CFA Charlie Ellis: Masters in Business (Audio)

or Arthur Levitt. It's a race to see which gentleman is is more um of of a fantastic human being. A little background about Charlie. Undergraduate, he goes to Yale Majors in Art History, comes out, doesn't know what to do with himself, sort of wanders into Harvard Business School and discovers that he really enjoys that. He called it

the most transformative two years of his life. Comes out of Harvard and and eventually just kind of wanders into the Rockefeller family office and tells a delightful story about how they discovered he essentially knew nothing about investing. Charlie, didn't they teach anything in the Harvard Business School? Not about investing. It was about business. And so he ends up going to n y U and, as he describes it, getting a doctorate. And I won't spoil the story, I'll

let I'll let him tell you. But then his resume, as if that wasn't enough, just continues to accumulate accolades and awards and everything else. Uh. He he works at d l J and then he sets up Greenwich Associates, where he is essentially a consultant to the financial services industry. He is on the Yale Endowment Board of Managers where he's a chairman with David Swinson, who's the c i O.

He's won all manner of awards from all sorts of people. Well, how I know Charlie Ellis was from a short essay that he wrote in and I read it decades afterwards, called the Loser's Game. And and why this is so important for investors. Charlie reads a book about tennis, Extraordinary Tennis for Ordinary Players, and the book describes how tennis is really two games in one. There is the professional game and the amateur game. And why do we say there are two games in one? Well, the way professionals

win is they outscore their opponent. They place the ball with great force and accuracy just outside of their opponent's reach. So professionals win tennis games, on the other hand, And by the way, that's professionals playing other professionals. So even when a professional, when the score is such that one professional has lost to another professional, it's because he was beaten by the winning player. Compare that with amateurs. The

way amateurs play tennis, they lose games. Amateurs try too hard, they hit the ball too far, they double fault when they serve, they hit the ball into the net. Amateurs have lots and lots of unforced errors. And so when you have two amateurs playing each other, it's not that one of them has beaten to the other, It's that one of them has lost more points than the other and therefore loses. Professionals score more points and win. Two

professionals playing each other, amateurs essentially defeat themselves. And to Charlie's great credit, and here it is in it's the middle of a bear market, who is even thinking in these terms? He looks at this book about tennis and draws the analogy to investors. Investors lose all the time, even professionals who in theory, should be hitting harder, more accurately, and just outside of their opponent's reach. As he describes it,

the competition is so intense. There are so many bright, well learned, knowledgeable, intense competitive players in the marketplace that they all sort of cancel each other out. And the advantage of indexing and Charlie Ellis's view is that when you have all these smart people and they all cancel each other out, a you can compete with them as an amateur. You certainly would never step on to the field of a football game on a Sunday and play with the pros. They need three gurneys to carry you

off the field to play. It's the same thing you step onto the gridiron, you step into the professional trading as an amateur, and you're up against the biggest, smartest, strongest, fastest firms who have all the tools and everything they need to beat you. But they're all competing against each other. And what ends up happening is low cost, low activity INDE funds over the long hole tend to be the best opportunity for most individuals. Uh. This is a tremendous

insight that he developed. Not just why indexing works. But the way that amateur investors managed to hurt themselves, and no matter how good the pros are, how they all essentially cross, you know, cancel each other out, is really a fascinating insight. Uh. And and from that he's built a just a tremendous body of work and a tremendous reputation as an investor, as an advisor, as a consultant um to a number of very very large financial institutions.

If if you can name a firm off the top of your head, there's a fair probability that Charlie Ellis has consulted with them and giving them advice as to how they should be running their business as well as how they should be managing their money. So I just found it. I was tickled pink to to sit with

him for a couple of hours after the show. I walked him over to the Yale Club where he had an event that that night, and he was just a delight to walk down the streets of New York on St. Patty's Day and just talk about everything that was going around in the city around us. I found him to be utterly charming. It was my pleasure to spend a day with him without further ado. My conversation with Charlie Ellis. This is Master's in Business with Barry Ridholts on Bloomberg Radio.

I am actually extremely privileged this week to have really financial royalty in the room. My guest is Charlie Ellis. Say hello, Charlie, How can I say anything after that introduction? It's it's gonna get worse. So a little background about who Mr Ellis is. Dr Ellis. You don't really go by doctor, do you know? It doesn't work very well, but it's very good for making reservations at restaurants. So

Charlie began his academic career. He received at Yale. He received a b a in art history, subsequently went to the Harvard Business School, and almost on a lark, ended up getting a pH d in finance and economics at n y U and then became a Charter c f a UH Certified Financial Analyst in nineteen sixty nine. Now that's a pretty good background for most people, but that wasn't where we stopped. Charlie eventually gets appointed to the

faculty of the Harvest Business School. He becomes a director of the Vanguard Group, joins them Yale School of Management six and then becomes the Chairman of the board of the cf A Institute, and then the awards start to come. He's one of a dozen people in the world who was recognized for their lifetime contributions to the investment profession by the cf A, the Yale Medal of Honor for a service to the University, the Harvard Business School Alumni

Award for Lifelong Service. He is the author of sixteen books on investing and really there is there are a few people in the world who have his depth and breath of knowledge. I've been a fan of yours. I've been reading your work for a long time. I'm an enormous fan of Winning the Loser's Game, which was started out as a paper back in and then became book. But reading that background, the first question I have to

ask you, how do you go from art history to finance? Well, first off all, unless you're really good at our history, there's no destination. There no money. No money in art history, no money. You really have to be very good to get to the top of the group. And at the top of the group it's quiet and lonely, and I realized I'm a social guy. I didn't want to do that. Okay, So you come out of business school and totally unprepared for anything, unprepared for anything, yet Goldman Sachs offers you

a job. And the story is they offered you a job at forty dollars a year and you were looking for five thousand, and you said thanks, but no thanks. That's roughly right. They didn't actually offer me the job. They posted a job people who would like to apply for the job. And I was very interested in Goldman Sash because my father was a lawyer and he said it's the best firm on Wall Street. It's not the leading firm yet, but it will be, and that was

a kind of outfit I wanted to join. But when I looked at the ticket as to what you're gonna get paid, I realized it's not gonna work. Because I was getting married to a wonderful woman who had gone through Wellesley College on scholarship and loans, and the commitment to Wellesley was you'd pay off the loans, and I knew I was going to have to do it. So you needed five thousand. I needed a full five thousand.

Your dad actually turned out to be quite pressing, and I think you were in If I read your bio right, you were in the seventh grade. Your father was an attorney, said Charlie, I don't think law school is going to be for you. It wasn't all love and affection. It was being very, very realistic. We got along wonderfully well. I had a great father, the great mother too, and it was one of the lucky blessings of a lifetime.

But Dad had gone into the law knowing that they were wonderful people practicing law, and he had two or three really powerful arguments. Number One, I wasn't cut out for the law because I'm not fundamentally a scholar. I can learn things, but I'm not what you'd call a real scholar, so I'm not gonna have the private satisfaction.

Second thing is an enormous number of people went through law school and the g I Bill after the Second World War, and they were coming into practice, and they were filling up the law firms with very talented people who were ten years older than I was, and that was going to make a really big difference. I wasn't going to get the chance to advance and promote myself along the way. And the third thing is Dad said, you know, the law, which I have loved, is shifting

from being a profession to being a business. And if you're going to go into a business, the least you can do is going to a real business instead of struggling with a shift from profession to law. Where don't you go into business? You've got a an appetite for working with other people, and you'd like to be a leader in organizations and I think you'd be happier that that. That leads to something you said about the financial profession, which is it should be a profession, but it's not.

