Stillwater Capital, LLC

New Boss, Same as the Old Boss

April 2024

To the students of the CIS Undergraduate Student Investment Fund, Marshall School of Business at USC

Once again, it’s a true pleasure to have this chance to be with you today. I’ve experienced much in 28 years on Wall Street, and the opportunity to be here on the USC campus handing down my knowledge about markets, the economy, and asset management is one of the highlights.

I sat in that seat you're in three decades ago. Like you, I had a whole new world out there in front of me that I had yet to experience. Stepping off into it can be a daunting task. But it’s daunting for most everyone. You are neither alone, nor special. The latter is meant in the kindest and most helpful way. Entering your career with entitled expectations isn’t setting a strong foundation. And hopefully you won’t.

Listen closely, learn, experience as much as you can, dive down that rabbit hole of intellectual curiosity, and someday you will have grown into the special column of the big Excel spreadsheet of life.

Let’s take another step towards that journey today.

Fight on!

Bryan Goligoski
Ucla, Class of 1995

Hedge fund management, long/short investing, market neutral, short selling, long bias, stat arb, and the list goes on. Is it art, or science? Or is it a combination of the two. It depends on who you ask, and probably how much money they’ve made in the business. And there are plenty to ask. While these are the apex feeders there are plenty of others who will opine. Self-included.

The biggest…

Keep getting bigger…

Before we dive deep in, I’d like to set the stage for participation and success.

Bridgewater, the world’s largest hedge fund, has a policy called ‘radical transparency’. It was founded on these five principals. I would have lasted exactly four minutes at Bridgewater. There probably is a line where ‘radical transparency’ goes over, and I would have actively sought it out.

For today, we are going to use a wimpy version of radical transparency that you are all encouraged, nee required, to air your bubble thoughts. If you have a question, ask it. If something resonates with you, speak it. But most importantly if you disagree, or want to challenge an idea, bring it on!

After the earth cooled, there was Alfred Winslow-Jones. The father of hedge funds. Over the course of ten years in the 1960s, he returned 600% versus the 300% of the Dow Jones Industrials. He was integral in the development of short selling as we would come to know it. His mantra was short expensive stocks, be long value. A novel idea in it's time.

But how would his strategy of shorting ‘expensive’ stocks and buying long value do now? A version of that would have taken you out on a stretcher in the last 30 years. One could make the argument that growth may not be expensive given the underlying prospects of the company. That said, it’s generally agreed that growth tends to be expensive. Bottom line, it’s been a very tough road for that trade, to the detriment of value.

My (Wall) Street cred....
The 'harware' to show for it...
Before we jump in further into the subject of hedge funds. I want to step back and explain a little something about asset allocation and ‘style purity’. Two foundational aspects of success and failure of hedge funds. To lay the groundwork I’m going to use a group of people that I’m lucky enough to call friends. They are the Klein family, from the mean streets of Pacific Palisades.

It all starts with USC football legend, Bob Klein. His job as tight end and receiver was to catch the shorter passes and make a few yards. Just as importantly, in fact more so, be a great blocker for the rest of the offense, especially the running backs. Here he is on the far right of the picture blocking for OJ Simpson on arguably the best run of ‘The Juice’s’ college career. It broke open the 1967 game when No. 1 Ucla squared off versus No.2 USC, and we Bruins never recovered. Notice John McKay on the sideline with his highwater pants and white socks.

I once asked Bob ‘Where were you on that play?’

His baller response, ‘Where wasn’t I.’

It was a statement, not a question.

The lesson here is what was Bob’s job? Catch the ball when called on, and block downfield and off the line more often. Had he racked up a bunch of running yards either Bob was playing at the wrong spot, or the offense was running plays that had ‘style drift’. God forbid he leads the team in tackles, then you know things were Backwards City. If you win, most all is forgiven. You lose, and you can expect to hear about it the rest of your career. Bob had a great career and was one hell of a kick line dancer.

