Sheep Sheds & Credit Spreads

Ryan Falls, Senior Investment Analyst, Mint Asset Management

People who work in professional services often start autobiographical profiles on their journey into their career with a contrived metaphor that loosely relates to their chosen career, and this text will be no different. 

‘If you don’t want to do the work then forget about it’ – admittedly harsh words directed at me, many a time in my youth. The aim was twofold; to remind me of the value of hard graft, and as a verbal stick to coax me into getting off my rear end to help on our family sheep farm in the North of Ireland.

Embarrassingly, for a qualified actuary specialising in investment and finance, I cannot claim to have a strong grip on basic counting during my time growing up on the farm. My father would grow ever more exasperated at my inability to accurately tell him how many ewes were in a certain field. ‘I thought you were learning maths at school’ would be the rebuke often levelled at me, with ‘I counted all the legs and divided by four’ as my default excuse for missing a few sheep.

Whilst basic counting proved a skill which eluded me, the arithmetic side of farm life came a bit easier. My school lessons found an easy application in the field or in the dosing pens; from working out the price that lambs would make in the abattoir (priced in half weight per KG up to a certain weight limit), converting how much in modern currency it cost to purchase a ram lamb priced in ‘Guineas’[1], to formulating how many posts are needed for a new fence in a field that was measured in hectares. One of the early lessons from this time is that in both farming and capital markets, you soon learn that time is the best fertiliser and is the only ingredient you cannot forego. Like in farming, a rich yield of crop/grass/livestock is driven by planting (investing) well in advance of needing to harvest (drawdown/realise). Fertilising and quick fixes (crypto/leverage/options) will be tempting if you miss the boat early on, but ultimately your success is determined by having planted your seeds early. Compound interest beats any investment style/strategy/fund over a long enough time-period and does not require any great expertise or secret knowledge other than to know the best way to make money is to let your wealth compound on itself (your interest pays you interest). If you aren’t willing to do the ‘hard work’ of saving and putting capital to work in advance (and sacrificing immediate joy by delaying gratification of buying that new shiny jacket/toy/car etc.) then forget about it – ‘get rich quick’ investments are not the panacea you are searching for.

As I grew older, my interest in Mathematics grew and led me to consider a career in a quantitative field (foregoing my Pilot dream was a crash landing back to reality). The mantra of ‘work hard or forget about it’ – that was drilled into me by my parents however, stood me well in secondary school. I was taught Additional Mathematics by a monk who had a novel method of teaching and testing us as students. We would scramble into school early before our main classes started and huddle around a table watching the Brother compute matrices or calculate the length of a tangent in a triangle. The ‘novel’ element mentioned previously was that we rarely did any calculations ourselves in this class, but we watched, over his shoulder – as he would derive each/every question from first principles and then use a rudimentary basic calculator (with a weathered leather case) to arrive at the exact answer.  Sometimes the tables would turn if he noticed a drop in concentration and he then asked you to call out what the next line should be during a proof. It would be at this point that I would get hit with cold realisation that I was not actually following what was being done up until that point and I had no clue what X or Y represented. 

This feeling of being dumbfounded and shamefully mute in those moments chastened me (and still does). This embarrassment drove me to try to go back to basics with most problems both in academic and professional life. Having a fundamental understanding of how to solve a problem and being able to break it down with pen and paper into component parts is vital in life and investment. When coming at a problem such as how to price a complex derivative strategy or building an inflation model you are forced to truly examine if you fully comprehend every constituent of your problem – if you can’t price it then you probably don’t understand it. This permeates every facet of investing, for example being able to justify why a bond will increase in price over 6 months you have to consider the inputs to the process (interest rates, term to maturity, credit spread, cashflows), what will drive the change (change in; growth expectations, term premium, inflation, credit risk) and how it will translate into actual $ amounts. Forcing yourself to complete this exercise examines if your high-level view holds up and additionally holds a mirror up to each and every one of your assumptions to see if they are realistic. Ultimately if you are not willing to do this base work then as mentioned previously - ‘forget about it’.

Having not satiated my appetite for cruel and unusual punishment of completing exams at University[2] I continued on my professional journey of completing my Actuarial exams whilst working in London. No amount of hectoring or other’s anecdotal evidence can prepare you for the grim reality of sacrificing evenings, weekends and mornings to study whilst also working and trying to live a social life in London. Unfortunately, clients in investment, market economic releases, and flatmates with birthdays are not typically empathetic groups to the fact you are sitting two exams in three weeks. To hedge against the risk of being woefully unprepared, feeling shameful in silence in the exam hall in Croydon or having to tell my workmates that I failed, my ego kicked into overdrive and allowed me to tap into a well of study discipline I didn’t know I had. Breaking down time milestones to have targets for progress on the curriculum, or the nth iteration of ever more condensed revision notes I should have completed by that point, ended up driving me on. Self-pity and emotional excuses to myself of why I should get a pass ‘just this one time’ did not cut it. This self-discipline, rigidness and lack of emotion still proves vital for everyday decision making within markets. When designing a particular strategic trade, emotions are the antithesis to success. A hard and unflinching ‘stop loss’ or ‘take profit’ level is the ultimate hedge against future me being emotional and caught up with the many behavioural biases famously touted by Tversky & Kahneman and Thaler. Trusting ‘Past Ryan’ to have done the work free of emotion means that I can be confident in the moment to know that my quantitative framework has robust analysis backing it and any deviation from following what I have set out is thus purely emotional and driven by animal spirits. Without this framework you are no better than your average punter in a bookmaker – buffeted by the thrill of chasing returns and covering losses. In lieu of doing the work in advance, (to paraphrase Katy Perry) you are a plastic bag drifting through the wind – and you are better off forgetting about it. 

 
[1] 1 pound and 1 Shilling, equivalent to £1.05 in today’s parlance
[2] Actuarial Science & Risk Management BSc from Queen’s University Belfast