Undressed Window Barrons
Click on their site and watch these money managers at
work
AN INTERVIEW WITH DONALD L. LUSKIN, H. DAVIS NADIG
AND MAURICE WERDEGAR ~ OpenFund is a $28 million mutual fund
that runs stark naked. Window dressing is impossible. That's because the
South San Francisco-based manager of the fund, MetaMarkets Investments,
posts the entire portfolio on its Website, www.openfund.com, along with
every trade -- and even a constant Web-cam view of the trading desk. Most
money managers try to disguise every move. But OpenFund's three
managers, Luskin, Nadig and Werdegar, argue that other mutual funds are
really cloaked in the Emperor's New Clothes. In the following Q&A, the
MetaMarkets team tells us why their style of investment management is more
than just an attention-grabbing gimmick. They say their constant interaction
with customers has contributed to OpenFund's winning streak of 157%
gained since its admittedly recent start on August 31, 1999.
-- Bill Alpert
Barron's: You're doing an educational public service, but do you have a
self-sustaining business here?
Luskin: What we're building here is an Internet company, not just a mutual
fund. Our ambitions are larger than just managing a mutual fund.
Q: Whisper your grandiose ambitions in our ear.
Luskin: We don't have a grandiose ambition. You can understand our
business as a media business that provides investment information and insight,
and the ability to participate in an investment process. Many customers, we
expect, will never own shares of the fund. So we see ourselves as performing
a valuable online service that is actually a unique form of financial journalism.
Q: In which you put your money where your mouths are.
Luskin: Putting your money in -- you could say -- is the ultimate form of
interactivity. We take that very seriously. Not only can a holder in OpenFund
share his fortunes directly with our own fortunes-we are all invested in this,
too -- he can also share his ideas with us. This is a two-way medium: not
television, but the Internet.
Q: Why should a lurker pay in, when
they can immorally watch you and ape
your moves?
Nadig: We know and expect that people
will come and participate and be part of our
community. And because it is a community
of ideas, they will get their own ideas. If
somebody is managing his own account and
is just using us for another source of ideas,
that's great. We obviously think that over
time people will see what we are doing and
think we are doing a professional job and
they will become shareholders. And we
feature advertising.
Q: Tell us about your backgrounds.
Luskin: I was vice chairman of Barclays Global Investors [formerly Wells
Fargo Nikko Investment Advisors], which is the world's largest indexer. It
was a great experience because it was an opportunity to manage literally the
world's most complex and largest-scale investment process, and work with
the world's most sophisticated clients -- who are corporate, governmental
and university pension funds, endowments and central banks, governments.
And you really couldn't ask for a greater contrast between what Dave and I
were doing there and what all of us are doing here. It is going from a
quantitative indexed environment to an extremely active environment. And
from an institutional-investor customer orientation to a retail customer
orientation.
The Internet has made it possible for businesses to deal with thousands and
thousands of retail customers with the same intimacy and empowerment that
businesses used to reserve for their biggest institutional customers. What
most customers want is information. In the old economy, the only way you
can get people information is by a traditional sales relationship, where you
have a large customer covered by a big institutional salesman who is highly
compensated. Now in the world of the Internet, you have a low-cost way of
providing all kinds of information on demand. You can see that by our
showing you what's inside the fund, by letting you see tick-by-tick every
trade we've made with the money you've invested -- that is, giving our retail
customers actually better, more realtime, more immediate access to
information, than Wells Fargo/Barclays institutional customers ever had. We
are on a crusade. We are transforming the retail customer's landscape.
Q: What's the benefit to a mutual-fund investor of your fishbowl style of
operation?
Luskin: Look at the position a mutual-fund investor is in right now. The only
way he can pick a fund is by looking through the rear-view mirror. What you
need to make a competent decision about how to invest, when to invest,
when to disinvest, is to understand profoundly what the investment
philosophy is, what the investment process of your fund is. The same kind of
thing you would want to understand if you were marrying a personal financial
adviser. You can go to our site and, using our discussion board and our
trading archive, you can see every trade we've ever made since the beginning
of the fund. You can see every idea we've ever had, every statement we've
ever made -- you can find out exactly what makes this clock tick.
