower money growth with higher yields and it’s pretty bullish on the Yuan or the Renminbi.
Julian Klymochko: Right.
Kevin Brent: And then secondly, of course, you’ve got an actual yield.
Julian Klymochko: Right.
Kevin Brent: You do get paid.
Julian Klymochko: Yeah, it’s a currency play combined with real interest rates being positive there, which in most places in the world, if not nominally, negative than, you know, say in US and Canada certainly negative on a real basis.
Kevin Brent: And you know, there’s still, if we do wind up seeing, you know, interest rates across the globe go to zero, well, you’ve got a lot more room for duration falling from call it 3% to zero versus calling from 50 beeps to zero.
Julian Klymochko: But do you think there’s room in a portfolio for that currently say being long 30-year treasuries, just, you know, as a potential hedge?
Kevin Brent: We’ve been trading in and out of them all year, right. so effectively equity markets have gotten too high or we’ve seen a few different just random spikes in the US 30 year that have come up to 1.7, 1.8. We’ll pick it up, just sell it again at 1.3, buy it again at 1.7, been in and out of that trade properly three times this year.
Julian Klymochko: So, it’s kind of a range bound in terms of the yield on the third year.
Kevin Brent: And so, you know, the question of which direction it’s going to go now that things have sort of, you know, settled. I mean my thesis, Oh I would think is that if we do get another significant equity market correction, then 30 years probably come, the yield probably comes down as the price comes up. So, there might be one last trade in there, but it’s a little more worrisome now than it was, you know, when we were picking them up in February in anticipation for the equity market correction.
Julian Klymochko: Yeah, there’s a bit more of a cushion there in case things didn’t go your way. And with respect to interest rates going up, you know, we don’t make or trade that people have been predicting for a long time, but thus far, you know, how low can things go or yields go negative. So, there’s effectively no limit. You see it in Europe and Japan, negative yields. I haven’t seen it in North America yet. Perhaps it may be slightly on the short-term Treasury when things were really squirrely back in March, but certainly not on a sustained basis. Do you think that could potentially be in the cards?
Kevin Brent: Oh, for sure. To go back to our previous conversation around Bitcoin and the different you know, aspects that could cause inflation or call it, reinflation trends that are occurring. You know, the whole money printing, universal basic income is something that’s now on the radar, at least here in Canada on a federal level.
Julian Klymochko: For sure.
Kevin Brent: And again, the premise of economics is that money is something that is exchanged for goods or services, and there is value. And that’s how you come to price discovery is this haircut. I value at $30 dollars, even better haircut that’s 60. It’s not worth it for me, right? Everyone makes those decisions. And so, they’re partying with some of that money in exchange for providing something. If all of a sudden, you’ve got a massive chunk of the population, that’s not providing these goods or services, that is inflationary.
Julian Klymochko: Right.
Kevin Brent: And so, you know, you do wind up running a fairly significant risk that this money that is coming into the system, it’s going to bid up. The scarce goods and services that are being provided.
Julian Klymochko: Right.
Kevin Brent: Right.
Julian Klymochko: That’s interesting. Because over the podcast, we’ve discussed a number of different asset classes, whether it’s a VC type investments early stage, in addition to a small company leveraged buyouts which are obviously you’re looking to produce market beating returns out of those. Touched on Bitcoin, which is more of a purchasing power maintenance type play. And then on the fixed income side, duration play more of an insurance type trade. So, if you were to summarize our asset allocation framework, how would you discuss it? What’s, the kind of underlying goal. We see all these different buckets with each one have a different goal. Is your overall framework, just, you know, that diversification of uncorrelated return streams are, really, what are you looking to achieve?
Kevin Brent: Yeah, I mean. you can think of it like an all-weather portfolio. And the purpose is, again, like I can talk about inflation or tech bubbles, or all this kind of stuff, but actually calling the top is also the Widow maker trade, right? And so having again, diversification, the whole point is to not be too levered towards any one specific outcome.
Julian Klymochko: Right.
Kevin Brent: Right, and so what we try and do, and the aspect of hedge fund allocations, which our primary focus there is on uncorrelated returns.
