DREW BESSETTE: Welcome to Real Vision Access. Today, we decided to do something a little bit different, because usually it's behind a pay wall. But today we have such an important guest that we're putting it out on everything-- YouTube, Facebook, every social media you can imagine-- trying to get it in front of as many people as possible. And so our only ask is that everyone shares this with your friends, your family, people that you love, and people that you think should see it. So we think everyone should see it. But today, our guest is Ben Hunt of Epsilon Theory. Welcome, Ben.
BEN HUNT: Hey, man. Great to be here.
DREW BESSETTE: Hey. So Ben is the author of Epsilon Theory. I say author, but maybe you're the man with all the strings behind and the puppets, right? And briefly for the initiated, what is Epsilon Theory? Why did you start it? How are we here?
BEN HUNT: You know, I started writing this blog and started writing it, gosh, in the summer of 2013. So 6 and 1/2 years ago now. And I was writing it because I had wound down by my hedge fund. You know, we had never lost money for clients. But what we were doing just wasn't working.
I mean, it was single digit returns. You know, we had a career here in LA. We did well. But it was like from March 2009, forward it was like you went to the wall and you flipped a switch on our returns. We just flatlined. We'd never lost money, but it wasn't working the way it should.
And so we gave all the money back to our investors. And I started writing really just for myself to try to figure out, well, how do you think about investing in a world where the fundamentals don't seem no matter, where the touchstones for a successful money management don't seem to work anymore?
And the title of the blog, again, I'm just writing it to myself. I called it Epsilon Theory, because it was a take on two different things. The first is that most of money management is all about alpha and beta. We're all familiar with that being the things we talk about when we talk about asset allocation. But there's a third Greek letter to that equation, right, and it's epsilon. And usually the epsilon term is the error term. It's what you have left over after you've tried to explain alpha and beta. You think about epsilon, the error term.
And I started writing because it really seems to me, and even more so today, that what we think of as error is not really error. What's embedded in that so-called error term is the behavior of human beings in these market conditions, is the strategic interactions of people, and central banks and governments, and the like. It really is, then, this mix of what we used to call error being not error, but where we can get real information and think of it rigorously, and then combine that with game theory, which is my academic career. That's how Epsilon Theory came up.
So I started writing this to myself. I sent out the first note I think to maybe about 100 friends and family, clients. And for whatever reason, it really struck a chord. So we've got about more than 100,000 subscribers to this now. You know, we've never marketed it. It's all been through word of mouth. And I think I'm a pretty decent writer, but what I think is really driving the success is that it's hitting everybody pretty hard, right? Because we know that we're being, I'll say, talked down to. We know that there are some things going on other than our traditional measurements of alpha and beta, and all like that.
And so just having a place where we can talk about it for reals, I think that's what has really driven the power of getting people together to read and talk about Epsilon Theory.
DREW BESSETTE: I mean, that's a great answer. I mean, it's certainly resonated with me. I mean, the reason we're sitting here today is because I'm such a big fan and I've been pitching to get you back on here as much as possible. But I'd like to start, jump in. You wrote a blog in 2018 called the Pension Cartoon. And I want to talk a little bit about what a narrative cartoon is. But the title of that, the piece, it's basically based on an article that was written in the Wall Street Journal called Chicago's New Idea to Fix its Pension Deficit Take on More Debt.
And you wrote about cartoons and pensions. What exactly is the significance of the cartoonification of politics, and markets, and the pension system?
BEN HUNT: Well, when I use the word cartoon, I'm meaning that in, I'll say, the technical sense. A cartoon is an abstraction. But it's more than just a drawing. It's really an abstraction of an abstraction.
So when you're watching a cartoon, it's not just, oh, I'm seeing this abstraction of a talking rabbit, right? The talking rabbit is an abstraction of something else, right? So a cartoon is really an abstraction of an abstraction. And it's so, I think, evocative of this world we live in today, where so much information is presented to us as a cartoon of something.
And what I was referring to specifically in this article about pensions, and as you say, the, I think, it was either the Illinois state pension or the Chicago city pension, borrowing to invest in the stock market as their way of keeping up with their obligations is that both the way this is presented and what they're doing, it really is an abstraction of an abstraction. And this isn't just in pension funds. It's in the overall stock market. It's in our national government. So maybe the stock market is the best way to think about it. So we'll talk about pension funds.
A pension fund was intended to be a place where you as a retiree could essentially save for your future and your retirement. And there are these obligations that the fund has towards you. And then you pay contributions into that fund. And then after you retire, after you leave the employment of the company that's managing the pension fund, you've got to share in those proceeds. Just like the stock market used to mean, OK, I'm going to buy a fractional ownership share in this real life company that's making some real life thing and generating real life cash flows.
