We’re taking flight and zooming over to the big bend for a cheerio chat with Charlie McGarraugh, an ex-midwesterner turned londonite. Charlie is the Chief Strategy Officer at Blockchain.com and has an impressive resume as a former mortgage-backed securities trader, head of metals at Goldman, founder of an algo sports betting company, and more. In this episode, Charlie dives into living across the pond (in the metals and commodities space), starting the world’s LARGEST Bitcoin wallet (and selling it to blockchain.com), what’s going on in the Crypto space and what’s to come, and rebuilding and retooling a robust trend following CTA like Altis. This episode is hotter than your favorite Fish’N’Chips — SEND IT! —— - - _____ ___

 

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Check out the complete Transcript from this week’s podcast below:

Algorithmic Sports Betting, Trading Metals to Trending Commodities, & Crypto’s Future with Charlie McGarraugh of Blockchain.com

Jeff Malec  00:07

Welcome to the Derivative by our RCM Alternatives, where we dive into what makes alternative investments go analyze the strategies of unique hedge fund managers and chat with interesting guests from across the investment world. Happy. Well, you know what I had a tough one deciding both national strawberry rhubarb pie day and national Donald Duck day. I do a pretty good Donald Duck. Bah bah bah. But also let me a good strawberry rhubarb pie. So maybe we say Happy strawberry duck Pie Day. And speaking of random, make sure to go check out me on the Mutiny investing podcast and our Part Two breakdown of the EQ derivatives conference. And back on this channel, we’ve got a bunch of good guests coming up here. Benn Eifert, Nancy Davis, Vincent deli Warren some energy folks to talk $120 oil and more so go subscribe so you don’t miss a beat on to this episode where I got to zoom over to cheerio England and chat with Charlie Maghera. The chief strategy [email protected] but also a former mortgage backed securities trader had metals at Goldman founder of an algo sports betting company and no yeah buying into trend follower alt as partners few years ago before trend was as thing in town. What a CV and what a chat. Send it. This episode is brought to you by our CMS manage features group and their newest white paper title. Your Guide to trend following today’s guest is sub divisor to a trend following fun. How do they do it? Why did they do it? When does it work? When doesn’t it? Ping the team at RCM to dig in. Check out everything RCM does and download that trend white paper @ www.rcmalts.com And now back to the Show

 

All right. Hello, everyone. We’re here with Charlie. Maghera. Did I get the pronunciation right? You did? Welcome.

 

Charlie McGarraugh  01:58

Hey, thanks for having me.

 

Jeff Malec  01:59

And where you’re there in sunny London, it

 

Charlie McGarraugh  02:01

looks like Sunny, delightful London.

 

Jeff Malec  02:04

We’ve been trying to compete with you for it feels London last year, we hadn’t had much sun in the last like 40 days. So you guys probably have bid us here in Chicago?

 

Charlie McGarraugh  02:12

Oh, yeah. Well, that’s a pretty low bar to beat a

 

Jeff Malec  02:17

pretty low bar. So you’ve got some great entries in the old CV there. So I wanted to dig into some of them. So, gotta start with 16 years at Goldman wasn’t?

 

Charlie McGarraugh  02:28

Yeah, I joined Goldman Sachs right out of undergrad and was a trader there for quite a long time in many different markets.

 

Jeff Malec  02:36

So right the the cynics would say you must not have a soul after being there 16 years. So what’s the reality of being there for that long being a part of finally being made a part of their versus like the vampire squid perception that the outsiders seem to have?

 

Charlie McGarraugh  02:52

Well, I, I loved it, you know, trading floor, you know, it was my happy place. You know, as a as a little kid, actually, once my mother brought me on a trip to Chicago for the weekend. And we got there, I think on a Thursday or Friday, and I saw stood in the gallery above the pit. And, you know, with my face pressed up on the glass, and I pointed down at the guys in the Blazers and said, That’s what I want to be I want to do that. I want to be where the action is. And, you know, living on a trading floor. You know, turned out I was going to end up part of the Manhattan School of trading rather than the Chicago school of trading. But life on a trading floor really suited me I just really always enjoyed the the intellectual challenge of it. The excitement, the fast pace, the quick feedback loops of pain, and in learning and occasional wins. And yeah, just I had a great time.

 

Jeff Malec  03:45

Were you ever tempted to go? Try your own hand to be your own trade your own money and one of the pits?

 

Charlie McGarraugh  03:51

No. Yeah, I joined Goldman right out of undergrad, I think I had this kind of revelation as a student, which was in a Mathematical economics class. It was like, wow, there are people who use calculus and statistics to make money. And I was like, I know some calculus and statistics and I don’t have any money. So maybe I could do that. That’d be cool.

 

Jeff Malec  04:09

Where was undergrad? Yale. Yeah. And where was your mom bringing you up to Chicago from

 

Charlie McGarraugh  04:15

from St. Paul, Minnesota, where I’m originally from home. All right, another Midwestern?

 

Jeff Malec  04:19

Yeah. So I always tell people that the scene like in Ferris Bueller, right, where they’re mocking the hand signals and doing all that stuff. So you remember where you’re at the Board of Trade or the mark?

 

Charlie McGarraugh  04:30

I think it was the Board of Trade.

 

 

Jeff Malec  04:32

Got it? Yeah. Which is all gone now. Mostly. Just a bunch of servers now. So for you, it’s like whatever the Outworld the inside world of Goldman, which is a good place, like people are nice to each other and they’re all trying to do the same.

 

Charlie McGarraugh  04:47

You know, I do actually have, you know, complimentary things to say about my time at Goldman. i It was a very good place to learn to build a career to really have a front row seat to the whole Why’d world you know, travel I was, you know, just a kid from the Midwest and, you know, it was a place that rewarded hard work and capability. And yeah, it was good. Now, obviously, like in like in any high end profession, there are times when you have to make judgment calls that an exercise personal integrity and there are obviously many examples all over Wall Street, not just to Goldman but everywhere, but people making bad decisions. You know, I hope that over my time there and in my subsequent career, I’ve tried to, you know, act with high integrity and make good decisions. But, ya know, I think it’s pretty unfair to characterize an entire institution by you know, its worst moments.