We just don't think investing ought to be like open-heart surgery, where you
have to anesthetize yourself and go to sleep during the process. That alone is
a great reason for doing what we are doing. But more importantly, this is the
way to achieve superior performance. The reason mutual funds underperform
the market year in and year out is that they are all playing the same old tired
games, using the same old tired research. How could they possibly expect to
win, if you don't do something daring, something original? If they don't look
for insights in different places?
We are definitely looking in different places. We are listening to unique forms
of investment-insight input, through a unique medium. We are the first
investment managers to say, "We are going to listen to the whole world, not
just that little five-square-mile block at the lower tip of Manhattan." And I
think the results speak for themselves.
Q: What about the problem of
people seeing your trades? We see
Warren Buffett this past week
arguing with the SEC over which
of his cards he's got to turn over
through public disclosure. A lot of
institutional investors are obsessed
with using surreptitious ways to
put on and take off their positions.
Luskin: The problem with Buffett
and all these mutual-fund complexes
is simply that they are giants. You can't disguise the fact that a giant is
tromping through the forest and flattening trees everywhere he goes, just by
asking everyone to whisper.
Q: What happens when in the fullness of time you are running $1 billion
and making 50,000-share block trades?
Luskin: If we are fortunate enough to be trusted with that kind of money to
invest, I will be delighted to revisit that question at that time. Right now, it
would be a dream come true to have that kind of problem.
Interview, Part 2
Q: Tell us about some of the new sources of ideas and information you
are exploiting.
Nadig: The first time I remember this happening was with a small company
called Harris & Harris Group, here in New York. It's like CMGI Inc. or
Safeguard Scientifics. A publicly-traded venture-investment company. That is
a company model we have a lot of belief in.
So the community at large knew that was a model we were interested in, and
a user basically just pointed out to us that this stock existed. And so we did
what any investment manager does with a new piece of information: We
checked it out. We did the research.
Luskin: I would like to give you an example from a whole different
dimension. Our investment process really has basically three insight sectors.
The first is our message boards. The second is what I will characterize as
strategic sources. The third is actually the market itself.
Traditional Wall Street securities analysis is all oriented toward treating stocks
as though they were bonds. Turning them into little spreadsheets, where you
can forecast, to the ninth decimal place of accuracy, what General Motors'
earnings are going to be in the fall of 2007. We are in a new world now. That
is not the way to think about stocks anymore. You are not trying to eliminate
all uncertainty and all risk. What you are trying to understand is: How do
stocks operate, not as bonds, but as options?
Now, what is the dynamic of an option? The dynamic of an option is that the
most you can lose is the little bit you invest in it at the start. But if it gets "in the
money," you can make multiples of your original investment very rapidly. And
in order to capture the upside, you have to understand the big strategic waves
that are washing through the economy.
So, we want to get ahead of that wave. We want to understand the strategic
currents that are coursing through the market. And there are many ways to do
that. Probably the last place you would look for that kind of information is the
financial press.
Q: I resemble that remark.
Luskin: It is in the natural Darwinian dynamic
that precious information is always going to want
to hide itself, it's so valuable. You have to look at the work of the world's
futurists, the people everybody else is laughing at. We work with Nicholas
Negroponte of the MIT Media Lab. Back in 1986 he posed a question to
one of the classes at the Media Lab. The question was: "What would happen
to the world -- what would happen to technology, to business, to culture -- if
all of a sudden bandwidth was infinite and free?"
If you were listening to Negroponte then, you would have put yourself in the
position to see very early what was going to happen with the companies that
were going to make that possible. You would have been able to anticipate the
Internet, you would have been able to anticipate all the pure bandwidth plays
like Global Crossing and Qwest. You would have understood the dynamics
of the networkers like Cisco and Juniper, the equipment manufacturers like
Nortel and Lucent. That whole thing. From the price collapse of bandwidth.
That's the level of abstraction you need to think about these things now. And
what that means is that you have to clear your mind of all the green-eyeshade
stuff. You have to not worry about trying to out-forecast Qualcomm's
earnings next quarter. Just leave that to Merrill Lynch. You have to think very,
very strategically about these things.
Q: What, specifically, helps you think strategically? Tell us about your
futurist think tank.