Julian Klymochko: Right.
Kevin Brent: So, who knows if it’s going to go up or down with the market and it doesn’t matter, the whole point is just absolute returns, I would say, right? And so really that’s what our shop is, is trying to do over the medium to long term.
Julian Klymochko: Right.
Kevin Brent: Is generate absolute returns without taking undue risk in a portfolio context, even though we’re taking lots of risks on every individual trait, because you have to, if you want to make money. The point is that if you’ve got a couple of losers, you’re going to have a couple more winners and hopefully you’ve appropriately sized them. So, the winners offer more absolute return, right?
Julian Klymochko: So, a lot of small bets that sort of upset.
Kevin Brent: Yeah.
Julian Klymochko: As long as you have more winners than losers, you guys would be good.
Kevin Brent: Exactly. And that’s where the sizing comes in, in terms of the convention too.
Julian Klymochko: For sure.
Michael Kesslering: For example, when you mentioned the VC side, so, and the issues, say with SoftBank and world being a wash in VC Capital where it is inflationary by nature, you offset some of that risk with say something such as your Bitcoin allocation, which you find areas within your portfolio to hedge off those bets. As well as you’ve mentioned, your Chinese bond allocation, where that’s really a view on a relative view of Chinese bonds versus a US bonds, it’s really kind of brings back to when you first spoke about your very first stays at Bluesky where you were just looking to hedge off the oil exposure in the portfolio. It’s become from an outsider’s perspective, it’s become a lot more sophisticated, but the underlying goals still somewhat remain the same.
Kevin Brent: Absolutely, and again, working for a single-family office. One of the most difficult things when I first started is trying to move from the get-rich mindset, which is what successful entrepreneurs that have made enough money to have their own office to manage their assets still want to do to a stay rich mindset where we’re still able to indulge ourselves in highly risky investments from a portfolio context that isn’t risky…
Julian Klymochko: As a whole.
Kevin Brent: As a whole or you know what I mean.
Julian Klymochko: Right.
Kevin Brent: Less risky
Julian Klymochko: For sure, yeah. Mitigating the risk. One thing that I wanted to touch on and, our mission at Accelerate, is to democratize alternatives. You have discussed in the past the notion of democratizing Venture Capital. How do you view that playing out? What’s your thesis behind that potential there?
Kevin Brent: Well, you know, talking about libertarian bents. I’ve always struggled with the whole aspect of accredited investors.
Julian Klymochko: Yeah, me too.
Kevin Brent: And really limiting people’s access to these asset classes that pensions and foundations.
Julian Klymochko: Making the rich richer.
Kevin Brent: Yes, well, I mean, again, unless you have a pension and you were invested in it, right. But for, you know, the general public who have an advisor, or that’s only putting them in mutual funds or ETFs prior to, you know, accelerate your options were stocks and bonds, maybe commodities, right?
Julian Klymochko: Triple leverage ETFs now, which for some reason, anyone can buy, yet they can’t allocate to say like a low risk hedge fund or something like that.
Kevin Brent: I can blow all my money on Tesla all if I really want to, but, you know, putting it in a hedge fund, no, not allowed because of the lack of liquidity, right. At least the Tesla call, you can close your position tomorrow, right. and so, I’d love to see more access to venture capital. You know, one of the things that I’ve thought about exploring is you know, coming up with almost like a closed end fund for venture capital that is index traded to get around the aspect of liquidity.
Julian Klymochko: Right.
Kevin Brent: Obviously, you would trade at a discount to nav. I would imagine unless it’s super-hot or there’s some type of news on the underlying companies. But one of the issues that there is that in the Venture Capital, private company space, these companies often want to operate in stealth mode and not have their financials released, not have that much information out right there. And if you’ve got a small closed portfolio, that’s publicly traded, there’s certain disclosures that you have to have. And if all of your value is coming from investments in the underlying companies, you’re going to have to provide some information there in order for people to be able to come up with a trading value because unforeseen the nav in that traditional context, doesn’t get mark to market very often.
Julian Klymochko: Right.