It's actually a business. Well, parts of it should be a profession. For example, investment banking should be a profession. Uh, Investment management most definitely should be a profession. Investment analysis is a profession if it's played well, and it should be run as a profession. But trading is not really a profession. And you want to recognize that trading is

a business. And what's happened in Wall Street over the last twenty years is trading has become the dominant business for everybody, and so everybody is whether they like it or not, in business, it's sort of like winter weather, whether you like it or not. It's coming, it's there. You better button up, brace yourself for it. So so you started out not too long after that, you were briefly at w G b H in Boston, and then you ended up in the Rockefeller family office. How did

that come about? Just lucky and it's a string of good luck. While I was at w G b H, wonderful woman who was my age and was a volunteer, cut my eye and I said, she's I'd really like to get to know her. So I asked her for lunch, and then we talked more and more. We started really pretty serious dating, and we're still friends today. And she said to me one day, you know, Charlie, you should go to the B School. And I said, what is a B school? She said, a business school? For goodness sake.

I said, when you say, the B school is the only one, she said, no, they're a bunch of them, but there's only one that you really ought to take seriously, and that's the Harvard Business School. So I applied and I got in. And while I was there, of course, you're supposed to get a job, and I didn't have a job. So I said to one of my friends, now I don't have a job yet. He said, I got something you might want to consider. My dad's got a friend who's looking for somebody. I'm not sure what

it is. I think it's the Rockefeller Foundation, and I was interested in philanthropic work. I thought that might be interesting. I wasn't the Foundation. Took half an hour of the interview for me to figure out that talking about something else. This guy's interviewing me is such a good guy. I want to work for him for sure. I gotta figure

out what he's doing. I'm Barry Ridhults. You're listening to Masters in Business on Bloomberg Radio, and my special guest this week is Charlie Ellis Um, well known for his work with the Yale Endowment as a professor at both Harvard and Yale and number of other places. Um, Charlie, before the break, we talked about you ended up as one of your earliest jobs working for the Rockefeller the Rockefeller Family Office. What was that experience? Like? It was

terrific in a couple of ways. It might take you by surprise. First of all, I was working for an absolute wonderful human being, and he's set a role model as to how high is up, and I realized, what we it's really high. If you really want to be at the high end of the spectrum, that's how good you've got to be at whatever you're doing. What was that gentleman's name, Jay Richardson Dilworth and was not the mayor of Philadelphia, same name, but an absolutely wonderful man.

So that was one particularly part of it. The second part is I turned in my first research report and my immediate supervisor came over to my office. Is at Cholly, Cholly, didn't you just go to the Havard Business School? I said, yes, Phil, I did. Why Why are you asking? He said, because Charlie, didn't they teach you nothing about investing? And I said, no, Phil, actually there's only one course on investing and it's so boring and dull and terrible. While it's taught between eleven

thirty and one, it's called Darkness at Noon. And I didn't take it. Nobody else with his head screwed on would have taken it. Was terrible course. So actually, Phil, I don't know anything. Well, Charlie said, this is a very wealthy family, but they ain't that rich. I can't afford you, so you better go to night school and learn something, and that's how you ended up getting a doctor at an n y U. Well, it was an accident.

I got in. I've been in the army, so I know how what you do when you see a line, getting the line, and when I got to the front, it's really attractive. Young woman looked up from a card table and said, you're next. Are you a regular student or a special student? Sorry, I'm sorry, I don't know which is. I just wanted to sign up for some She said, where'd you last go to school? I said, just finished Harvard Business School. Oh, Harvard Business School. That's exciting.

You should be in our doctoral program. My sister and brother are always getting higher grades than I was, so I figured I'll sign up for a doctoral program. They never signed up for a doctoral program. That didn't take it seriously and was there any difference in price. No, at the same price. So I signed up for a doctoral program. In fourteen years, drifted through, finally finishing up great experience. You were doing it at night part time. While you were working on doing it at night. There

was nothing to it. You would go to the first class and you had fifteen minutes between classes run across the street to the Hamburger place where they had Hamburg's on the grill, and you'd get a cold milkshake and a hot hamburger and mix them together as you too quickly, and then run back to class again. And ultimately, fourteen years later sooner or later PhD from from n YU. Not not too shabby. So let's get start talking about the Losers Game. And and I love the analogy here.

There was so many really fascinating lessons from this. So in you authored a paper called the Losers Game. And it was after reading a book called Extraordinary Tennis for the Ordinary Tennis Player. And I'm gonna I'm gonna pull a quote out from something you had written. The book was by Simon Ramos, and Ramos describes professional Simon Ramo of Thompson Ramo Wooldridge. He was the brilliant industrial scientist combination that really was the leader of the U. S

Space program. This is some guy, so he's looking at tennis from a very quantitative scientific Plus he was a very good athlete everything. Plus he played violin with the quartet from the Los Angeles Philharmonic. So this guy hit the genetic lottery straight across the board, right, so he writes, you write about ramo. He described professional tennis as a

winners game where points are won through skill. It's played by those who stroked the ball with strong, well aimed shots and win points through long, often exciting rallies until one point player is able to drive the ball just beyond the reach of his opponent. That's the winners game. On the other hand, and he says, tennis is two games in one. It's a winners game and a loser's game. The loser's game is the way amateurs play, where points

are lost due to simple mistakes. In other words, winners and uh professionals end up scoring points through winning, and amateurs end up making all these unforced errors. So how did that impact you're thinking about investing? Well, I thought about I'm realized that's the way I played tennis. When Lynda and I go off and play, we come off the court, it maybe some people waiting because we've gone a little bit over our time on the court. They ask who won, and it drives me nuts because that's

not fair. I was in control of that game, completely in control of it, because I hit more double faults I hit in the net more often, and I gave more layups to Linda. She's a very good athlete. So I'm not embarrassed to have lost. But I was not only the loser. I was in control of the game all the way along. You could have told after three or four points I was going to lose. So in other words, it wasn't so much that Linda beat you,

it was that you basically beat myself. That's right, And so this raises a really interesting question relative to investors. How important is it to understand your own skill set, whether it's tennis or investing. Well, there are two things that are really important. One is understand your own skill set, and the second is understand how good the competition really is.

Most of us have sort of a mindset of, you know, the friendly neighborhood doctor goes down to the brokerage office and buys hundred shares of a T and T, and that's basically what he does as an investor. That may have been true when we were all kids, and fifty years ago it was true, but today most of the trading. The trading is done by professionals, and half of that is done by the fifty largest, most aggressive professionals. They

are tough. So you may be a pretty good amateur touch football player, but that doesn't mean you want to join the line for the NFL. You just you just reminded me of something I had quoted you in a column I want to say about ten years ago, and it had to do with look at the football play. You may be a fun amateur football player, toss a ball around weekends in your neighborhood, but but look at these guys who played. They're much bigger than you, they're

much faster than you, they're more skilled than you. You would never think of stepping out onto the field with the Giants on any given Sunday and betting real money on the outcome. But that's what a lot of people end up doing in investing. They they compete against people who were much more qualified for them, and the same result happens as if they were playing football with the New York Giants. Yes, but we don't notice that. We don't keep a tight score, and we don't embarrass ourselves

by seeing reality, so it's a little bit easier. The broken bones aren't as visible when you're an investor than when you're playing for but the pain in anguish that people are providing for themselves as their years go by is just awful. So in the last minute we have in this segment, I want to ask you just a really quick question. So you identified this was back in that active managers were not beating the market, that amateurs were just shooting themselves in the foot. What gave you

the insight to recognize that that was forty years ago? Well, first of all, it was a lucky break. And secondly, I was working with a lot of people in the investment management business and talking with them all the time, and they were starting to tell me this is tough, really tough, and it's getting harder, and it's getting harder. I'm Barry Ridhults. You're listening to Masters in Business on