 

Jeff Malec  05:46

Yeah. When I think they get their like, get the right all of Wall Street greed, for lack of a better term seems to be like, Oh, Goldman, they hold that up as the,

 

Charlie McGarraugh  05:55

yeah, it’s a bit of like a caricature, I suppose. But I think the reality is, you know, look, it’s a competitive place. I’m not going to beat around the bush on that, obviously. But I found it to be, you know, a tremendous, tremendous resource for for learning and, and really growing as a professional.

 

Jeff Malec  06:12

Did you know, Michael cow there? I think he was on the commodities desk.

 

Charlie McGarraugh  06:18

Nope. I spent the first 13 years of my career in fixed income trading first as the first default swap traders at Goldman, actually. And then. Yeah, and then I moved into mortgages, and oh, eight, to clean up messes, of which there were many. And then they sent me over to London and Oh, nine to clean up other people’s messes. And the European banking system, which was an even bigger mess,

 

Jeff Malec  06:42

which was, and what did that look like? You were actually figuring out which mortgages were good, which tranches were good, which were bad.

 

Charlie McGarraugh  06:48

Yeah, yeah. It was like, it was really interesting and very different than commodity trading. Because mortgage backed securities in 2008, and 2009. It was like, extremely complicated product, but pretty simple market structure. It was like, a bunch of banks bought these things, and now they can own them anymore. Yeah. Whereas you know, commodities, it’s like, look, at the end of the day, it’s a lump of molecules, pretty simple product. But man, the market structure is so complex, and there’s so many different folks with so many different agendas and information flows, it’s like, it’s a totally different challenge.

 

Jeff Malec  07:19

And then that was one of the best trades coming out of like, oh, nine forward, right, returning all this? Yeah,

 

Charlie McGarraugh  07:24

for sure. Yeah. I mean, we, you know, we, because the American banks sorted out their problems, before the European banks did, they were able to act rationally within the opportunity set. And, you know, we built a really great client business and distressed on European asset backs, basically, and built a whole client business there, who

 

Jeff Malec  07:47

is buying those institutional investors or they get

 

Charlie McGarraugh  07:51

it went in waves. So it started with, you know, super distressed hedge funds. And then as the market sort of realized that securitization wasn’t like a flawed, you know, instrument, on first principles, and it just had some misalignments in the market structure. You know, there were successive waves of basically different participants coming back into the market started. So it started with the distress guys, then there were some crossover, real money and asset manager types. And then there were some more sort of liquid markets hedge funds. And then finally, the banks themselves in the insurance finally got back in. But that’s that process took like five years to unfold.

 

Jeff Malec  08:34

You keep any tabs on that market? Like what’s, what’s its size versus the peak coming into the Oh, eight? Mess?

 

Charlie McGarraugh  08:40

No, I don’t know. Actually, it’s been it’s been a while I’ve been out of it since 2013. So but I would say this, right, which is, when you think about the size of the European banking system, as you know, total balance sheet as a as a multiple GDP, it’s like Forex. Whereas in America, the banks are like 1x GDP in terms of their balance sheet. And that difference is because the American capital markets are just so much more robust and mature. You know, if you don’t have good capital markets, you just put everything in a box and centrally control it and that’s a bank, right? And every European country has its national champion, and it’s a totally different kettle of fish in terms of how the financial system works, when it’s just a banking dominated model, as opposed to a capital markets dominated model. And those are you know, this very interesting right and

 

Jeff Malec  09:25

that would speak to why those banks needed to be saved perhaps right with the even more so than in the US during the for sure into crisis and all that of why they got propped up and you’re sure was the first step negative rates and all that. Yeah. And

 

Charlie McGarraugh  09:38

I think that’s why it just took so much longer and is continuing to take a long time to normalize the European banking system post crisis.

 

Jeff Malec  09:46

Does that have a good ending? Do you think like, can they ever even get out of it?

 

Charlie McGarraugh  09:50

That’s the existential question of like, is the Euro zone sustainable? I’m gonna punt on that one, you know, over the years. It’s funny as an American expat in Europe. You sort of first reaction, you kind of you’re like, this will never work, right? And then you kind of actually get into it, see how it all happens and everything, you’re kind of like, okay, they just have a different system. And then another year or two goes by, and you’re like, this’ll never work.

 

Jeff Malec  10:13

And that cycling back, yeah.

 

Charlie McGarraugh  10:15

But you know, here we are with the Euros still still trucking along. So, you know, we’ll see.

 

Jeff Malec  10:21

Just along those lines, where it was when you went through Brexit and all that, were you going around in circles with that to have like, this is the end? Well,

 

Charlie McGarraugh  10:28

Brexit was interesting, I’d say like, at the time, I, you know, I moved into commodity trading. In 2014. I was a class of 2012, partner at Goldman, largely on the back of the success in the sort of distressed trade and in fixed income, they moved me into metals, which was a totally different kind of market. And when where I, you know, I had to be a quick study. And I wouldn’t say like, I covered myself in glory at the beginning. But yeah, by the time Brexit came around, you know, it was pretty interesting to see in the market, including internally at the bank where I work, but I’d say this is true everywhere. There was a sort of failure to conceive, you know, that, like, the dissenting view versus the elite consensus could actually carry the day. And so that was a tremendous trading opportunity. And so,

 

Jeff Malec  11:22

it strikes me is that that gomovies, like, hey, you’ve been doing all this mortgage stuff, go run metals, right. Like, it seems like a weird switch, right?

 

Charlie McGarraugh  11:31

No, I think, you know, look, I think, I liked interacting with clients, they wanted to, you know, somebody was a franchise builder, and it was quick study. And, you know, I was always, you know, asking for more opportunities to learn. So, I guess I just sort of was so annoying that they had to give me something interesting. And I’d say, definitely bid off a little bit more than I could chew, at least at the beginning. But, you know, it’s, it’s, it was a good journey.