Instead, though, the cartoon now-- this is true for pension funds. It's true for, I'd say, government. It's true for the stock market-- it's become this abstract thing, really like a Casino game, where we're not buying something in a real life company. We're not getting some return from real life people who are managing the money to give us a retirement income stream. No, it's this abstraction of that where it's returns. So the cartoon here that this is, I'll say, prudent money management to lever up the pension fund, because that's what you're doing here, you're just taking on leverage so that you can make a levered bet, in this case, on the stock market. Look, there is a role for leverage. There is a role for borrowing money.
Any corporation has to be thinking about it in these terms, right? Even a pension fund, I can see using some form of leverage and low volatility assets and the like. There's nothing inherently wrong with that. But what is wrong is the way that it is presented as a cartoon to us to make us believe that it is something other than what it is.
DREW BESSETTE: Yes.
BEN HUNT: And you see this with pension funds. Again, you see this with our national government. You see this with every mega asset manager, every Wall Street firm. And that's what we're writing about. And that's what we're trying to get people to see through. Because once you start seeing the cartoons that are everywhere, once you start seeing what we call in game theory, the missionaries who shake their finger at you and tell you how to think about the world, well, you'll start seeing them everywhere. And that's really the first step to seeing the world more clearly so that you're not taken advantage of.
You know, there's this old saying in poker that if you've been playing poker for 30 minutes and you don't know who the sucker is at the table, it's you. And so we're not trying to say, oh, we've got to fight the Fed. Or, oh my god, these pension fund guys are crooks, and you've got to get out, and it's all going to collapse tomorrow. That's not it.
What we're saying is don't be the sucker. Don't be the sucker at the table. Understand what's going on behind the scenes. And then make your own decisions for how closely you want to participate with that or not. But you're smart enough to make up your own damn mind. And that's what we're trying to achieve with that one here.
DREW BESSETTE: I mean, that's great. So I want to kind of place that, like, OK, we have pensions here. We have politics here. We have whatever the next story is, because that's other stories. Can you put that in like a 30,000 foot view? Like, what are we looking at? Because, this, we can really point them to the United States. But this is going on everywhere. There are missionaries everywhere telling people these things.
So what exactly is a narrative missionary?
BEN HUNT: Well, not only does it go on in every country on earth, right? But it's been going on for as long as human beings have come together in some form of society. This is something that effective politicians have known forever. And again, I'll refer back to game theory. It's called the common knowledge game.
And you can look it up on Wikipedia and the like. We're familiar with games. We think of the Game of Chicken and the Game of Prisoner's Dilemma. And these are all interesting games.
You know, Prisoner's Dilemma is the subplot of every police procedural on television. So these are important. And what we mean by game, again, we're using that in the technical term like we use the word cartoon. A game is just a strategic interaction, where my actions are contingent on what I think your actions are going to be. And your actions are contingent on what you think my actions are going to be, right? So it's this game of strategic interactions.
But I want to focus on this one game that is not so familiar called the common knowledge game. Because this is a game that describes the behavior of crowds. It's not one prisoner in a holding cell testifying against another prisoner. Or it's not the game of chicken like Kevin Bacon on his tractor versus some other guy on his tractor, and who's going to beat the chicken, right?
The common knowledge game, I'll call it the core game that describes the behavior of crowds. And the key insight of the common knowledge game is that to really understand crowd behavior, it's not each individual person looking at the sneaker. What we call the missionary, you know, that famous person onstage, that politician, or that titan of industry, or that central banker who is onstage shaking his finger at you and telling you how to think about the world.
You know, what really drives the common knowledge game is the crowd looking around at the crowd. And once you think of it that way, you start to understand what are the dynamics of this common knowledge game. And you start to understand how effective missionaries, those politicians or central bankers, can construct a message that forces the crowd to look around at themselves. And again, this is something that successful politicians have known forever.
I'll give you some examples. So this is why both coronations and executions used to be held in public. I guess coronations still are. But executions aren't, right? And the reason an execution, you know, a beheading in London, wasn't held in private, right, but it was held where they could get as big of a crowd as possible to come see it. And the point wasn't, oh, we want a lot of people to see the poor guy getting his head chopped off or getting hanged, right? The point was for the crowd to see the crowd watching the poor guy getting his head chopped off or getting hanged.
It's a phenomenal instrument of social control for the crowd to see a crowd at play. Another quick example. Next time you listen to a political speech by Donald Trump, no matter what you think about Donald Trump, you have to give him credit that he's a very effective player of the common knowledge game. And I really think it has to do with his training as a reality TV host, right? But the next time you listen to one of his political speeches, watch for this.