Bloomberg Radio. My extra special guest this week is Charlie allis the author of a number of books, most recently the book that I that I have that came out not too long ago is What It Takes, which we'll get to talk to talk about in a little bit. I'm a big fan of your earlier book, Winning the Losers Game, which is all about how people really mishandle their own money and make very very poor decisions when it comes to investing their own money. UM, don't feel

bad if you're an amateur. Of the professionals very often do the same thing. But let's talk a little bit about your time at Yale, both as a UM, a member of UM, the investment committee for the endowment, and as well as the faculty. One of the lines you you had written reminded me of something that Daniel Boston had said. Daniel Boston, famously the Librarian of Congress, used to used to say, I write in order to figure

out what I think. Besides, at that hour all the bars are closed anyway, so that that's his famous quote. How does the process of teaching, speaking, and writing help you form your thought? What's in your ideas? That's easy if you're going to teach. For every hour you're in the classroom teaching. My experience, it takes at least ten,

often fifteen hours of preparation for every single hour. I'm developing a course now on how to be a successful client to be taught at the Yale School of Management. And it is exciting and all that sort of stuff. But on the other hand, every weekend I sit down and start working again. And getting those classes figured out

what am I gonna do? And I still don't know for sure what I'm gonna do because you have to watch the way the class moves, and you have to go with the flow and be sure that it covers the things you really want and that it's really useful to the students. So a lot of preparation for every hour in the classroom. What about writing a book. It takes three or four hours to read a good book,

six or seven hours. How much prep time you're doing before you even sit down at two or three hours to read a book, two or three years to write a book about even so it's a one to one ratio a year for for hour. I got it, um And you worked with David Swanson as co chairs of the I believe he was the c I O and you were the I was the chair of the Investment Committee. But let's be careful in terms. I didn't work with David.

I worked for David uh and I had the thrill of sitting in the front row of the bleachers watching the best professional investment manager I know. Really. Yeah, Now his remputation is obviously sterling. So one of the questions I have to ask is what made Swanson so unique? So many different things combined. Number one is brilliant. He's the first guy to think of even considering doing a derivative. Did a swap on interest rates between IBM and the

World Bank None. He's very competitive guy. Watch him on a softball field, you think the world was absolutely determined. His whole future in the vision, whether people are going to get hits or not, watching playing squasher tennis, the same thing all over again. Thirty is one of the

nicest people in the face of the earth. There're more people that would like to do something to say thank you David than any other person I know, except perhaps Warren Buffett, who got an even larger following, and for good reason, very good reason. David is creative. He's tightly disciplined. He is a team player and one of the best team captains. There's ever been a number of people who have trained under David and going on to manage other endowments,

really understanding what the secrets are. It's been just terrific. And he's also written the best book ever written on institutional investing, which is called I can never remember David's book. I always thinking it was David's book, Unconventional Success. That's right, unconve very good. You have a much better memory than I do, because mine was buried back there. I couldn't get it. So let's talk about the Yale model, which essentially is what Swanson created. What is the Yale model?

First of all, the Yale model is not for anybody else to use except for Yale. Actually that's quite true. Although Harvard's close, Princeton's close, Stanford is close, m I t is close. There's several other places that are pretty close in what they're doing. But but if you look at some of them, Harvard is a good example. They hit a rough patch during the financial crisis. They were a little behind Yale and never quite caught up with them in terms of because they never quite had a

David Swinson. The secret to success in life is be sure you picked the competition that you can be, not be brilliant yourself. But the Harvard story is more complicated in that I think all of us in the world of investing know that Jane Mandilo did a fabulous job with an unbelievably bad hand delta her. Then she did it with grace, nice combination. Then you had the whole issue with the faculty complaining about the fees that were being paid to people. Were they they engage in a

little bit of losers game themselves? They shot themselves in the foot. Well, if you're entirely rational, that is in fact irrational, because the world is made up of human beings and they make judgments as human beings do, so don't be too smart. It is probably a good idea. But that was a different group than the more recent manage. So in the last thirty seconds, we have the experience

at Yale and working with Swinson. How does that compare to other experiences you've had in the world of finance. It's like going to see Ringling Brothers in Barnum and Bailey Circus. The guys who do the acrobatics, the guys who do the high wire, they are unbelievably good and it's thrilling to watch. Don't do that at home. Don't try this at home. This is Masters in Business on

Bloomberg Radio. I'm Barry Ridholtz my guest today. Charlie ellis perhaps best known for his book Winning the Losers Game. You know, in the last segment we were talking about how investing is very similar to tennis, that most people end up engaging in these unforced eras. That's how they lose in tennis. That's also how they hurt themselves in investing.

I know you're a big fan of indexing, and here we are in and earlier this year, the Vanguard Group just crossed three trillion, that's trillion with a T in assets under management. They're the best known, biggest indexers. Can you declare victory? Can you say, okay, people have figured out that simple indexing beats complicated active management. The answer is both yes and no. I can declare victory, but

each individual has to make that decision for themselves. So let's talk a little bit about your observation that active managers have a very very hard time beating the market. Why is that, Well, it's the same reason. Really smart lawyers have a tough time winning all their cases. My brother is as good a litigator as you will find in the field of law. He wins about half and he asked me once, why do you suppose I went

about half? I said, it's easy. The other guys know you're terrific, so they get as many lawyers as they need to come in and tie you. It's also if the case is overwhelmingly one side or another, they end up settling. And if by the time the cases that go to trial are usually the ones that, gee, this could go either way and both sides they are going to win. Right, So someone's gonna win and you're not.

You're never going to bat a thousand on the really close cases, but a bunch of you know, the typical case settles because it's usually clear one side or the other is in the right or wrong. Let's go back to investing them, because I think it's really interesting. The smartest people I've ever known have, one way or another figured out that investment management is interesting, fascinating, fun, exciting

even and it pays really really well. And you get to hang out with people who are really smart, and you get to compete, and all people who are really smart like to be winners in competitions. So you get this terrific crowd of people coming out to compete with each other. And the more they compete, the better they get, the more skillful, the more tools, the more information, the more access that they all get. The better and better

and better they get. Only one problem, so is everybody else getting better and better and better and better, And if you look at the realities of life, the secret to success and investment management starts with good information. Everybody gets all the same information today. The SEC requires any companies any information to anybody, has to give it to everybody at the same time. You can use Twitter if you want to, but you've got to get it to everybody.

That levels the playing field. Then everybody's got a Bloomberg machine that levels the playing field in a big, big way. And third, everybody's got access to all the same people using the internet instantaneous equal So pretty soon you've realized and wait, wait, waitmen, everybody's going to the same schools. Everybody's smart, everybody's got the same tools. Everybody's going out

to compete with everybody else. Isn't it going to be awfully hard to be noticeably, clearly, decisively better than the other guys in order to do better than the market. And the answer is, yeah, you've gotta be awfully damn good. Will anybody be able to do it? Sure, in every single year, every single decade, every single whatever, small number of people will glue clearly better, but huge numbers of people will do clearly worse, and on average, everybody will

be doing worse. And here's the hard part. There is no way to identify who is going to do better before the game begins in advance that you know. This is the discussion we've had with some of the fund of funds. With hedge funds. It's impossible to pick the one hedge funds that's going to do especially well. Why does picking five hedge funds make you think that you're raising your odds. You're just increasing your odds for mediocrity by doing that, and then you add all the fees

on top of that. How do those guys continue to uh to do what they're doing. Isn't the odds really insurmountable for them? Well that's for the rantial observer, yes, but all of us believe there's some one way or another we're gonna get out in front. We're gonna do better. We've all grown up learning from our parents, from our school teachers, from our friends. Try harder you'll do better. Try harder, you'll do better. Try harder, you'll do better.