 

Jeff Malec  11:56

And who are those customers, you’re telling me like Glencore is, and Alcoa is, like the biggest metal producers and traders? Yeah. Well,

 

Charlie McGarraugh  12:03

I think it’s really interesting, because in these commodity businesses, you have they’re quite different than most of the other businesses in the client bases that that the big financial institutions face like and you know, mostly, in big institutional trading businesses, you’re facing other financial institutions. In commodity world, you’re facing operating businesses in the supply chain. And so and so I’d say one of the most interesting things, and I think a creator big opportunity, actually, that continues probably to be a creative opportunity is the people who are commodity specialists, they grow up learning about supply chains, and inventory and storage, and freight netbacks, and all the good stuff and supply and demand and, you know, surplus and deficit, all those great things. Right. But the understanding of like, financial conditions and balance sheet conditions, I think, is generally and CAPEX cycles, it I think, is and how and how cost of capital relates to that, I’d say is like, less than in fixed income world. And then the, you know, the fixed income and equity guys, I don’t think really understand, you know, all the nuances of what it takes to deal with, you know, physically settled stuff and, and stuff. In other words, like, most of the financial world is focused on the balance sheet. Commodity worlds focused on the income statement. Yeah. And, and I think, I think that’s a really, you know, really interesting learning curve. And he said that you can navigate both I do think it’s can create some, some trading opportunity.

 

Jeff Malec  13:34

And just to dig into that more, you’re talking, like, if I’m a producer, I’m trying to hedge, I can have a duration mismatch, I can have a cash flow problem, right? If I get a margin call on my hedge, where’s that?

 

Charlie McGarraugh  13:45

Or even just like, I mean, at the time, right, in 2014, or whatever. It was sort of, like, what do you do as a mortgage person looking at the metal market? You’re like, Okay, I’m gonna think about this the way I think about trading, you know, value and credit, which is like, which is like, Okay, pull apart the models that people use, try to understand where the bad assumption might be. Right. And what I found in 2014, was when people underwrite the supply and demand and base metals, right, they only had a Chinese demand growth assumption. They didn’t have a Chinese demand assumption, which reminded me a lot of when I sat down and mortgages in 2008, to unpack the housing models, and it was like, we didn’t have a house price assumption, we only had a house price appreciation assumption. It was like, oh, you know, history doesn’t repeat, but it rhymes. And then and then starting to dig deeper into the understanding of the way that supply chains and working capital is financed with wealth management products onshore in China and kind of digging into an understanding of the Chinese banking system better. Did definitely give us some edge trading based models from the short side.

 

 

Jeff Malec  14:49

Yeah, and what what what percent of your life became China just as metals and their economy driving all that?

 

Charlie McGarraugh  14:57

Well, it’s an interesting one, I think, um, I think there was an operator Unity in those days to kind of be focused on rest of the world and go, Hey, you know, China is a big place full of many, many human beings, competing incentives and all kinds of different things. And I think there’s a tendency on Wall Street to kind of be focused on a sort of causal model of the world where it’s like, the Fed decides, and everything follows through in a sort of chain of causation. And so when you say like, here’s this whole, like, completely orthogonal thing, that’s massive, and matters. You know, I think there was an opportunity to be valuable to the clients basically telling that story, helping them understand and then having the ground game to degree onshore and really having some insight there. Because that information was, you know, was not able to flow about that easily between the systems.

 

Jeff Malec  15:50

What we’ve seen in other markets, though, they tend to game their, their purchases, and they’re right, so that the Chinese trading houses are probably killing it a lot of times of like, working with the government to say, Alright, we’re gonna pull back on our hog purchases. No comment, no comment. Yeah, that seems like a good trade, if you can pull it off. Moving on, then you went to stratagem after all this Goldman time, which was a sounds like a job I’d want to have. What is an algorithmic sports trading company?

 

Charlie McGarraugh  16:25

What do you do so so at Goldman, I, you know, I was sort of like, Ooh, you know, my long term goal in life is to be the best speculator, sorry, from a professional perspective. My long term professional goal in life is to be the best speculator and trader and student of the market that I can possibly be. And I started to, you know, see, kind of in this sort of manual trading mode, that a lot of what was going on in levered liquid stuff, like FX and commodity futures and stuff was really systematic, and I needed a better education and systematic trading. At the time. Also, there was a lot of hype around machine learning, and AI, if people didn’t really know what that meant. And I wasn’t really gonna have an opportunity to get tooled up on that skill set. You know, running a big franchise business like Goldman, there were people who did that far better than me. But, and so I was just sort of ready kind of, to take the next step in my own personal kind of journey and do something a little crazy. So I quit, and became an AI back this, my friend, my friend had founded the company and was convinced that machine learning could be used to predict sports events, which is true. It can be, like, betting on sports betting, yeah, yeah. And we were like, cool. We’re gonna build like a sports betting, you know, electronic AI driven sports betting syndicate. And, you know, that was really attractive idea, because the sports bet is like a 90 minute duration asset, right? So if you’re good at it, the business is all income statement and balance sheet, right? Because it’s just high velocity. Right, like any other kind of higher fund prefer the

 

Jeff Malec  17:56

machine learning Quick, quick feedback. Yeah.