Kevin Brent: The only time that you revalue a private security is if there’s some type of you know, liquidity event or if they raise more capital at a set valuation or what have you, right. and so, a really successful company that’s growing within cashflow might not need to raise capital for a number of years. It’s worth, you know, 5X, 10X, 20X, more than what you originally invested in, but you don’t have any real grounds to be able to mark that up, right. So, you’d have to disclose that to investors. And in which case maybe the underlying company doesn’t want that information out there. So, it does offer a little bit of a conundrum, or it limits your investible universe only to companies that are comfortable having that information disclosed.
Julian Klymochko: Or companies in which you can buy their shares either from them or from former employees. Because I know a lot of private CO’s don’t like that either, right. Which probably ties into your notion of not wanting to disclose certain amount of information.
Kevin Brent: Yes, exactly. So, you know, obviously there’s been a few crowdfunding platforms that are trying to allow individuals to write small checks, but in aggregate you know, raise reasonable bounce. The problem of course is the size, right. People can only put 5,000 in.
Michael Kesslering: Yeah, I thought it was between 5,000 and 10,000, but this was years ago when I was looking at this.
Kevin Brent: But then the companies can only raise a half million and it’s like, well, you’ve got a pretty small project if you’re only limiting it to five hundred thousand.
Julian Klymochko: Right.
Kevin Brent: There is certain elements of scalability that you just sort of struggle with, but at the same time, if you are going to go for a $10 million dollar series A and you got to take it in $5,000 dollars bites.
Julian Klymochko: That’s lot of checks to collect.
Kevin Brent: That also causes problems.
Julian Klymochko: Sure, yeah. Interesting, so Kevin, I want to put you on the spot here. If you could to hold one investment for the next 10 years, what would it be?
Kevin Brent: Oh, let’s…
Michael Kesslering: Public or private? I think.
Julian Klymochko: Yeah, any asset.
Kevin Brent: I’d probably stick with Bitcoin from the standpoint. So again, to go back to that whole inflation conversation, we were having. Might not happen for a few years.
Julian Klymochko: Right.
Kevin Brent: But might take two, five, I’d probably take the under on 10 though. And so, from that standpoint, and just again, the level of knowledge surrounding Bitcoin cryptocurrency and the amount, the ease with which people will be able to acquire it and whether it will become more of a staple. I think boast pretty well for where it’s value will be 10 years.
Julian Klymochko: Right, cool. Well, thanks so much for coming on the podcast today, prior to letting you go, is there anywhere where investors can follow you? On Twitter, any social media, anything like that, or you keep pretty secret?
Kevin Brent You know, so Bluesky equities has a one-page website.
Julian Klymochko: Oh, okay. One of those.
Kevin Brent: It is just the landing page.
Julian Klymochko: Right.
Kevin Brent: To be honest, we just created our LinkedIn last month.
Julian Klymochko: Okay.
Kevin Brent: So, we’re finally getting with the times. Flying under the radar has often been how we’ve managed just so that we don’t get too many unsolicited pitches.
Julian Klymochko: For sure.
Kevin Brent: Following Bluesky Equities on LinkedIn would probably be the best way.
Julian Klymochko: Okay, cool. Well, there you have it folks. Kevin Brent, Bluesky Equities. Thank you for joining us on the podcast.
Kevin Brent: My pleasure.
Julian Klymochko: Alright, cheers everybody.
Thanks for tuning in to the Absolute Return Podcast. This episode was brought to you by Accelerate Financial Technologies. Accelerate, because performance matters. Find out more at www.AccelerateShares.com. The views expressed in this podcast to the personal views of the participants and do not reflect the views of Accelerate. No aspect of this podcast constitutes investment legal or tax advice. Opinions expressed in this podcast should not be viewed as a recommendation or solicitation of an offer to buy or sell any securities or investment strategies. The information and opinions in this podcast are based on current market conditions and may fluctuate and change in the future. No representation or warranty expressed or implied is made on behalf of Accelerate as to the accuracy or completeness of the information contained in this podcast. Accelerate does not accept any liability for any direct indirect or consequential loss or damage suffered by any person as a result relying on all or any part of this podcast and any liability is expressly disclaimed.