So we've sort of programmed in ourselves to try harder. And most of the time that's right. It works, We do better. It's interesting, just not better than the market. So it's a it's a market, fol No, it's not. It's not doing better than the market. It's doing better than all those other smart guys who create the market go. So, so it's not like Lake Will be Gone where all

the children are above average. When you're competing with that, against that group of folks, you're destined to really really have a very very high odds of not not outperforming that huge group of really smart, really prepared, really serious people who are trying to beat the market. And that that's what makes it so. It's like being in Lake Paradise with the kids are not allowed to play because only the top one percent are allowed to play, and

they're terrific. That that's really quite fascinating. So let's talk a little bit about some of your earlier career. Um. You really began in what some people have called the golden age of market timers and newsletter writers. I remember reading about Joe Granville in two and here's a guy who had been dead right about everything for a few years and missed the start of the biggest bullmarket in history. What was that era like when you were UM fairly

early in your career well. The right answer for reading and understanding it is read Jerry Goodman's or Adam Smith, as he called himself, wonderful book The Money Game. That a book about trading on Wall Street and investment management contemporaries could be a bestseller nationwide for a couple of years tells you a lot. It was an exciting game

and everybody was interested. And in those days, active management was a damn good idea because the competition was individuals who were not experienced and institutions that were sluggish, slow, and move like Bohemuth. So it wasn't all that hard to dance around them and be faster, quicker, better informed, and therefore able to get a better rate of return. The market has changed that much so that back in the seventies and eighties, the amateurs were beating the professionals.

I wouldn't go quite that far, but I would say that the few professionals who are out there, and we're young and ambitious and worked hard, could find a way that they could do better than most other institutions and do better than most individuals, and you could see who they were. It was advertised in the newspapers, it was storied written up in articles. It was not all that tricky, but that has clearly changed dramatically over the intervening decades,

overwhelming change, and it will never go back. So let me ask you a couple of related questions. You've been observed of the financial industry for a long time, and I've been critical of some of the things the financial industry does wrong. Let me reverse that question, what does the financial industry get right? Well, first of all, the financial industry is such a big aggregation. It's sort of like talking about men or women. So let's focus on

on investment management. What does the investment management business do right? And what do they get wrong? Well, there's two things that are part and parcel of the investment management Number one is what i'd call price discovery, figuring out what price should each individual stock be, and what price it should be compares to every other stock, so comparative pricing. Getting that really figured out, that's really complicated, difficult work.

The second is value discovery, finding out for each client what are they really trying to accomplish, what's important to them? And that's not terribly difficult to figure out, but you have to do it one at a time. For a very simple reason. Every investor is different, and if you get it really right for any investor, that isn't quite exactly right for any other investors. So discovery of values aspirations, what are you trying to accomplish is unique for each

individual client. Now, take the two parts used to be years ago that they were blended together at a moderate fee, and it worked out quite well. Then we got excited about price discovery, and the skills and ambitions and drive and skill of price discovery took off like a skyrocket. Gradually it got to the point where it's so damn good that there's almost no point in anybody trying to

do better than the crowd is already doing. Value discovery, however, got ignored, and there's always a terrific opportunity to get it really right for the long term for any investor by thinking through and working through value discovery, what are you trying to accomplish? So more than just buying a stock that's going higher, what's the ultimate goal that is? Isn't that really more financial planning than investing? Well, financial

plan there's nothing wrong with that. Aggressive trading might be what you'd call the price discovery investing is sort of an in between could be used by both groups. Got it? So let me ask you this question, because this is very much this is very much related for the average investor, What then, is more important understanding yourself or understanding markets? Understanding markets doesn't make very much difference at all, except

in general. You should know that markets fluctuate, and the fluctuations can be huge, and they can cause very real excitement on the upside and they can cause terrible fear on the down side. So you're gonna get used to that sort of thing and be prepared for it because it will happen over and over and over again. That's you're sort of stuck with that. But you better learn what that's all about. That's the old joke. Wall Street

is an expensive place to learn who you are. Yes, I've been speaking with Charlie Ellis of Yale School of Management and the yell Endowment fame and author of Winning the Losers Game and most recently What It Takes. If you enjoyed these conversations, be sure and check out our full podcast, where the tape keeps running and we discuss many more things in great detail. Be sure and check out my daily column on Bloomberg View dot com. Uh follow me on Twitter at Rid Halts. I'm Barry Ridhults.

You're listening to Masters in Business on Bloomberg Radio. Welcome back. This is the podcast portion of our show, and Charlie really, thank you so much for doing this. I greatly appreciate this. I've been a fan of yours for a long time and it's just a pleasure meeting you. Well, you're terribly nice, but I must tell you I'm having a great time. Well good, that's fantastic. I have so many questions we skipped during the radio portion. I'm just gonna work my

way through this. But but before I forget, you've written a lot of books. So in between the Losers Game, the most recent book was What It Takes. Actually most recent book is Falling Short, Falling Short, so I I have the wrong book here. And then there was also the book The Partnership about Goldman Sachs that was so much fun to do. It just wouldn't believe it really. Well, first of all, there's smart, smart people. Well that's their reputation. Second,

they've got a terrific interest in their own firm. They really really enjoyed the history and Third, the history is so enjoyable. So I had the privilege of interviewing three hund different people for that book, and I would be glad to go back into it all over again. It was so much fun, very storied firm. You know, what do you think of of of more recently when they were called the Vampire Squid? And Yeah, wasn't that fun? Aul?

So just awful. First of all, they deserved some of it, but it was way too clever, And if I had been an editor, I said, absolutely not, that's not going to go in print. But they did deserve part of it. And this second thing is they've reacted in a way that makes me so very appreciative of what they're really all about. Very proactive, not sitting around. They really have made an effort to not just only change the culture of the firm, but they've been pretty aggressive in public,

haven't they. Yeah, when you say change the culture, I agree with you, but I'd say it a little differently. Bring the culture back towards where it was, even though the business environment and the business to be done has been changed hugely. Give you a simple example, if you go back years ago of all the business that was done at Goldman Sachs was a relationship based business where you as a portfolio manager and I, as an institutional salesman,

would work together every day for twenty years. Or you're a chief financial officer of major corporation and I'm an investment banker. We'd work together. I'd have people working with me, you'd have people working with you, but we were team captains back and forth. Then we would work together for ten fifteen years, and everybody knew what we were doing. It was all visible m hm trading. I am in the market, I'm secret. Nobody knows I'm there. I decided

to do something. Nobody knows it was me that did it. My transaction time might be two or three minutes, it might be twenty or thirty minutes. It is never twenty years, it's never a year. It's never even a week. It's all very very fast and invisible, and nobody knows when I've left. Nobody knows whether it worked or didn't work. There's no record except in my office and yours, and

clearly no no relationship involved. There may be a transactual relationship, but it's not an important factor in who's going to do the business next time, And if I beat the dickens out of you and really exploit you, that's my win. You don't even know what has happened. So have has Goldman Sacks moved away from that model because that seemed

to be the model in the late two thousand. Well, trading is trading is trading, and if your business is dominated, the firm's profitability comes from trading in currencies, trading in commodities, trading in bonds, trading in stocks. It's all trading, trading, trading,

usually at risk. And that makes for a very different kind of a business than when it's a relationship based business and it's you as a client that determines whether I get to do business or not, and I have to serve your needs in order to serve my needs. That's a very different business. So are they moving more towards that older business model or is that just the

thing of the past. What they've done, which I think is terrific, is they've kept the cultural commitments and even though it's in trading and transactional businesses, they're working them way, have been working their way back towards the values that

have to do with client relationships. They will never be able to be clients, because the counterparty in a trade can't be a client, but can be a customer, and you can watch out to be sure that you treat them with respect and consideration and that they would welcome you back. And they have done a terrific job at that. They've also done some terrific things in terms of public perception.