 

Charlie McGarraugh  17:58

So we were like, cool. And, you know, it’s hard to hire data scientists. But if you tell them, they can wear jeans and like, look at soccer matches all day, you know, then they’re probably cheaper. Right. And so that was kind of the theory. And I think it was a good theory. The problem is we it turned out that like, is that and there are some people who do a really good job at this. It’s just, they’ve all gotten there a little bit earlier. And there were a couple of problems with that idea. One issue is, sports don’t change. So seasonally, you know, the uncertainties, the entropy increases and decreases as you get more data points over the season. Right? But the science is sports prediction, because sports never change, it’s a totally stationary problem just continues to sort of get evermore efficient. The second problem is like any data scientists, the second thing learn Python, like a huge portion of the first thing they do is build a sports prediction model. And so the barrier to entry is quite low. And there’s no advantage to having balance sheet, right? It’s just like, it’s just like, you know, anybody can show up and then so the market never gets dumber, and anybody can show up, and it’s basically no barrier to entry. And then most importantly, it’s not really a financial market. Right? It’s an entertainment product. And so the vast majority of the flow is b2c flow that just never sees the light of day, right? In secondary trading, it just sort of gets internalized by the people who are good at aggregating the flow and and so it’s just there are some people who’ve made it work, but for for me, it was just it wasn’t going to be the greatest business model. And so I decided to pivot it to crypto because this was like 2017 now and and it was like, well, we have all these guys who are good at building you know, engineers and data scientists are good at building integrations with dodgy people on the internet. Right? So we might as well like pivoted into into into into crypto and crypto is like anything but a stationary problem. The market structure is constantly changing. You know, super dynamic market, you know, a lot of nonsense in the space but also like a lot of intellectual depth in this space. So I was like, Cool. I built the, you know, the right tractor, maybe on the right farm, maybe not. But like, this other farm is also probably probably pretty productive. And so. So we began the process of pivoting in early 2018. And then, and then I ended up selling the company to blockchain.com. In late 2018.

 

Jeff Malec  20:21

Internet was doing this analytics basically microstructure Analytics

 

Charlie McGarraugh  20:25

was with the sports company we were doing well, when

 

Jeff Malec  20:30

it became into crypto. Yeah, no. Yeah.

 

Charlie McGarraugh  20:33

I mean, we like blockchain.com was, yeah, we were going to do is sort of like medium latency and low latency and high latency trading, basically. And, yeah, so when we sold it to blockchain, Blockchain needed engineers and data scientists and blockchain.com at the time was pretty small London based, but it was the world’s largest bitcoin wallet and had the early vintages of people who bought crypto back in like 2011 2012 2013 in their ecosystem. That was like, Well, cool, like, crypto is a disintermediation machine. And and like, this is the business that has the private key endpoints, and it’s in the relationship with the private key endpoint. So probably that’s a valuable platform to be able to build on. Yeah, and and so we consummated that merger in 2018. And now I am the Chief Strategy Officer of blockchain.com. And I’ve helped build up a big institutional trading business here. In addition to being the chief investment officer of Office partners, my regulated futures manager,

 

Jeff Malec  21:37

yeah, I’ll come back when it’s like. So you said not many people understood ML and AI? Do you still think Do you think they’re there yet?

 

Charlie McGarraugh  21:46

I do. I do. I think it’s, I think it’s, I think it’s a much more widely understood toolkit. Now,

 

Jeff Malec  21:52

it gets thrown around in the hedge fund space quite a bit. Which, in my experience, a lot of times when it gets used, they’re just using it as a tool. I call it up like, replace 1000. Humans tool, right? Instead of actual AI that’s out searching new, new inputs, per se, they giving it the inputs, and it’s just doing the work. Yeah,

 

Charlie McGarraugh  22:13

I’d say there’s a wide range of ways to deploy the technology. And I think the key to being successful with it is understanding an appropriate division of labor between human and machine for the job, the job at hand. So it really depends on your for for trading, it depends on your style of trading, and how you’re thinking about risk management and what kinds of alphas you’re looking to discover and exploit. And there’s different ways, but at the end of the day, I do think it’s a much more widely understood toolkit, then then it was back in 2020 12, or 2014, or 2016.

 

Jeff Malec  22:47

Yet, we still don’t see that like, basically RENNtech of AI right of like the new super huge hedge fund, that’s all AI and has these models that figure out everything. Like it seems like the promise of finding the the clockwork machine right of figuring out the market is still out there in the near future.

 

Charlie McGarraugh  23:07

Yeah, I mean, who knows if it’ll ever be Yeah, there. The problem is, markets are not stationary and AI is are really good in their current capability of optimizing for stationary problems. Got it? So that’s, that’s the kind of the fundamental challenge.

 

Jeff Malec  23:23

And then did you ever run across Mark Cuban when you’re doing strategy, because he was talking? That was like 10 years ago, gonna launch a hedge fund to do sports betting. And basically,

 

Charlie McGarraugh  23:32

I heard I heard his name bandied around a bit, but

 

 

 

Jeff Malec  23:37

I still think there’s an opportunity now that all these online sports books, and local sports books, all this stuff as that grows, right for like an institutional market to offload the risk, right, like you were saying, they’re internalizing the flows, which basically means right that they’re, they’re just setting their spreads, they have equal number on both sides of the train. But surely, there’s overage every now and then. So there should be some market where they can,

 

Charlie McGarraugh  24:00

there should be right but at the end of the day, like if you’re retaining the customer, do you even care if they win on any given bet, as long as they just come back and bet again, ending with negative edge? As long as you retain the customer? You kind of don’t care? Right? All right. Yeah. I mean, there’s obviously tall trees of risk that need to be clipped because there’s just too much volatility, but I don’t think it’s like, you know, other people may have a different opinion.

 

Jeff Malec  24:21

It’s not a billion dollar business. Who knows? I’ll stick it back in the drawer. So now it’s [email protected] had a strategy and give us the elevator pitch on what that entails. What’s the head of strategy do?

 

Charlie McGarraugh  24:40

blockchain.com is one of the largest crypto services platforms in the world. I guess my job is to help articulate the firm’s strategy. And in practice, that means I focus mostly on institutional, the institutional side of the business So I’ve worked very closely with the the rest of the C suite on all kinds of different initiatives in the company to come in a

 

Jeff Malec  25:08

capital. And well,

 

Charlie McGarraugh  25:10

product risk management, people, you know, all those things, what sort

 

Jeff Malec  25:15

of institutional interest is starting to come in? Right? Like for a long time that was like, oh, once institution start trading and start investing, it’s going to be huge.