Luskin: Nicholas Negroponte is one [member]. Another is Reuven Brenner,
a Canadian economist and professor at McGill University in Montreal. He is
as unconventional and iconoclastic in economics as Negroponte is in
technology. Nolan Bushnell was the founder of Atari Corp. and the inventor
of the video game. Probably no other human being has done more to create
the ubiquity and pervasiveness of the computer in modern life. There is no one
with starker insights about what the world is going to look like with pervasive,
low-cost computing. Finally, we've got the former chairman of National
Semiconductor, Peter Sprague, and telecom heretic David Isenberg.
Q: How does your think tank operate?
Luskin: What you see is what you get. The discussion boards on our
Website are the entire content of the think tank. It is not a committee that
meets in a traditional sort of investment-committee sense. It all takes place,
asynchronously and virtually, on the discussion boards.
Q: Maybe we're being boorish, but how have these people made you
money?
Luskin: They make you money by sensitizing you to the long waves. Living in
the markets tick-by-tick, you get a kind of foxhole mentality and myopia, a
perpetual state of whiplash.
Q: What particular ideas have they given you?
Luskin: You are asking the question the wrong way. These people aren't in
the business of recommending stocks.
Nadig: I look back to a revelation we had over the last three months about
the importance of identity security on the Internet. It is a topic that has been
discussed in our think tank pretty much since the day we turned it on,
between all the members of the think tank and people from the community
who work in security companies or who work at media companies. It made
us very alert to the fact that this was a real and tangible issue, so that people
who were going to solve problems in that area were going to be able to do
very well by us.
Luskin: We get some very pointed, very aggressive takes from visitors --
some of whom identify themselves as shareholders, some don't. When we
started this 5 1/2 months ago, that scared me a little bit, when I first realized
that I was going to have to publicly take a lot of heat from a customer for
holding a position that he thought we shouldn't hold. In this case, the position
was showing a loss. It was America Online. One of the very first messages
we got was a very harsh criticism saying, "This is a tired, burned-out
company. You're supposed to be New Economy. AOL is the old part of the
New Economy. Why do you hold this stock?" And I suddenly realized why
no one has ever done this before.
It is a great luxury to be able to keep yourself in splendid isolation and not
have to listen to your customers. But great businesses, like Nordstrom, get
built by people who are willing to listen to their customers and build great
loyalty franchises based on that. What we ended up doing with AOL is,
instead of being cowed by the first flame we got, we thoughtfully responded
and explained why we were holding it. Our response was, "We are here to
listen to your opinions, but we are going to get positive votes and negative
votes, and we are going to have to decide. We are running the fund." That
exchange happened to occur essentially on the day of the bottom in AOL. It
smartly recovered, and we sold it 20 points higher.
I think we got our first taste of what this was really going to be like to take on
the responsibility of having substantive interactions with investment clients, as
opposed to the twice-a-year report that fund managers typically send out to
their clients. It is all sanitized and all positions are window-dressed. All the
defeats are nicely buried. All the victories are nicely amplified. We show
everything. And when there is a divergence and criticisms -- we take the heat.
Nadig: I am in the process of actually pulling together the legal semiannual
report that has to go out twice a year. One of the frustrating things about
going through that process is that we are being forced to publish stale
information. We have gotten so used to living in such real time that if one of us
is away from the market we can go to any Web browser and see how we are
doing -- without having to call in. But now we are being forced to say, 'Let's
talk about this portfolio in a snapshot of time that is months old.' It's a very
frustrating process.
Q: Looking at your portfolio online we see that your big moves have
been in names like JDS Uniphase, Qualcomm, PE Celera Genomics. Tell
us about Uniphase. Why do you like it? Luskin: Qualcomm and Uniphase
are the Intel and Microsoft of this next phase of the New Economy.
Qualcomm is the Microsoft because it controls the operating system for
wireless. I am almost embarrassed to talk about Qualcomm, because it has
become so well known in the last three or four months. But it is the Microsoft
of the next decade. More than half the people alive on this planet today have
never made a phone call. When they finally do, it will be on a wireless phone
and that wireless phone will be running CDMA, or "code division multiple
access," which is the Microsoft Windows of wireless and Qualcomm's all
over it. JDS Uniphase is the Intel of the bandwidth revolution, because it
makes all the ugly little things that live inside the networks of the future and
that have really driven the collapse of bandwidth. They're one of the pioneers
of "dense wave division multiplexing"; they make the pump lasers, the
add-drop multiplexers that are going to lead in the next couple of years to
all-optical networks.