So we mentioned the Rockefell or family office. After that, you ended up at Donaldson, Lufkin and Jenrette better known as d l J. What was that experience like? It

was fabulous fun, A bunch of very bright guys pulled together. Honestly, we didn't know an awful lot about the securities business, but we were learning, and we were involved in the front edge of research being important, and we were involved in the front edge of active investment management being important, and all of those things were working very much to our benefit and interest because we were there first, because we brought some very bright and capable people together, and

we had a wonderful time because we enjoyed each other so very much. And then not too long after that, you, I want to say, seventy two seventy three, you launched Grants Associates, which was a consulting firm, but not your usual consulting firm. What what made you say I think I'm gonna try launching a consulting business. Well, are a couple of things that made us different. One of we only did things in the financial services world and only at the institutional level, no retail work of any kind.

The second is, as consultants, we did all of our own homework ourselves as principles, and then when and offered our service, which is here is some extraordinary, undeniably accurate data because we have just interviewed a thousand of your most important customers, and they really know what they're talking about, and they're talking about you and your competition on thirty fifty different specific variables. So if you really want to know how you're doing, this is the best source of

information you've ever had, and it's undeniable data. And then secondly, we had bankers who worked with the banking clients, investment managers who worked with the investment management clients. People out of the brokerage business worked with the broker's clients, people out of the bond business work with the bond clients. So all around the world we had to come nation of undeniable data and very skilled, competent consultants who bringly

into the business. And then we worked with the same clients year after year after year after year after year. Then people get used to saying, this is really very hopeful. And when you say you work with the same clients, let's let's explore that a little bit. Your client roster is essentially you who's who of financial services companies as well as am I correct in saying you work with

various treasury departments of different countries around the world. You're in a lot of different nations now, um, from that little shop that began back in nine most most all of our clients were the sellers or offerers of financial services. We did a little bit of work once in a while for the Federal Reserve Bank or for central banks, but not very much at all. So it's it's primarily large institutional client base. And this has become you have there are a few hundred am I correct and saying

a few hundred employees, now about four hundred people. So this is what this is a substanti full firm that there you know, a lot of people have never heard of Granwich Associates, but you guys are very very influential in the world of finance. In the little world that we were focused on big fish small. I don't know if I'm going to tell say that that's accurate, but I'll let you slip away with that. Well, we really cared about our clients and we really worked with our clients.

And so people can tell when you're the real thing, and people can tell when you're doing better than you claim you were doing, and people can tell when you've got a really good value to deliver. People in the financial world are smart, and they can catch on pretty quickly for people who are not all that good, but they can also catch on pretty quickly for people who

are really good. One of the things that that struck me when I was sifting through your some of your biographies plural, was that when you describe the cultural values of Grandwich Associates, that's pretty much how you described it. The client more than they bargain for ever more value output,

over promise, you thunder promise and over deliver. And that really is what drove that the development of that business, and it makes it very comfortable position to be in for the people inside the firm to know that they're really delivering great value and that clients like it. So it's a hard work, low stress sort of approach. It was plenty of stress just because of the hard work,

but it was such a fun time. So let me give you a couple of quotes of yours that I really like, and let's see how you um, I think I think it is. The investment management business is built upon a simple and basic belief professional money managers can beat the market. That premise appears to be false. This is right from uh the original Losers game. Explain not that that needs a whole lot of explaining, but explain

how you came upon that. Well, first of all, I had the privilege of working directly with quite a number of very good investment managers, and therefore I came to a realization faster than most people would be able to that there are really a lot of really smart people out there, and they're all competing trying to beat each other, and they all underestimate the competition because they don't realize how many other really smart people are out there. So

that's one. The second is, year after year after year, I would watch perfectly wonderful people trying the hardest they could disappointed in themselves because their particular organization or their particular portfolio came in short. The third is that I was working with research data that gave access to very strong judgments right across the marketplace, and that helps a

lot for learning at a fast clip. The last is I did have the privilege of knowing a lot of very very bright people in the academic community, and I knew what they were doing, and they were doing research that kept coming up with this stuff that people are doing actually cancels itself out. These people are really brilliant, they're really hard working, but they're not actually beating each

other because they're so damn talented. So then I started paying attention to that, and then I could see, my god, it's coming true. So it wasn't a stroke of genius. It was just a matter of being there at the right place at the right time to see it. Well, well, you were one of the first that really really saw that very early. Um, here's an interesting observation from you,

and I'm actually going to turn it into a question. So, given that everything you've said is is true and accurate, and we all intellectually understand that, why is it that active management is still the dominant form of investing. UH. In finance, well, we all laugh about the second marriages is the triumph of hope over experience. We all know about too soon, old, too late smart say that again,

too soon, old, too late, late smart. Uh. It's hard to give up on something that we've all learned as kids. Try harder, you'll do better. Try harder and you'll do better. And we also have kind of an instinct for giving it a try ourselves. So I don't ever gamble and casinos. It's just I know enough about the take from the owners of the casino, and they're very good at it, and they can mathematically change the take on the slot

machine from eight percent to seven to six percent. If the traffic isn't high enough at eight percent, they'll bring it down until people start saying, hey, look at all the winning. Uh. And I understand that it's fun for people to do gambling. Why I don't understand, but I do understand that people do enjoy it. If you kind of like gambling, and if you kind of like your school teachers taught you, try harder, you'll do better. And you think, I think I'll take a turn at it.

I think I'll give it a try. Uh. We're sort of programmed to give one more try, one more try, one more try, and then we're also very good at not remembering the things that hurt. If you take back, if you sat down a piece of paper and a pencil and said I'm going to have to fill up one side of one sheet of paper with memories, I can promise you that most of your memories will be positive memories. Why, because we're good at obliterating from memory

those things that were painful. We don't remember what the appendicitis felt like. We don't remember what it was like to get hit in the draw by that big kid down the block. We don't remember what it was like when that girl that we just thought it was absolutely wonderful says dear John, I do not want to see you anymore. All that sort of stuff fades away, and we do remember the positive things down the history. It's

not just selective perception. It's selective retention in terms of we remember the good as investors, and we forget about oh yeah, I sold Apple at thirty two. And we also think we're smarter than we are, which is why we all laugh about Lake woebegon and of the kids are above average, because that's the way we feel about ourselves. If you ask people candidly, compared to your peers, would you rate yourself above averager below average? As a driver,

people rate themselves above. I asked that question every time I give a presentation to a room full of investors. How many people in the room are above average drivers? Eight out of ten hands go on. It's human nature. Same thing dancers, how about conversationalists, how about sense of humor? How about kissing and hugging? Everybody gives themselves a little bit above average rating, and that's been true of all

kinds of things. So why can't we do that in an investment management So let's let's let me give you one other quote, and I want you to go into this. You said the investment management business should be a profession, but it's not. That was within the concept of the earlier quote. Why isn't it a profession? The big is on his side gradually becomes dominant, almost for sure. Let's go back a little bit. When individuals decide they want

to go into investment management. In my age group back in the sixties, it was because it was interesting because it was fun. That's what it looked like. Something absolutely because candidly, the pay wasn't all that good. Pay wasn't all that good fun. But the pay has been increasing and increasing and increasing, so now it's a wonderfully paid

line of work. So people go into the business or into the field tend to be attracted because the compensation is terrific and they'll say right away and it's really interesting, and they're wonderful people in it. Then you get suspend your time doing one of the most interesting, almost without doubt, the most interesting competitive game to play, and you do it all day, every day, no heavy lifting, no outdoor work, no pain and anguish. Everything about it is absolutely marvelous.