 

Charlie McGarraugh  25:24

I think I think this is the least reported story in the crypto market, which is that sometime in the last two years, the idea that crypto is like, converging with macro went from a completely fringe theory to basically common knowledge in you know, the upper quartile of professionals in both sides of the spectrum. Right, like, like three years ago, if you’d said, like, cool. I sit with Bloomberg on one screen, and like all the crypto stuff on the other people have been like, You’re crazy. Yeah, yeah. Now, it’s like, that seems entirely natural, right? And that’s a huge change. Right? I think it all kicked off with Paul Tudor Jones, kind of unpacking the fastest horse and worried about inflation and backing the fastest horse and that’s Bitcoin. I think that just had a sort of inflection in the sort of psychology of at least the Western traders. Now, crypto is a big market. It’s not just, you know, a bunch of people in Chicago in New York. It’s a it’s a big global market. But I do think it had a pretty important impact on kind of professional traders in the States, at the very least.

 

Jeff Malec  26:24

May you still see, like, we had a fund that trades, not even Bitcoin futures. That was getting put through Schwab private fund, they wouldn’t onboard it, because in the offering docs, it said crypto derivatives. Right. So there’s still some legacy things of like, oh, crypto scary. We’re not going to take it.

 

Charlie McGarraugh  26:43

Oh, yeah. I mean, there’s still a lot of wood to chop, I would say in the climbing the mountain of institutional, institutional adoption. But I don’t think many people question the premise anymore. Right. And I think it’s really for two reasons. I think, for one reason, it’s sort of like, wow, people have made a lot of money on this stuff. And so I think, a healthy portion of the street, you know, the traditional street says, like, okay, it’s just another widget to trade, we know how to trade widgets, right? It’s an FX, it’s a commodity, it’s a it’s a, it’s an equity, whatever, pack it up, and go make go make the fees that are on offer, right, which is like totally a viable business, you know, business proposition for what it’s worth. But the thing is it while it is just another way, it’s not just another widget, it’s also a set of financial technologies that portend a transformation of the market structure to be more disintermediated, reduce the cost of instantiating, new markets in new things, and ultimately expand the scope of what’s tradable and has price discovery. It’s sort of like, what new things are going to trade in a world where peer to peer value transfer. frictionless, is a ubiquitous feature in all software. It’s like, wow, there’s probably gonna be a lot of new markets to trade. Right? You’ll need a lot of software to do it. But I think that’s true trading in any in anything these days. So. So yeah, so I think it’s a pretty exciting time. And I think, you know, we see, we see a variety of levels of kind of sophistication of an understanding of it. But if for no other reason than just the pure profit incentive, I’d say a lot of people are, you know, taking it quite seriously these days. That we see it, we see it every day.

 

Jeff Malec  28:27

That’s my pet theory is that it was a couple of Chicago prop trading firms that just were like at a bar and we’re like, I’m a better trader, I’m better trader and like, well, let’s create some digital thing that we can trade improve. Who’s the better? The better trade? We’re recording here on May 10. What is it may 10. Amid some crypto carnage, the USD broke its stableness. I don’t know how you say that. Um, so give us kind of your view on what’s happening over the last week or so in crypto, what’s happening today? Opportunity threat, what are your thoughts?

 

Charlie McGarraugh  29:06

Yeah, so I think, um, I think that it’s a it’s a crazy world out there. It’s red in tooth and claw and crypto, that’s for sure. The volatility is high, the leverage that’s on offer to certain segments of the market is also high. And unsurprisingly, you get extremely volatile price action, I think that happens in conjunction with a space that is rapidly innovating lots and lots of new experimental models, right and churning through them kind of going like maybe this or maybe this will work. Maybe this will work. And it’s sort of like, build something, put it to the test of the market, find out what happens. And depending on what level of community adoption there is, you know, some of these things work and some of them don’t. Now, I think it’s pretty interesting. Like when you’re printing your own working capital layer on a thin thin air, right, there’s kind of like two stable equilibria one When when equilibrium is, nobody finds it that useful and it just sort of collapses down to net asset value of whatever’s backing it. And then the other stable equilibrium is everybody finds it useful. And then it just has a bit on its own. Like that’s happened with Bitcoin. Right? Yeah. It’s happened with Aetherium. Yeah, right, I’d argue that there’s certain web three projects where that’s happened as well. And so in the process of people attempting to bootstrap adoption and make the tool useful, it’s not surprising that there’s a sort of like competing pull between these two equilibria. And sometimes you just get a big move from one to the other. And I’d expect to see a lot more of that. But it’s all part of the sort of beautiful process of iterating through a lot of experimentation, while the kids are making up super interesting things on crypto Twitter, and no, it’s pretty, it’s pretty great,

 

Jeff Malec  30:50

I think seems at odds with like the the theme of institutions want to get involved. Right? Because they right? They don’t want that really variance. They don’t want all that or I don’t know

 

Charlie McGarraugh  30:59

I think of it more like this. It’s like a two front war, right? Like in crypto, like one front is the push of the crypto industry to be backward compatible to Trad phi. And that ultimately involves taking this organic consumer led retail led phenomena, this round peg and sticking it in the square hole of like regulated packaging and distribution channels and governance. Right. Yeah, it’s expensive. It’s capital intensive, requires experienced people, it’s a lot of work. But it’s, you know, totally viable as a business model. And at the same time, the street sees the excess returns on offering crypto because there’s so much growth in the space. And it’s like, wow, there’s excess returns on offer, because like, there’s new things being created. And there’s real growth. Right. But

 

Jeff Malec  31:43

is it actually bad or just the the growth of the price itself?

 

Charlie McGarraugh  31:48

I don’t know. And I think and I think we’ll find out over over the years, I think crypto has a pretty big job in front of it to be come useful. But like I said before, a toolkit that allows for like peer to peer value transfer in new markets and new things, disintermediated balance sheet models that are more atomized and solving too big to fail with software, all packaged in like a packaging of super transparent open source code, which which delivers credible good governance seems like it’d be pretty useful. Right. And I think and I think we are starting to see that. But anyway, that’s the first front in the war, it’s like the push by Trad fi to access the returns and the push by crypto fi to access dollar capital cheaper than its existing cost of capital, right. The second front of the war is way less capital intensive, but it’s also much higher velocity. And there’s a lot of a lot of experimentation and failure and success. And that’s just sort of like the expanding Plasma of the universe expanding as like the kids make up new things and try new things out. And I say the kids, but I mean, respectfully. It’s like, it’s like people who are young at heart, maybe older than yours, but young at heart, but innovating in communities. And yeah, and I think and I think, you know, some of some of the institutional people that we talked to seem to want, you know, a taste of that magic fairy does. Because it’s interesting, and it does harbor the possibility of true disruption to models of capital formation and price discovery. And, you know, I think it’s, I think it’s pretty a pretty cool thing.

