Now let's continue this.
Someone says, "I want to find someone willing to give me 100% backing."
Okay fine. But here you are presented with a chicken-and-egg problem:
If you already have a strong enough / deep enough track record to garner 100% backing on a meaningful level, then you don't need to consider a funding program in the first place. You can just hook up with the right marketing consultants, plug yourself in at the right networking events, do a decent job of selling yourself, and gather your capital from HNWIs or set up a deal with Tudor or SAC or whatever.
But here is the thing:
There are successful traders out there who know what they are doing works... and believe in their program to sufficient degree to want a shot at the big time... but nonetheless aren't trading enough capital, or haven't been trading it for a long enough period, to get the attention of high net worth investors and institutions.
Consider: Capitalization is a real hurdle. No institution wants to be the first to put a million bucks into your fund. Most high net worth investors don't want to be the "big fish" either. It's a lot easier to raise capital in, say, 500K and 1MM increments if you are already running a couple million.
And this is EXACTLY where a first-loss funding program comes in. Take the following hypothetical, but realistic, scenario:
- You are a successful trader with a personal asset base of 500K.
- For the past few years you have been grinding out 30% returns with 10-15% drawdowns.
- You believe in yourself and your methodology. You would like to scale up and get bigger, because 30% on 500K is, let's face it, not a whole lot after taxes and inflation. You're making about as much as a dentist, but with far less job security. There is something fucked up about that.
- You decide to put 250K of your capital into a first loss program and trade it against a $2.5MM allocation. In doing this, you also reduce your notional position size so that max drawdown will fall in the 5 to 7.5% range, instead of 10-15%.
- Via first loss, you are risking 250K of your own capital over the course of your first year in business.
But, in so doing, you are betting on yourself and your future.
- If you have a good year -- as you fully expect to, and most ANY startup or fund needs a good first year to take off -- then look what you have achieved:
* You have significantly increased your own earnings (via capturing a chunk of profits on $2.5MM).
* You have developed a year's worth of trading
with a capital account base in the millions, making it easier to attract high net worth investors who prefer not to be the first million.
* You have established a relationship with a funding provider who
is also in the business of making traditional investments in successful managers, once they have proven themselves.
In essence, you have risked 50% of your capital base -- making a logical bet, on your methodology and yourself -- with the chance at graduating from "small time" (individual trader) to rapidly emerging hedge fund manager, with an AUM that could ultimately grow from $2.5MM to $50MM, $100MM, or whatever your outer strategy capacity is.
Everybody wins in this scenario. You win because you went from being a 500K solo artist no one ever heard of, to running millions or tens of millions in AUM via making an intelligent bet on yourself. The funding allocator wins because, even more so than splitting profits on your initial funding, they have found an excellent new manager to invest in.
And, if your program is strong enough, you now have the connections and viability to potentially garner a seven-figure outside investment in the fund itself... someone who wants to buy a piece of your management company, who can also make MORE introductions to the right investors, the right networks, and so on. (Raising capital is a people business!)
But of course, you don't have to sell ANY of your management company (the fund itself) either... you can keep it all to yourself if you choose to.
That's another great aspect of the first loss program. If you really believe in yourself, you would RATHER take the risk -- which is manageable -- if it also means you maintain 100% ownership of the biggest winning trade you ever made (the newly established fund itself, with a multi-million-dollar track record accrued).
Not a bad upgrade from starting out with a dentist's take (150K).
There is just one catch though, but it's not really a "catch" because we all knew it anyway: To make a play like this, you HAVE TO BELIEVE IN YOURSELF and you HAVE TO BELIEVE IN YOUR PROGRAM.
These guys who want others to throw money at them without taking a risk themselves... I mean how the fuck does that work?
The typical hedge fund manager who goes out on his own, starts his own shop, already takes serious risk along these lines... career risk, capital risk of starting up an operation, going without other more stable sources of income, and so on.
Asking someone to put up a portion of their own risk capital as first loss, and to trade in such a manner that drawdowns will stay inside 10% (their own allocated piece), while giving them the HUGE upside that comes with success, is not at all a bad or unfair deal. And in fact, if the allocator has the right connections, it's a fucking GREAT deal... how many sources do you know with the capitalization and willingness to hand out millions of dollars, potentially stake you for even more on straight up investor terms, and then legitimately introduce you to tens or even hundreds of millions MORE on top of that?
Again, the "catch" is that you have to be a damn good trader with a damn good program, good enough to believe in yourself (and yes, good enough so that you have enough capitalization to put up a chunk as risk on yourself)... but is that really a "catch" at all? Isn't that just the deal we know and love called capitalism? Unless you're a trust fund baby, you don't get rich by any other way than taking bold, calculated risks.
Ok, thanks for interrupting my evening workout. Back to the weights