So you were act an extraordinary group. But the dominant reason people going to investment management today is because it pays very well. One of the things I'm fond of pointing out is this is the only profession where even if you're not especially bright or especially talented, if you put your head down and work hard, you can make lots and lots of money. You can't say that you could. You could work your tail off as a teacher. You could be the greatest fireman in the world. You're not

necessarily going to make tens of millions of dollars. And it always surprises me when people go off the rails and do something unlawful or unethical or even illegal. When it's all you have to do is be patient and you'll make tons of money. Why can't you wait another decade to do that? I find it astonishing too. So let me let me keep going through some of these questions. UM, because there's a bunch of stuff I wanted to get to. Um, Let's let's talk about Harvard, because I don't want to

forget that question. I hand wrote this in because in one of your bios you said you found the Harvard School of Business to be the most transformative experience of your life. That would be true. So what was it about the be School that there A whole bunch of different things. Number one is you're about the right age for this sort of an experience, early twenties. All of us are going through lots of changes, So we ascribe the positives to the institutions we were at, probably more

than we should, but that's right. The second thing is the school brings together some very bright people and challenges each and every one of them to think for themselves and to think about what the other person is saying. So you learn to listen, and you learn to speak up and articulate your own views. And they require you three times today, three different problems every day, to work your way through a problem that does not have an answer. Really,

there are no if a good case. At the Harvard Business School, there is no clear cut answer, no yes or no. Everything is about different ways you could approach. So you could make a yes out of going to the left. You could make a yes out of going to the right. You could make a yes out of going a little higher, going a little lower. You could

also make nose out of each of those things. And you realize how complicated the world is, and how important making good judgments can be, and how important having the right facts can be, and whenever you come to a conclusion, how terribly important it is to lead other people towards the same analysis, so they can see why you've come out the way you have, and they can either agree with you or saying, no, I'm sorry, Charlie, that's not

quite right. This is what you want to do instead, And you're listening to them, and you come out with better answers. So it's really learning how to think more than I think creatively positively with the discipline of getting it right. They're very fascinating. You know. We briefly mentioned one of the people you worked for um at d l J. But who are some of your early mentors at the Rockefeller Group or elsewhere. Oh, I've had so many different people who have taught me a lot. You'd

have to go back to without a doubt. The most powerful teacher I have ever had was Miss Nellie Walsh, who was the sixth grade teacher in the Elbridge Gary School in Marblehead, Massachusetts. And she stood in front of the class one day and said, class, you were supposed to be twenty six or twenty seven or twenty eight in number, you are forty two. I am Miss Walsh.

You as forty two, and I, as a single teacher, are going to do some very instant things because we are going to cover all of the sixth grade work this year together. She was a wonderful teacher. We all loved her. One day I was called to go to her office because she was also on the side the principal of the school. I was surprised I had no idea what could possibly have gone wrong. But I went down and she said, Charles, I'm very disappointed in you.

I said why, Miss Walsh? And she said, am I right that you were found fighting with Peter Neely on the school playground during recess? And I said, yes, Miss Walsh. But I could explain, Charles, I said, Miss Walsh, he was picking on the little kids, and he was throwing snowballs at him, and he was putting cinders in the snowballs, and he was putting rocks in the snowballs, and he

wouldn't stop. So I was trying to make him stop. Charles. Ever, unless she had something else in her mind, Charles, I expect more of you than you would bring yourself to the likes of Peter Neely. That will be all. That's the best lesson I ever had from anybody. Powerful. Miss Walsh was some wonderful teacher. So she basically said you, I expect more from you than you expect from yourself by a long shot. So what did that? What did

that do to you? As look as a sixth grader, I remember Mrs Welsh's class, and you were a kid at sixth grade, or you're you're essentially a child. How did that resonate with you? Oh? Miss Walsh was a hero for me and she was magic, and it's not something you could walk away from because miss Walsh had

said it. It's a little bit like Al Gross was our scout leader and he was a very thoughtful man who didn't happen to have any children, so he had decided he would get into boy scouting and he would take his side and say, here's some suggestions I think might be a good idea where you could go over at his home and he would give you a little bit of extra help on learning how to pass a merit badge. Never ever made it soft. Always the standard

was high. But he would help you learn how to do it and would see show you the pathway to being able to do it, so you would be able to be successful. And because he would help you understand what the challenge was, you could pass it was it was a terrific lesson in leadership. So it was it was always about aiming much higher than you think, not just coasting by, but really doing as well as you can possibly do. W then some and at that age it's pretty easy to internalize when you've with people that

have got that wonderful quality of genuine caring. So that was really a formative experience to you as what is sixth grades? I want to say about eleven or twelve years old? Is that about right? Ten? Eleven? All right? So now let's let's take this to another place. So, so that's who was formative to you as a person. Who were your big influences when it comes to investing, Who really were your investing heroes for lack of a

better word, Boy, there's an awful lot of them. Because I've been privileged to know in a large number of people in the investment management world. I got you for another four hours. So let's let's work our way through the list. Well, Warren Buffett goes right to the top, and David Swinston goes right to the top, and those two are equal. Jack Meyer, who managed the Harvard and Dowment for many years, would be another at the top.

This tremendous track. Andre Perrald, who for years taught the investment management course at Harvard Business School and is now an active practitioner. Uh you know, Bill Sharp, absolutely wonderful human being and a very very thoughtful guy. Man named Claude Rosenberg has started a firm called Rosenberg Capital Management in San Francisco would be another. Uh, there are probably a dozen people at Capital Group or the American Funds

that would fit into that category. Start with Mike Shanahan and Jim Rothenberg, but then just keep right on going with one after another after another. Just terrific people. Yeah, I'd need a pencil and piece of paper to make a list that I thought was anywhere near fear because it's just all over the place. And I've known people in the United Kingdom that were just terrific. People. In Canada, they're terrific. People in Japan are terrific people. In Australia,

I've had a very privileged life. You sound like you can. I'm gonna switch gears on you because something else you wrote really stood out to me. Um you said, you've repeatedly said you you've had a privileged life. How lucky you were with this. Here's something you said that was just stunning. It was a background Wich associates, but really you could ascribe it to anything. The most obvious success factor for us was luck, luck and luck and luck. So what what is the role of luck in business

and investing, and in even just in a career. Well, there are two kinds of people, those who know that they were lucky and those who haven't figured it out yet among those who have had a wonderful life. And the truth is, most of the people that have really been hurt badly in life and have come out at the low end of the spectrum that's been luck, too

bad luck, but it's really been luck. Life itself is unfair, is what Jack Kennedy said one day when he says, Mr President, how do you feel about those boys who are called up for the Berlin crisis? He said, life itself is unfair? And then going through the Catechism, and some people live at a time when there's no war. Some have wars but never served. Some serve but never leave the country. Some go overseas and never see combat. Some see combat but nothing actually happens. And other people

get killed or wounded, and they have that forever. And it was a very good reminder that the experiences that we all have aren't really ones that we chose and to sign for ourselves. It's the fit happens, you know, you I'm I'm pulling something from my memories that you had written. I think it was about Kennedy, who someone had asked him, um, how did you become a war hero? And his answer was along the same lines, they sank my boat. It was involuntary, right, It's exactly that. That's

how he became a hero. They sank my boat. I thought that was was fascinating and along the same lines of Hey, you know, it's fairly random what happens in the world, and sometimes you get lucky and it's good, and sometimes you get lucky and it's bad. But then it's Kennedy and what you did with it. I mean, he really was heroic in the way in which he took care of every one of those sailors, and really hard if the physical strain of swimming swimming, swimming, swimming,

pulling people along with him. It's a stand up proposition. So you know, luck creates opportunities, and then how you respond to those opportunities really determines to some large degree what you do with that random shuffle of the cards. Boy, is that true? The secret to there's be optimistic, because if you're optimistic, you think something might work out. And if you think something might work out, you'd be surprised how often you can find something that sort of works out.