 

Jeff Malec  33:18

You think they need to look at it from like a venture standpoint, right of like, make 1000 bets, and the one that pays off is going to

 

Charlie McGarraugh  33:24

click, we see we see every, every flavor of participant under the sun. So people are like that, you know, lots of action bet some people with concentrated conviction. Yeah, I would say right now, it seems like there’s a lot more money into venture than there is into these liquid products. With the idea kind of, it’s sometimes hard to know whether, you know, liquidity and mark to market is a bug or a feature for a lot of these folks. But, you know, it’s all just happening. And I’d say it’s pretty cool.

 

Jeff Malec  33:57

And what and so say it all unravels bitcoins at $2.05 years. What, what good is, do we get out of it? What’s what are the pieces leftover that we can use and move forward with and build something great on?

 

Charlie McGarraugh  34:11

I think that solving too big to fail with software is a worthwhile enterprise. I don’t think it will unravel. I don’t think bitcoins going to $2 But even if it does, or if it proves 20,000, whatever, even if it proves that all the crypto world is just a test net for fed coin, and we live in a surveillance state with programmable money, you know, controlled by some autocracy, right? Even if that happens, it’s still a better toolkit for reducing friction for capital formation, and for atomizing, the balance sheet of the banking system and solving too big to fail because at the end of the day, with private key self custody, you can hold your own asset without any loss of the capability of doing things with it. And that’s a much better, safer, more efficient, less credit risky Last intermediated model for matching savings and investment in the economy,

 

Jeff Malec  35:05

and that do you in that model have to sign off on fractionalized banking?

 

Charlie McGarraugh  35:10

I’m not sure what we’ll see. But like an asset base pass through system seems like a better model than like a hub and spoke, put everybody’s money in a pot and right regulated liability system, right, just from first principles of capital efficiency and credit risk reduction. I just think about the financial crisis in a way like, I had to keep making my mortgage payment, even though super senior mortgages, just like mine in tranche form, were trading at 660 cents on the dollar, like I called my mortgage servicer, and I was like, I’d pay 65 cents for my mortgage. And they were like, You’re crazy, right? Like, it’d be sweet to be able to find my, my mortgage right and actually be able to go and like pay it down. If there’s a liquidity crisis like that, again, you can do the asset liability matching so much faster, and match savings and investment much more efficiently with a better kind of asset based system.

 

Jeff Malec  35:57

And you’re just talking like pure plumbing or not even like the political will to bail out too big to fail

 

Charlie McGarraugh  36:02

in those kinds of I’m saying solve too big to fail with better engineering. Right, but

 

Jeff Malec  36:06

solve it, because what’s the downside of the too big to failing is because we have to take on the debt because we have to bail out those who are irresponsible, because the

 

Charlie McGarraugh  36:15

system’s more resilient, like, if it’s atomized, it’s like, what’s what’s a more resilient model, like, like 10 mainframes, or like, you know, 100 million network smartphones, right? Like, like, which one is going to result in a more stable Internet? Like, I don’t know. Seems seems pretty clear to

 

Jeff Malec  36:30

1. What about NF TS All That Jazz is just another way you said the kids innovating? See what see what comes out of it.

 

Charlie McGarraugh  36:38

I think it’s really interesting, right? Like, again, and there’s a lot of talk about how Kryptos can kind of eat the capital markets from the inside out, right. But maybe they’re gonna eat it from the outside in. It’s like new markets and new things where the cost of capital previously was not discoverable at all. Again, so this year is experimentation of a JPEG of you know, Michael Jordan’s Nikes, maybe in 10 years time is like a Dhow for tokenizing. Green capex to deal with localized community, you know, infrastructure to mitigate climate change, right? I think right now you have a bunch of mid 20s, people kind of taking the piss 10 years from now they’re going to have kids, and they’re going to feel really pro social. And so and they’re going to be crypto native and crypto rich, and able to do things like crowd fund and flash mob to build the willpower to do really interesting things really fast in communities. And that’s really interesting and really important.

 

Jeff Malec  37:29

Less crypto rich after this week, or whatever, it’s just a blip.

 

Charlie McGarraugh  37:35

You know, good question.

 

Jeff Malec  37:36

Somebody. 90%.

 

Charlie McGarraugh  37:38

Right. Now we’re back on to macro trading. Yeah, yeah, I think the, the uptick in the correlation between crypto and, you know, NASDAQ or just like risk on risk off factor kind of more generally, is a function of the market structure professionalizing. And I still think that most fed five people, even those who are participating crypto don’t really believe that it’s real. And so there’s a sort of lastin first out mentality, which sort of makes the beta higher until the market, you know, distributes the risk. Do I think this diff is temporary? I do. But like, you know, I’ve been working on crypto full time for four years. Like I’m pretty, you know, drinking the Kool Aid. Yeah. Well, hopefully, some of your listeners will also be drinking the Kool Aid after that big monologue I just gave you,

 

Jeff Malec  38:24

for sure. And what do you think of like Paul Tudor Jones, who you mentioned of this, I want to back the faces fastest horse in case there’s inflation, hey, we got inflation. And it’s not right. It’s down 55%. Since June, whatever, I think the markets inflation has come up.