The first thing he'll talk about, the very first thing in his speech, he will call the attention of the crowd to the crowd itself. He'll say, oh my god there have never been more people in blah, blah, blah auditorium. We had people lined up, you know, two miles to get in here. That's entirely intentional. Entirely intentional.
Midway through his talk, he'll stop and he'll say, I just want you guys to, you know, what an amazing crowd this is. This is incredible all these people came together. And then at the end, it's also the last thing he'll say. The very last thing he'll do is he will call the attention of the crowd to the crowd itself.
What that does in the way we are hardwired as the human social animal that we are-- and there are only a few species on Earth that are truly social animals-- it's us, it's the termite, it's the bee, and the ant, right? Not coincidentally, the four most successful species on Earth, right? Where we are hard wired is to see that there's a message being given to the crowd. And see that the crowd is responding positively to that message.
And so we are hard wired to respond positively to the message, not because we think it in our hearts. You know, we may think, OK, this central banker and this politician, he or she is full of it. I don't believe it personally. But when I see the crowd responding to this, my rational behavior is to act as if I believe it too. It's not stupid of us. It's entirely rational. And that's how these narratives are created.
You know, something that politicians have known forever, what's different today is that everyone from central bankers to corporate CEOs to bureaucrats, they've all figured this out. And you combine that with the power of social media, of regular media, right, the way it enters every aspect of our lives, these megaphones that exist, these platforms that exist to give voice to the message that the missionary has and call attention of the crowd to itself, that's why these narratives, I think, are-- again, they've always been with us-- but why they seem to drive us even more today than they ever have.
DREW BESSETTE: OK, so I have a little bit of a follow-up on the eusocial animal, right? What's the difference--
BEN HUNT: Eusocial, right? Yeah, that's the--
DREW BESSETTE: For the uninitiated. You can Google that. What's the difference between humans and these other eusocial animals, right? What--
I mean, like, obviously we're mammals and they're insects. Like, what's the difference? Why are we different?
BEN HUNT: So the difference between humans and termites, well, there are three. One is that we have opposable thumbs. The second is that we have the secret of fire. And truly, that's what humans are. We are giant termites was opposable thumbs and fire. And so the rest of the world never had a chance, literally. Because here's the third difference.
The third difference is that at the heart of what it means to be a truly social animal, as you say, a eusocial animal, is that each of these species swims in an ocean of intraspecies communication, right? Termites, bees, ants, and human beings are constantly giving other bees, termites, ants, and humans messages, right? We swim in this ocean of messaging.
For those three insect species that we talked about, that communication is completely hardwired principally through pheromones and chemical transfers. It's completely hardwired. In human beings, it's not completely hardwired. Our chemicals are our words or our language.
So we can resist our queen, right, you know, when it was Janet Yellen at the Fed. We can resist her messages a little bit better than an ant can resists its queen's pheromone messages. But the idea is exactly the same.
And when you combine literally evolutionary hard wiring to be sensitive to these messages that, again, we'll call it a missionary-- somebody who has access to a platform to give their message to you-- we're evolutionarily hardwired for this. We've been socially trained to respond to this for tens of thousands of years. And then you have technology today which puts these message in front of us 24/7. That's where it all comes together.
So it's like saying basically we're termites with opposable thumbs and fire. And now we've got this technology that really accentuates what were developed to respond to. And that's why I say this doesn't get better on its own. We don't go back to the way we were. What's important, then, is again to see it for what it is so that we can devise new ways for us as individuals to not be the sucker at the table. That's just really what I think it's all about going forward.
DREW BESSETTE: I mean, that's really resonated with me. Actually, the first Epsilon Theory article I ever read was the Stalking Horse about your best friend Neel Kashkari. Well, let's take a step back. Like, OK, you just explained the concept of a narrative missionary.
BEN HUNT: Yeah.
DREW BESSETTE: Can you go a little bit further and give us-- what's that concept of the Stalking Horse, right? Where's that fit in?
BEN HUNT: So the Stalking Horse, and this is related to this notion of a missionary, the Stalking Horse is an old idea. So what I'm trying to write about is talking about these, I think, relatively new ideas for most people. But to put it the form, a story, or an analogy from nature, you know, I write a lot about animals on my farm, I write about history, and these ideas a lot. So the Stalking Horse is this really old idea that you can find tapestries and engravings about the concept of the Stalking Horse going back to medieval Europe. You know, seriously.
And the idea of the Stalking Horse is if you're a hunter, you want to get up close to a couple of deer in the woods, right? Well, one tried and true way of doing that is to hide behind an animal that the deer aren't afraid of. And you see this in movies sometime. You know, Jeremiah Johnson, the old Western movie, a great movie, right? And the old trapper is teaching Robert Redford how to hunt elk.
And so he says, you know, here's the trick, sunny.