Taleb's Pessimism Lures CIC
China's Sovereign-Wealth Fund Is in Talks to Invest in Universa's Bearish Wagers
By JENNY STRASBURG, Wall Street Journal
Prof. Nassim Nicholas Taleb was in his native northern Lebanon last week, thinking about instability in the pricing of goods and services. He also was shopping for olive orchards.The mathematical finance scholar who lectures at New York University and wrote the 2007 book "The Black Swan" said he is as pessimistic as ever about the prospects for sustained global economic recovery. He suggests that investors around the world strap in for a wild ride of deflation and inflation. And, therefore, he said, it makes sense for him to pour money into farming, especially olives, which are indispensable to the Mediterranean world.
"Healthy investments are those that produce goods that humans need to consume, not flat-screen TVs," said Mr. Taleb by phone from near his family's ancestral home in Amioun. "Stocks are not a robust investment. Make sure you have a garden that bears fruits."
Some of the world's biggest investors are planting the same seeds. The Santa Monica, Calif., investment firm Mr. Taleb helped start and still advises, Universa Investments LP, is in talks with China's $300 billion sovereign-wealth fund, China Investment Corp., and Middle East government funds about investing in Universa, according to a person familiar with the matter. Specifically, sovereign-wealth funds are willing to pay the firm in the hopes that if the market dives, at least some part of their portfolio will profit.
Panic is a profit-driver for Mr. Taleb, who has gained renown for his pessimism, a viewpoint that proved prescient in the market collapse of 2008. The interest from the likes of the Chinese and Middle East funds, which control some of the world's biggest pools of money, suggests more mainstream adoption of Universa's bearish conviction. Some of the world's biggest investors are planting the same seeds. The Santa Monica, Calif., investment firm Mr. Taleb helped start and still advises, Universa Investments LP, is in talks with China's $300 billion sovereign-wealth fund, China Investment Corp., and Middle East government funds about investing in Universa, according to a person familiar with the matter. Specifically, sovereign-wealth funds are willing to pay the firm in the hopes that if the market dives, at least some part of their portfolio will profit.
The outcome of the talks isn't certain, according to a person familiar with the matter. But if the investments materialize, they likely would boost the Universa fund's client assets from $6 billion to about $10 billion, two people familiar with the matter said.
CIC didn't respond to a request for comment. Mr. Taleb said he couldn't discuss Universa client talks. But he has consulted with several sovereign-wealth funds about his "black swan" philosophy in recent years.
Such an approach represents an extreme downside hedge for China, whose export-heavy economy depends on global growth.
For investors wanting to guard against such events, Universa started the Black Swan Protection Protocol, a vehicle different from a typical hedge fund in that clients don't hand over their entire account for the firm directly to manage. Instead, clients designate a certain pool of assets, a notional value, that they seek to hedge, or protect against extreme losses.The term "black swan" refers to a long-held belief that all swans were white. Explorers then discovered black swans in Australia. The image came to reflect the occurrence of something highly unexpected, including events that could make markets nose-dive.
For example, a client with a $100 million account with Universa would pay the firm a flat annual fee of 1.5% on that amount, or $1.5 million. The client would transfer to Universa typically less than 10% to fund its account in the strategy.
Universa is run by 39-year-old Mark Spitznagel, a former Chicago Board of Trade pit trader and longtime collaborator with Mr. Taleb. His five traders buy put options on specific stocks and stock indexes.
The goal is for the value of the puts to pay off 60% if the market drops by 20% or more in a month. A put conveys the right to sell a security at a specified price.
This year, Universa clients on average have lost about 2% of their notional account value, one person familiar with the matter said. This year's volatility hasn't been extreme enough, or its losses steep and sudden enough, for Universa's strategy to pay off.
Universa's clients also lost money last year, when the Standard & Poor's 500-stock index gained 23%. At year-end, client portfolios were down an average of about 4%, one person close to the matter said.
But 2008 was different. That year, extreme market losses helped many Universa clients profit more than 100%.
Universa's marketing pitch continues to be that something like 2008, or worse, will happen again.
"We break even, or lose tiny amounts or have tiny returns, for a very long time, but we know it's going to come," Mr. Spitznagel said. "I couldn't possibly be more negative on the markets."
Late last year, Mr. Spitznagel also launched a fund betting on a steep rise in inflation. That fund, which has remained flat this year, suffered losses in recent months betting against Treasurys.
Government-bond returns are up about 8% since the start of the year, according to Bank of America Merrill Lynch Indexes.
"The biggest home run would be if we went into '70s-style or worse inflation," Mr. Spitznagel said. "If I had a gun to my head, right now I'd fall on the deflation side, but that's going to flip at some point."
The Black Swan inflation strategy has less than $1 billion in client assets. Clients might have to tolerate steady losses in order to reach a hoped-for bonanza.
If the Black Swan Protection Protocol reaches $10 billion, Universa would make $150 million in management fees alone. The firm also is entitled to 20% of profits, according to fund documents.In 2004, Messrs. Taleb and Spitznagel closed a previous fund, Empirica Capital, after two years of mediocre returns.
Meanwhile, Mr. Spitznagel has jumped into the farming life as well, buying a few hundred acres near Lake Michigan, where he has a vacation home. He is growing cherries and apples, and planning to raise goats.
Mr. Spitznagel calls it self-sustainability, which, he said, is another good hedge.
Write to Jenny Strasburg at firstname.lastname@example.org