 

Charlie McGarraugh  38:40

Well, markets trade in anticipation, right? And like, let it not be lost that you know, this time two years ago, Bitcoin was at $3,000. Right? So you know, it wasn’t that long ago. We’re like Bitcoin at 30k We’d be popping the champagne corks. Now it feels like yeah, it was pretty, pretty tough drawdown. But But no, I think I think it’s just cycles within cycles of adoption and enthusiasm. And they may be asynchronous with like, the user prints on inflation, but it doesn’t mean it’s a bad inflation hedge. Right. It’s, it’s an it’s highly inelastic, the supply bearer asset that has appreciated massively, and although it is clearly correlated to real yields, term real yields, and has therefore drawn down a bit. Like, I still think that you’re so early in the adoption curve, that it can go quite a long ways. And I would also say that in a world of increasing structural volatility in terms of institutional integrity globally, super, super hard, hard money bearer asset is probably a pretty attractive thing and has a place in the portfolio. So I’m still quite constructive on Bitcoin. I think it makes a ton of sense here. I’m not at all convinced that it’s a turbo equity. I think I’m still convinced it’s digital gold. And I think if you really pull back the layers of the onion amongst professional traders all over the Western system You know, a lot of people still think it’s digital gold,

 

Jeff Malec  40:03

the well that and that just digs into like, what is inflation? Right? So if it the Fiat has been devalued, but the your grocery bills more expensive or things like that. So it’s, it can both things can be true right, there can be inflation, and it isn’t hedging the type of inflation that it’s kind of designed to hedge?

 

Charlie McGarraugh  40:23

For sure it comes in many flavors. Yeah. And I think, you know, I think there’s this open question, which is, is crypto just a rich man’s plaything? Something you punt around when you’re bored and locked up at home? You know, that’s not a great thesis right now, I think as the charton, certain consumer, you know, consumer day trading absolutely would show right. And you’ve got to do is if you use crypto as a useful working capital layer for new systems that are going to be built to transform the structure of the economy, then he’s like, you know, maybe I can get behind this thing. And maybe it’s actually levered to real growth, and not just not just like, you know, real yields. Maybe it’s the other way around. And I think and I think, I think, I think we’ll be surprised at how commodity like Kryptos begin to trade over the next call it five years, right? Now, again, it’s like, oh, it’s triple gold, like, I guess it really is or higher, Bitcoin should be down. It’s like, well, maybe reels are higher, because there’s a lot of growth that’s happening like in the economy, right? Now. We have to re localize the supply chain and shorten it and completely reoptimize and make it more robust. And that’s going to be expensive, it’s going to take a lot of CapEx, I think it’s super notable, when you look at the interest rate market over the last couple of weeks, rates are a lot higher, but inflation swaps are not that much higher, it’s really yields that are moving market saying the actual return, the marginal product of capital is going to be up. Right? And that’s, that makes sense. Because there’s a lot of CapEx that has to happen to fix the supply chain and do the big green retrofit that’s gonna happen over the next 20 years. Right? And in that context, it’s like, well, if crypto is just a place to park money, and it’s a boring thing that doesn’t do anything, then yeah, should trade down. But if you’re like, hey, crypto was an important component of a like, management tool and an important, you know, operating tool for matching all that capital, aligning incentives and sort of raising the velocity of money in the economy, then it’s like, maybe that thing should trade up with the real yield. And I think that’s the inflection then that correlation break is really what I’m looking for as a trader. At least with respect to the crypto sector.

 

Jeff Malec  42:32

Yeah, it might not even matter what its truth is, it’s how it’s acting now. Right? Yeah. One thing you said in there, I want to touch on real quick, you the institutional integrity has been lost. But are you what are you talking about their governments? We’ve talked a lot.

 

Charlie McGarraugh  42:50

We’ve talked a lot about crypto, and we’ve talked a bit about how macro and crypto are beginning to converge. Right? I think there’s two other really big threads in the kind of market narrative, right? One, one, the third thread is the fourth turning broadly defined, it’s just like, people are questioning the integrity of institutions, all institutions, right. You know, personal personal freedoms would lock down, you know what you can say censorship. And I don’t mean, I don’t want to be political about it, because I try to stay agnostic about these things, which is I just want to be a student of the market. But but I’d say like, from a from a traders perspective, like the dispersion and possible outcomes in terms of market structures, institutional structures, credit risk, systemic risk is like just getting bigger. Right? So I think that’s kind of the third stream, which is like, it’s sorry, an inequality, right, like festering inequality and the drive to redistribute? I mean, I think right now in the market, the market is kind of going like, Oh, I know the Fed Rhoda put on the market for like the better part of 20 years. Like maybe now the Fed has taken a call for zero from the market because they want financial conditions to be tighter, and maybe the Fed is working for labor. And so the capital, because the the cost of the inflation is got to come out of profit margins, and not out of real wages. Right? Like, that’s, that scares the hell out of the market. Yeah, and puts the cost of capital higher, right. So I think the dispersion of potential outcomes is high. And I think that’s the third thread like the fourth turning basically. And then, you know, kind of let’s renegotiate everything. And then the fourth thread, which I think is equally important, thinking about the markets is the big job that’s gonna have to get done, which is climate change, because it can be super expensive, it’s five, five to 6 trillion a year of CapEx for the RET energy retrofit and all the associated water and other systems that have to be put in alongside and those are big, big money flows, and it’s gonna put them the return on capital higher and put up interest rates, right, and make it more volatile. And so I don’t think people think about how crypto and macro are converging with the fourth turning and the green retrofit. But I think all these things are getting getting to the same place, which is we’re gonna need a really good toolkit with a lot of risk management for mobilizing Aren’t piles of capital and giant piles of political willpower to go and do the job? And so yeah, so that’s kind of my my big picture view of the world

 

Jeff Malec  45:08

the the aforementioned Michael cat, who was a Goldman trainer he was on the potty was talking about you would need just to do the carbon capture in the US you need four times the amount of pipeline that’s in the US currently, which took 125 years to build. Sounds like a lot of metal. Yeah, right. It’s like it’s just mind blowing the what you’re saying of like the effort, willpower, not just effort and willpower, but the actual physical resources and the money to build Yes, is staggering,

 

Charlie McGarraugh  45:38

for sure. And I think it’s pretty interesting. I think the markets until quite recently have been, you know, it’s a little different now, that kinetic war in Europe and whatnot. But until quite recently, I think the markets have been really focused on digitization, electronification virtualization, especially with lockdown. Yeah, but like, you know, if my thesis on fourth turning plus green capex turns out to be, you know, kind of how things play out, then, you know, we’re gonna all be focused on real molecules. And these software systems are going to be deployed to make supply chains both upstream and downstream, including waste processing, you know, much more heavily architected and thought and better thought out

 

Jeff Malec  46:18

and then putting your metals trader hat back on, like, you’re saying, like, that’s a 50 year upside demand for sure it goes and for sure,

 

Charlie McGarraugh  46:26

it’s we’re in a commodity supercycle I definitely I’m with, I’m with my former colleague, Jeff curry on that one in a big way.