If you're pessimistic and think it will never work out, you're probably right about that too. That's the old story about the little kid who's an optimist who wakes up on Christmas morning and there's a room full of manure and he's all excited and look at all this manure. There's got to be a pony in here somewhere. So so let me go over the four rules of the losers game that and I want to I want to

get you to expound on this a little bit. So the four rules I pulled out from from your writings were play your own game, keep it simple, concentrate on defense, and don't take it personally. That's a perfectly marvelous fair. So so let's let's go through that. Play your own game. What does that mean again to the average investor who's looking at this really complicated market. Oh well, that's another

another question. If what should an individual do is first recognize that the people who are really out there all the time and dominate the market, or people who are really skilled at their particular game and they're playing it all the time so the time, don't play their game. Play your own game. No, don't play, just don't play at all. Play your own game. I give an example. You could say, Okay, you're going to play against the Olympic team, and some of the people are gonna be

downhill skiers, some of the people are gonna swimmers. Some of the people are weightlifters, some of them are balancing beam gymnasts. There are a whole bunch of different skills and they're all going to be out there. Which one do you want to play against? The answers, you don't want to play against any of them, and you certainly don't want to play one after another after another after another another one. They've been specialized in their particular capability.

But the people who are swimmers should concentrate on being really gifted capable swimmers and take that discipline over and over and over and over and over again, hour after hour after hour, perfecting their conditioning so that they can be champion athletes. Makes a lot of sense. My colleague Josh always says, the way to defeat high frequency trading

is to become a low frequency trader. It's still along the same it's along the same lines, So keep it simple, pretty self obvious, right, you know, but we should rephrase that sounds not keep it simple, stupid, but keep it simple, sweetheart, because people who do keep it simple or happier, and therefore they're nicer to be with, but they also have more success as opposed to getting involved in more complicated more is just slightly beyond your capacity to play him

really well, all right? And the third one concentrate on defense. Most people don't really, I don't hear that that often. What do you mean when you say concentrate on your defenses. First of all, in any game you could play offense or defense. Everybody else is playing offense. So your chances of being better at whatever you're competing in by playing a really good defense will show up. And you'll see that when you watch a pro football team playing against

another pro football team. Some are really strong on defense and are really strong on offense. But that's a game where everybody knows you've got to play the best you can do at whatever skill sets you've got. Amateurs don't usually pay very much attention to that. We all tend to think in terms of let's try harder to do better, and therefore offense, but the defense can be a wonderful way of coming out as a success. Back to the

loser's game and tennis again. If you can get the ball back three times on every point, you will win every set for the rest of your life. That's extraordinary tennis for ordinary players. So in the fourth one, don't take it personally. What does that mean? All of us tend to think, if we got it right, that it was because we were brilliantly successful. If we get it wrong, we get angry and irritated and think somebody shouldn't have

done something or something like that. If you're not close to rational, you don't belong in the investment management field. I think the best illustration of that is a beautiful woman at a dinner party which happened to be sitting next to Warren Buffett. Mr Buffett. She said, I am so glad to meet you. I've heard all about you. Now you're a brilliant investment manager. How how did you get to be so good as an investment manager? He said, I'm rational and she said, I'm sorry, but I didn't

quite hear what you just said. Would you repeat that? He said, I am rational? And she's looked at it. Is that all oh, and turn talk to the other person. She's looking for a stock tip. But you know, the secret of success in any line of work is being rational, disciplined, and knowing what the dickens you're doing, and what the world of wherever you're competing, what that world is really all about. And there's no doubt that a lot of

individual investors are not rational. They don't know what they're doing, and they're not prepared for the competition that they meet. We all make mistakes, and the biggest thing we can do to make our successes more frequent is to make fewer mistakes. And the answer to that is don't do the things that lead to making mistakes. For an example, I don't gamble. You've heard that, under stand. Uh. I'm an indexery I believe in indexing. Why because the other

guys are so damn good. They're so smart, they're so hard working, they're so skillful, they're so informed, they've got to access to all kinds of information, and they're really willing to commit any time to making a decision. So I can sit back and say, but they figured it out, but they've got it right. Maybe not perfect, of course, not perfect, but pretty good. Yeah, pretty good, better than I could do, I think. So I'm sad to say that I'd like to be better than they are, but

I'm not. And the other thing I avoid the fees, and those fees well very Let me put it. One day, ten years ago, I had this amazing discovery that I had missed the most important point for a long, long time investment manager. I was an investment committee listening to an investment manager explained how things just hadn't worked out, but it was going to be better soon and on average they were really terrific and so on and so on, And I'm looking at the numbers, and I said, you know,

it's interesting. It's interesting. I have thought for years that fees were inconsequent I just realized they're the big number. How did I get there? Let me go through the drill. It's really interesting. Number one. We all said four letter words, single number. Only one percent. Fees are small. Only is the right word if it's one percent? But what if it's not one percent? What do you mean? Well? What do I mean by that? Is one percent of my assets?

But wait, wait, wait, I already have the assets, so I'm not buying from you the assets I want from you the returns, right, Yeah, yeah, the charlie, you get the returns right? So one percent of assets is how much of a percent of returns? You know it varies a lot? Yeah, but how much on average is it? Well, let's call it fifteen percent of returns? Is a one percent fee of assets? Okay, but I studied economics more than one semester, and in the second semesters at all

prices are relative to values. Yeah, what does that mean? Well, what is the value of active management? And what is the fee for active management? What do you mean by value? Well, I can get a commodity product in the X one for ten basis points one tenth of one percent. So if I want to get a custom tailored active management from a really brilliant, hard working guy who's just marvelous to talk to and terribly well informed, what is he

charging incrementally over that commodity product? Um nighty basis points nine tenths of one percent, maybe a little bit more, Okay, And what is the return? Well, let's assume that he's a very good manager and he's getting a better than market rate of return. Maybe he's on average getting fifteen basis points over the market that would be a worldwide hero um ninety. Uh, the fee is actually running pretty close of the returns. Oh my goodness. You mean he's

getting and I'm only getting. That's right. And what about an average manager. Well, I'm sorry, but the average manager actually gets beaten by the market over the long term. So the fee is actually infinite as a fraction of the incremental value. That's right, Charlie. It's the only service in the history of the world that has a fee that is infinite infinite. Jeff Summer, who Summers, who I

believe is still a Yale Is that right? Had an article in the Sunday Times not too long ago that talked about how many mutual funds are trouncing the market and the answer was exactly zero percent. Well, that's a little bit of a tough article because he said, year after year after year after year, and it is very hard for anybody to beat the market. Significant had top quartile of investment results as his target. To be in the top quartil year after year after year after year

is really hard. So I thought that was and wanted unfair, and and he threw in costs and fees, and that's how he came up with zero percent that he I believe it was. I don't want to misquote him. The phrase was either pernicious or compounded impact of fees. This handful of guys who managed to do it ended up getting bumped out of that market beating percentile because of the fees. The two different things that I think he really is right on. Number one, fees are high, much

higher than people realize. And secondly, that return success it's not a regular repeating thing. So if somebody has had a very good run for three or four years, the odds are stacked against him for the next year. Somebody's had a bad run, but it's pretty damn capable, pretty good chance he will do better next year. A little bit of mean reversion. So let's talk a little bit.