Fast forward twenty some odd years, and along comes his son, Jim Klein. He attended Loyola High School, not far from here. And then onto Stanford. Jim came in as a heavily recruited linebacker and had his choice of schools. He went to the ‘Farm’ and a great career until an injury took him out of the game. While not the best shot of Jim, this one does include his brother-in-law Adam Keefe, a legendary Stanford hoops and NBA player.

Like his dad, Jim played a singular position. His started off as safety, then linebacker, moving to where the chaos and pain was greatest. His job was simply following the eyes of the runner or short yard receiver and hit him as hard as he could when he came through or caught a pass. If during the season Jim became the defensive leader in sacks, something in that scheme had changed or broken down. If he had years where he had rushing yards, he was on the wrong side of the ball and ‘style’ or ‘position’ drift had happened.

If Stanford wins a Rose Bowl, all is forgiven. Do that in a game against Cal, and you are going to hear about it. This is my Lord and Savior, Bill Walsh, explaining how a play is to be run. He coached at both Stanford and for the San Francisco 49’ers. I can hear radio commentator Lon Simmons calling out ‘Montana, back to pass’ like it was yesterday.

Take Jim’s story one more level. Not only was he a standout football player, he also played volleyball. As a strategy, being a two-sport athlete, Jim is now ‘muti-strat’. When Stanford football wins, volleyball might lose Sometimes the same way, sometimes not. But ultimately, they are non-correlated of sorts. Which is what you want, and what the buying market wants as well.

While there is no great old school picture of Jim playing volleyball that i have, there is one of his sister Kristen, and husband Adam Keefe, and their volleyball playing daughters. Another multi-strat in and of itself. Did I mention, their son James also played a little hoop at Stanford.

Long and strong! Goldman Sachs should have collateralized them and created an option market. On Wall Street, this is what that might look like…

Now, fast forward even further and the third generation of apex feeding Kleins is here at USC. Dillon Klein, who may or may not be joining us today, was the number one recruit in the country as an outside hitter. One of the key positions, that in theory should score the most.

In our asset allocation correlation, Dillon plays offense. He is a high beta growth stock manager. His job is to score and score a lot. If at the end of the season he leads the Trojans in defensive blocks, something broke down. Either the middle blocker wasn’t doing his job, or Dillion ‘drifted’ out of position. Not likely with Dillon, as he is a very disciplined player. That said, some teams are just ‘mas macho’ on ocassion…Go Bruins!

Let’s bring this correlation back to what are here to learn about today, hedge funds, how they are run, and how they get allocated to. Each of these styles, many of which are alternatives, play a role. They have characteristics that a Foundation Board, Investment Commitie a Chief Investment Officer, or a financial advisor needs them to play. Market Neutral should have low volatility positive returns. Global Macro and Emerging Markets can have wild swings. And so on down the line.

Even with all the hype around being a hedge fund manager, the payouts, and the stories, performance can leave a little on the ‘to be desired’ side.

 Boom goes the crypto fireworks in 2022.

Let’s start to break down some styles. First up is ‘market neutral’ which has the characteristic of a non-correlated, lower volatility, consistently positive return. It does so with the underlying securities, but more importantly, it does so with one dollar allocated long, and one dollar allocated short.

My first really good year in hedge fund management was 1998 when I hedged off every long position in my book at Strome, with a dollar short. I did so not even know what I was doing, as Mark would tell me. But the volatility of the market that year was such that a dollar short, versus a dollar long felt pretty good.

What drove the vol? Just a little thing where Russia defaulted on its debt and Long Term Capital Management imploded.

Quick digression, you are all a bunch of wimps and living in the Golden Age of 'barely there' credit spreads. 

The global macro OG, and my first boss in the business,  Mark Strome…

Still looking for my ‘finder’s fee’…

Regarding shorting, and to make sure there is a common understanding let me say this, short selling is not a crime, nor un-American. It’s a practice that has few modern practitioners left, but one that is at the heart of long/short investing. This is a technical primer on exactly how one ‘get’s short’.