 

Jeff Malec  46:38

Which leads us to our favorite thing on this pet podcast trend following. So you got mixed up with the autistic guys somehow, in a good way. Yeah. Tell us that story. What you’re doing there?

 

Charlie McGarraugh  46:50

Yeah. So one of the board members of stratagem was a partner at altos. And this was a trend following CTA, starting in the UK, and then moved to Jersey, the Channel Islands had a really kind of unique approach intellectually to portfolio construction, you know, yes, you’ve got a bunch of trend signals and great, you know, the question is, okay, you know, if you have a signal, what do you do with it? Right? Yeah. So there’s sort of strategy development layer was was really, really interesting. And they were on the board. My partner, Steven was on the board of stratagem at the time. And then, in 2019, Stephens partner, this fish from a Shecky, who was the architect of the system, tragically died in an accident. Mountain climbing or skiing, actually, it was an avalanche. Yeah. And, you know, but he was, you know, and I met him a few times, but I didn’t really know him that well. But Steven asked me if I wanted to take his share, if I wanted to have a look at the IP that they had built for trading. And I was like, Sure. And, and, you know, readings, fishes, right. And so I was like, gosh, we’re intellectual fellow travelers in terms of how to think about trading sizing. And so, so yeah, so we’ve. So, you know, I bought his stake in an office. And I’ve been basically redeveloping with, with the clients there. The trading systems and expanding the work that was started by, by a previous generation, whose shoulders we stand on now.

 

Jeff Malec  48:18

So it’s one of the most interesting cap intro manager meetings I’ve ever had down in Miami with Emma, who’s listening. And I think it was Steven, was it, but they started the meeting with, we have zero assets under management. Like, okay, that’s a unique open, but then told the story of the partner tragically died and rebuilding retooling. So, it was an interesting, it was memorable. It was a good open.

 

Charlie McGarraugh  48:44

Yeah, I mean, for me, it was like, why wouldn’t I want to have access to 10s of millions in in r&d and CAPEX, you know, a fraction of the replacement cost and basically carte blanche to redevelop it, you know, having learned what I learned in, you know, almost two decades on a trading floor at Goldman, and then a lot of interesting tech entrepreneurial journeys, a lot of time to think about markets and risk management. And the tech, it’s hard look at, it’s hard. I managed a lot of software engineers, right? It’s hard to build good performance software, right? That’s robust. And these systems were really burned in, and expansible because they were architected so thoughtfully from a kind of component level perspective.

 

Jeff Malec  49:25

So have you ever done any, like, personal investing into managed futures or trend following?

 

Charlie McGarraugh  49:32

No, but I got quite an education of it. Your partner running the metals business at Goldman Sachs? Right. Well, that’s gonna be my next question. And so so we started going down the path of sort of portfolio optimization stuff in the sports business. And yeah, I’ve read a lot about it. I’ve done a little bit dabbled a little bit of systems on my own over the years, but yeah, the level of professionalism that these stack was built on was very high.

 

Jeff Malec  49:56

Right and to me, and correct me if I’m wrong, but on the Goldman Metal says my thinking there’s tons of customer information and flow and right, you’re thinking of like this production facility just got closed, it’s gonna spike this.

 

Charlie McGarraugh  50:10

Yeah, it’s more of a fundamentals and kind of flows based thing as opposed to a, how do I think about signal?

 

Jeff Malec  50:15

Exactly. And this is like, they could care less what the Chinese producers doing. It’s just once the price breaks through here, we’re buying it.

 

 

Charlie McGarraugh  50:22

Yeah, I’d say it’s more like, I’d say it’s more like, actually think it’s philosophically quite the same. You know, Goldman is great at risk management, and they’re really good at as most of the banks are at, you know, derivative pricing and thinking through risk and whatnot. But the kind of dynamic time series of stuff as opposed to scenarios, was kind of a different skill set that I needed to develop on my own. Since, you know, in this in this sort of next leg of my career here, and, and so, thinking about, what do you do when you’re long the option to be flat? Right, trading, trading mortgage bonds, it’s pretty hard to just like, take a billion dollar mortgage position be zero, right? Yeah, we’re out. Like, in futures, you can be like, you know, you know, I’m not feeling it today. I think I’m just gonna, you know, just like, I’m gonna pull my cards and like, that’s okay. Right. Like, that’s part of the strategy. And so, it took a long time to really think through that, and how to do that. And, and, you know, our guiding light is the Kelly criteria, as always, and having kind of gone deep on that and sport side, and thinking about how to do that over multiple time horizons in a world full of transaction costs and nonstationary predictions. Like, you know, I’d have a lot of time to think about those things. And you know, all this was built to do exactly that.

 

Jeff Malec  51:37

So where do you land? Right? All the Kelley fans will ask, want me to ask you if you’re full Kelly, quarter, Kelly, half Kelly, whatever. Right?

 

Charlie McGarraugh  51:46

We’re Yeah, I would say we’re always some fractional Kelly. Yeah, because there’s always the risk that you miss specified a distribution of outcomes. And the number one rule of trading has nothing to do with models and they don’t live to fight another day.

 

Jeff Malec  51:58

You said something interesting there, that could be a whole pot in of itself, right of like, I’m a trader at a bank, my job is to trade x, I have to trade X, that’s what my comps based on everything, like it just creates perverse incentives, right? Like, yeah, well, I have a,

 

Charlie McGarraugh