Nadig: Celera has been at the front of the wave that we're calling the
"biocosm revolution." They're the ones competing with the Human Genome
Project, trying to beat the government at its own self-declared race. By all
accounts it seems to be doing it handily. More than just mapping it out,
they've built a business model that's really an information-distribution business
model. It's not so reliant on coming up with a specific therapy that solves a
specific problem; rather, they've recognized that the information itself and how
it's used and how researchers interact with it -- that's where the value's going
to be in that part of the game.
Q: Globalstar Telecommunications. Is that a Don Luskin position?
Luskin: Yeah. Yeah. All I can tell you is that the sheer scope and ambition
and brazenness of the Globalstar dream, I believe, qualifies it for being one of
those stocks that behave like an option. The downside on this isn't much
anymore -- I wish it were more. But the upside is virtually infinite, if they can
realize the dream.
Q: What are their hurdles that we should look for them to overcome, to
know that they're going to realize that upside?
Luskin: I think they need to have a vivid demonstration of the product in
action. Right now it's just a dream. They're just at the very edge of being able
to demonstrate their product. And people are very concerned that it's going to
die the death of Iridium. People don't understand that it's built on an entirely
different business model, an entirely different technology, generations ahead.
And if they make it, it's going to be dominant.
Nadig: Their business model involves working with partner-carriers to pick
up dead service areas.
Q: Terayon Communications has been a great stock for you. Does it still
have some good upside?
Luskin: It's been a great stock and it's certainly had its ride in the last couple
of days. Terayon is in some sense a complement to Qualcomm. Qualcomm
dominates CDMA on the wireless side, and Terayon dominates CDMA on
the wired side. Right now, cable television is sort of the poor man's fiber. It's
the only form of really high bandwidth physical connection in any visible
portion of American homes. And Terayon has been all about retrofitting cable
networks for broadband using CDMA, without having to actually go in and
replace the cable. So you've been able to wring huge costs out of converting
the system and basically allowing the owners to unlock option value for
infrastructure that they never dreamed of when they paid the costs.
Q: What does Wave Systems Corp. do?
Nadig: Wave Systems manufactures silicon solutions for metering data. In the
process of metering and decrypting data, they can do it on a
person-by-person basis. It's basically like a postage meter. They dominate the
Cyber-COMM solution, which is a mandated European Union standard for
conducting e-commerce.
Q: And Wave sells-what?
Nadig: Wave manufactures the chip that's in there. And they also run the
back-office system for encrypted data streams that might come down that
pipe. An example might be running something like Sun Microsystems'
StarOffice, in which you're paying for software per-use or paying by time.
Another example would be music. They represent an interesting solution to
the music problem of how do you know when somebody's downloaded
something and they've listened to it so many times and how many times have
they paid for it? Because the Wave System works in real time to decrypt,
based on a particular person's chip, they can track, meter and allow the
content provider to get paid.
Q: Any other stocks?
Werdegar: A company that's intriguing to us and represents one of the
interesting sector rotations that's occurred over the last few months is called
Electric Fuel. They make this thing called a Zinc-Air battery, which is a
disposable battery that shows three to five times longer battery life than
traditional cell-phone batteries. There are also applications of this new energy
system in transportation.
Q: Which of these companies are making money or are cash-flow
positive?
Luskin: We just don't think in those terms. That's the green-eyeshade work
that we just don't think is important to do. Statements like that sometimes get
turned in the press: "Mr. Luskin said it doesn't matter whether these
companies are making any money or not."
Q: That's why you're lucky that this is a transcribed interview.
Luskin: Of course it matters whether you're making money or not, but the
real question in these companies is "When?" For a lot of these companies, the
stupidest thing they could be doing right now would be to try to make money.
What they really need to be doing is investing in the future to make a lot more
money later. Now, yeah, that's riskier. But it's risky to interrupt your career
and go back to business school. All the things that people do to invest instead
of consume are risky.
Did Chrysler make money in the first couple of years when it introduced the
minivan? It sank billions into it. If that had been a separate public company,
everyone would've been carping about, "Oh God, this little minivan company
just can't make any money. It's worse than Amazon.com!" But because it's
happening inside Chrysler, it's diversified away by a thousand other things
they're doing. We live in a world where capital markets are so evolved,
investors are so empowered, that they have the privilege of buying these
young risky companies that haven't made money yet. That is a very very good
thing.
Q: Very good indeed. Thank you. |