1.Choose a stock I want to short.
2. Find the ‘loan’
3. Borrow the shares
4. Sell them in the open market
5. Stock goes down, I buy back the shares for a profit
6. Stock goes up, I buy back the shares for a loss.
7. After I buy them back, I return the shares to the lender.
8. Crack a cold one. Celebrate that I hopefully survived a short sale.

The three different types of hedging…

The Pair Trade – I not only like my long position, I like a short against it. In theory, I’m doubling down on my conviction.

The Hedge – I like the stock, I like the market, but I’m not sure of the timing and want some protection from volatility.

The Pure Short sale – You’ve found the stock. You have the story or catalyst, and you go straight at it.

There are several ‘family trees’ on Wall Street of short sellers. Jim Chanos was one. The Feschbach brothers and Jim Fleckenstein also participated. I came off Mikles Miller & Kodiak Capital tree. The firm was founded by Lee Mikles and his partner Mark Miller. During the time I worked for them, we looked to deep dive as much as we could. Never shorting valuation. Most often we would look at the debt structure and serviceability of the cash flows and dividend payment. The quote we lived by.

‘Stocks can tell whatever story they want. But debt never lies.

The Short Book of Ideas, or was it the Book of Shorts?

Le Croix – First to market in the bubble water business, and then the competition caught up.

From $20, to $120, and then almost a round trip back again.

Financials in 2008 – We knew it was going to be big, but we didn’t know how big. It was BIG.

The Wells Fargo/JP Morgan pair. Like a gift from God!

Nothing wrong over at JP Morgan. In fact, there was a lot going right. And the setup for a great pair was in place.

‘My Big Fat Facebook Short’…a modem pork masterpiece

Apology not accepted by the victims of Facebooks business practices, but accepted by Wall Street.

The lipstick on the pig. While I’m still a vibrant idea charged man, I still have to say WTF!

From $350 to $100 in ten months, on one of the most heavily owned hedge fund long positions out there. Read the story behind how the idea came to being, and how it worked. I’ll never forget where I was on January 24, 2022. It was right here.

The tragic tale of Melvin Capital, and the meme stock revenge.
Coming in, these were simply great numbers for a short biased hedge fund manager, but then came the meme stock squeeze.

The GameStop Squeeze

This is what a short screen looks like. Beware the most heavily shorted.

The Herbalife saga, Bill Ackman on the short side, Carl Icahn on the other. That’s what makes a market, as they say.

All of us short sellers were short HLF at one point in the game. The pyramid scheme nature of the business was like Jack Daniels to a guy with a drinking problem

But Bill Ackman bailed out too soon, and Icahn stayed at the party too long. Maybe?

The Long Side - Are you a growth, value, special situation investor, or maybe something else?

It usually starts with a quant screen, drops into a quarry of stocks the look interesting, some work on understanding valuation and growth drivers, and then a thesis. It’s very similar to how a long only manager would pick his own long book.

Bill Ackman’s Book

David Tepper’s Book

Tiger Global and Chase Coleman’s Book

Tiger Global juiced returns with private equity and venture capital laced throughout the portfolio. Though that slowed down massively after the implosion in 2022.

The implosion…

What that did to AUM, management fees, and their high water marked performance ‘rake’.

Why are most managers long biased? It’s the easiest, and they all can own the same things. And oftentimes do.


Six years later, not much has changed.

Why are they like sheep, not like lions? Because they are lazy, index huggers, but still get to clip billions in performance fees. Too much? Probably. But if you say enough times with confidence, it becomes true. Just ask George Soros. Remember, Ackman has a long book of ten stocks. How come I can’t own ten stocks and make $600 million?

The rumors of my demise have been greatly exaggerated. The big names have survived, and so has the industry.

Applying the lessons learned in public markets and hedge funds to the side gig that has become the real gig, Skinny Dips & Salsas.

                                            Unique Product = Yes
                                            Distribution = Yes
                                            Demand = Yes
                                            Margin = Yes
                              Balance Sheet = Work in Progress

                                        Is that the end of the story?
                   ‘Nah. I’m a million dollar produce, just getting started.’

Thumbs Up & Fight On!