You know, we set something else up ourselves, and I know you're involved in this, uh perniciously called robo advisors, but you're on the board of advisors for health Fronts, right. We have a company called Liftoff that we we've set out in order to give people the opportunity to make very low cost investments that are essentially removing that active management and around allowing software to essentially run Uh the

investment portfolios. How did you get involved with wealth Ront friendship? Uh, it's complicated, but I have a very bright friend who was on the governing board at Yale. Got to know her that way. She introduced me to the idea and they and I had conversations and it just seemed to make sense to see if there is a way to reduce the cost of delivering investment management services to people who just don't have the time to waste paying attention to it, but want somebody to be paying attention and

using pretty simple metrics. And it's not complicated work, but it does help if you're paying, if you're alert and paying attention. So there's a handful of companies like that, Adam Ash at Wealth Front. Uh, there's another company betterment our farm is called Liftoff. There is also Schwab is now running its own robo advisor, and as is Vanguard. Vanguard launched a little late in the in the cycle, launched a robo advisor and suddenly they have five billion

in assets under automated management. They just leap frogged everybody else. Is this going to be the way of the future. I don't know, but I think it's a very interesting opportunity, and I would bet that it will work for a large number of people quite well. You know for sure that there will be a lot of competition. There is now, and they'll be more competition, and so the best quality of service will be the ones that work out over time. And I think that's a very attractive thing for individuals.

And one of the big problems is if you go to an investment management firm and say I'd like to be a clan, the first thing they have to ask you is, well, what are your assets which you don't have? Need our minimum? Can you? And a lot of are one in three and ten million dollar minimums we've seen, which is exciting and wonderful for those who are clients. On the other hand, most people don't have that kind of money and they would like to have somebody who

pay some attention and avoid the big mistakes. So if your attitude mind would be when you're looking for an advisor, what are you trying to do? You're trying to avoid a serious mistake, and the robot advisors can do that at a low cost, and therefore you don't have to pay a high fee. Right the people who have complicated intergenerational wealth transfer issues or complex tax situations. Probably isn't

the ideal fit for them. But as opposed to trying to do it on your own or or being left to um costli or alternatives, it really seems to make a lot of sense. So we're down to our last couple of questions. UM, let me ask you you this, since we were just talking about software. Uh, what has really changed since you joined the industry? What do you see as this everything? Well, it seems to me that's

a pretty good fair summary. The first day I walked into the Rockefeller family office, I was introduced to a Scantlin machine. Interesting product. Jack Scantlin was a technical genius and Lawrence Rockefeller was a venture capitalist, and they had come together to create a company called Scantle and Electronics. And Jack had figured out that everybody who's in the investment business would like to be able to find out what the price of the stock is without calling a broker.

The only way you could find out in those days we call it broker who might or might not remember what was the last price or be able to look up on a chalkboard where a bunch of teenage kids were rapidly trying to keep up with a two million share of day trade volume. Stock market is what was the last price of General Motors IBM and so on?

And Jack Scantlon's idea was punched my keypad with the stock exchange symbol, and I'll print out for you on heat sensitive tape what the price is most recent trade, what the highest price of the day, the lowest price of the day, and even the volume, and you could do that and it was just magical. Well, there were only ten of those machines out in the whole world at that point, and I was able to access one just by walking out of my office and turning left,

and was terrific. It's a long way from there to today with the kind of factual information that's accessible in every minute to everybody who's actively involved in business. The second thing is very few people were involved in research as analysts. Now there are thousands, hundreds of thousands of people all over the world who are really serious about being experts on industries, companies, demography, economics, politics, all kinds

of different facts. So any kind of factual information you'd like to have access to, you can get access by pick up your phone. But you can also get it just by letting the inquiring through the Internet to the people who most recently made contact with you, so terrific factual information. The third thing is regulation has been a huge change in regulation. Used to be that you couldn't do insider trading, fine, but today the SEC requires that

you make all information available to all investors. That really levels the play field. All those different things in there a lot were that you can add on top of that. It's very hard to see the business today as being anything like the business was fifty years ago, except we use some of the same terms. We didn't have digital digitized pricing, We had eighths and quarters and halves, open call out on the floor of the stock change was

so different from what the volume is today. We do a thousand times more trading today than we did a day then, and that's in the cash market or at least as large. And you think, holy smokes, two thousand times as much volume going through that's really something that that, yeah, sure is. And there are all those other changes and not changes that you can add together. They multiply across each other, so the compounding is simply astonishing. We really

take a lot of things. For granted, I'm astonished to think that the price action was essentially invisible to even professionals, and that was a big innovation. Hey, we could tell you what the actual price of the stock is. Yep, that's amazing. My My final question before we let you let you go, and this is a question I asked all my guests, what have you learned about investing that you wish you knew at the start of your career? Oh? Boy,

quite a lot. Uh. First of all, investing is a long wavelength activity, and the fact that the stock exchanges a short wavelength activity, and most of the chatter about investing a short wavelength activity should not distract you from the serious work of long wavelength and real investing is so different from stock trading that you really ought to know. Which is it that you're gonna do. I have nothing against people want to do stock trading for the rest

of their lives. I don't have any interest in that. I'm interested in investing, just a very different discipline. Uh. The second thing is I wish I had known how much fun it would be, because then I would have

settled in with even more confidence to it. Because I've really enjoyed it, and it's partly the activity of the game, but mostly the privilege of working with extraordinarily bright people who are very articulate and very competitive and striving all the time to learn about new things and talking about

new things, and the information flow is simply terrific. And the last it's candidly, I wished I'd realized what a terrific business it is, because if I had understood that, I would not have started Ranitis Associates, where I had a wonderful time. I would have started an investment management firm, and I would have made a larger financial success. And you know what's really sad about it, I would have

been wrong. Because I would have made a larger financial success, I would have had a greater amount of excitement and fun in many ways, but I wouldn't be nearly as proud of what I had been doing as I'm able to be now looking back on the work that we did as a firm for the clients that we served. And that to me is the ultimate expression, because I am ultimately, whether I like it or not, I'm much more inclined towards the professional disciplines and whatever I'm doing

than the business disciplines. I love smart people. I think that's just terrific, but I'd rather work with them on the drive for competition for best ideas than the drive for competition of making the most money. Charlie, thank you so much for being so generous with your time. This has just been absolutely a joy and a privilege. I'm gonna have to ask you to sign some of your

books for me. We've been speaking with Charlie Ellis. He is the author of sixteen books, including most recently Falling Short, Falling Short. I highly recommend reading any of his books. My favorite is Winning the Losers Game. Um. If you enjoyed this podcast, look up an Inch Short, Down an Inch on Apple iTunes and you can see the rest of our our various conversations. Feel free to check out my daily column on Bloomberg View dot com or follow

me on Twitter at rid Halts. I have to thank my engineer Matt Ryan, my assistant producer Charlie Valmer, and my head of research Mike bat Nick for helping put this all together. And most of all, thank you so much, Charlie Ellis. This has been absolutely a delight. Thanks Pare. I've had the most fun you're listening to Masters in Business with Barry rid Holts on Bloomberg Radio.