Thoughts on Starting the Global Asset Management Firm

Thank you for shaking up the assumptions that indexing is always the right answer no matter the situation. As much as I love Vanguard and its consorts, I appreciate the effort that you put into breaking down their models and limitations.

Two questions:
1) Would you consider sharing the names of the firms described, especially the bad apples? At least give us hints. 🙂
2) If you weren't financially independent, would you work for an employer that prevented you from managing your own assets?

Haha, both are great questions.

I mentioned #1 in my comment, above, but I think #2 is especially interesting as well, especially in light of the talk of Bill Ackman's own private family office nestled apart from Pershing Square, in the media, recently. I think there are going to be different personal preferences between clients and yourself, and it is a bit much to ask everyone to foresake those differences. And personally, I would be hesitant to work for a place with such rules, because of my personal preferences.

I personally think requiring investment in the firm is a great concept, and it harks back to the early days of JP Morgan. A small company (regarding personnel) which treats its employees like family, and dedication is rewarded with dedication from the company. It's an excellent concept for a firm, and it demonstrates The Green's commitment to the clients they serve, to themselves, and to their employees.

Good Luck on your new business. May be some day I [ my family ] Will be a client. I would like to find a TRUST WORRTHY Firm. I really enjoy your blog. You are doing a great service. What can I say!

Good read. It would have been funny to name names for each of the five categories, but of course a bit too much. I do think it is a very necessary framework, as many people talk the talk, but when you look at what they are doing, they are at best just a helper that maybe accidentally helps along a good outcome. Including many of the most "respected" bloggers in the financial and investing blogosphere...

1. Honest-to-God asset management firms:
Kennon-Green International

1a. Private individualized asset management, often for high-net worth individuals
Kennon-Green Capital Management

1b. Pooled asset management (sponsoring mutual funds, private equity funds, ETFs, hedge funds, etc.)
Kennon-Green Admiralty Corporation

2. Honest-to-God wealth management / financial planning firms
Kennon-Green Capital Consulting (This one alliterates nicely)

3. Sales firms masquerading as either of the first two categories
Kennon-Green Intergalactic

4. Asset gatherers serving as counselor and extracting a toll to steer people to the first two categories
Grennon-Keen Financial Shepherds, LLC

5. Stock brokers
Kenneen Corpulent Conglomo Corporation, Inc. Slogan: "If you don't invest with us, you're poor!"

Joshua, you include lines like "...or will secretly chip your children so they can be tracked anywhere from satellites." You wrote it without any sense of moral judgment. Is this the result of summarizing a viewpoint and noting the extremes of possibility, or is it the result of not morally judging the behavior of those who do this?

Your earliest financial writings tend to express disgust towards those seeking to control others, either through restrictive infringements passed as laws in the voting booths and legislatures, or through the rich using their wealth as a form of social control over others.

The core of my question: As you have become the person in control of your family and perhaps parts of your community, have you grown more comfortable with the thought of using your money and resources to affect the behavior of others?

Saying yes isn't a "wrong" answer, as there are many people who would benefit from incentives that prioritize long-run interests over short-term wants. Wealthy people starting their own real-life puppet show and using money for social control is a risk, not an inevitability.

Is my presumption of some personal evolution even correct? It's possible that you've gotten sick of belaboring certain points from your earliest writings. But I don't detect the same distaste from you on the relationship between wealth and influencing others that bubbled in your earliest writing, and that is why I ask.

I think the secret satellite chips are an exaggeration, because (to my knowledge) you'd need a GPS receiver and a radio transmitter alongside a sizable power source. Ankle monitors are hardly subtle. The RFID chips for tagging pets, livestock, and library books are passive transponders that don't require batteries, but they do need a close-range (<1 meter) power source to activate. Battery-powered RFID transponders, like the one in my car that expedites my trip through the toll roads, have a wider range (~10 meters) but that's not enough to communicate with satellites or cell towers.

That's my civilian assessment, anyway. DARPA makes some pretty nifty stuff, so if they don't have secret satellite tracking technology already, they will eventually. I'd also like to hear Joshua's response to your question, and I have one for you - has your time working as a JD embittered you toward the flaws inherent to our nature, and the imperfect tools we devise to protect us from ourselves?

Most of my frustrations occur when I see (1) people expressing entitlement and expecting others to provide for them, and (2) people not expressing enough gratitude when they are provided for. I see both sides on a daily basis.

I volunteered at a clinic yesterday and saw a lady want to file a discrimination claim as the result of her firing. She was documented twelve times this summer for arriving more than thirty minutes late, and was given a warning, and then was fired for being late three times in the week following the warning. There were also performance issues. Her only evidence that she was discriminated against is that a white woman apparently takes a lot of bathroom breaks throughout the day without issue and this somehow is proof of racial bias.

I hate when people blame others for the natural consequences of their actions and try to rationalize ways that things are the fault of others. I also think racism is a serious allegation and should not be made reflexively.

On the other side...

I saw a girl I knew in undergrad post a picture of minorities getting married at a courthouse, and she posted to Instagram making fun of them for being poor. Her granddad owned a bunch of farmland in the Southeast and turned her into a trust fund baby because of it.

Forget for a moment how unbecoming it is to make fun of someone for modest means, and living within those means, but think about the entitlement it takes to make fun of others for being poor when your lifestyle is entirely the product of your grandfather's works.

I could tell many more similar stories, but that was just my yesterday.

One of the downsides of money is that it is the product of selling someone stuff he wants, but doesn't directly come with a moral component. There is no rule that "nice" or "honest" people get wealth over "mean" or "entitled" people. Maybe these character traits can help and hinder career advancement, but they don't directly weigh on income. It is nice knowing that you can be a horse's ass and you still get that Coca-Cola dividend check, but it also means that complete monsters get their Coca-Cola dividends as long as they own the stock. What is an advantage for you is also the same advantage for people that you do not like.

I see too often that people from middle-class backgrounds could do great things if they were handed $2.5 million and received no limitations on it, and then I see the kids that actually get those $2.5 million go on huge shopping sprees and mock the disadvantaged.

Because of where I went to high school and college, I got to encounter many kids with trust funds. Only one of them was admirable. I even tried to bounce my conclusion off my dad by introducing him to some of these people. He agreed that many of them were pistols, and are not the kind of people you'd want your kids to become. We agreed on the same one who was admirable. It seems to me that every wealthy person is nebulously aware that trust fund kids turn out to be brats a high percentage of the time, but then conclude they will know better and raise their kids differently. It's probably the kind of attitude that helped them build wealth in the first place. But it is hard to feel motivated to light your own fire when you are handed at birth the best heat generator in town.

As trust funds continue to account for and improve upon behavioral quirks, they tend to get more effective at keeping wealth in the family. I agree with Joshua that comprehensive wealth management firms that know what they are doing can keep the wealth going for four, five, six generations. This is especially true as birth rates get smaller, and the divisor is small (dividing trusts into two kids each generation keeps the money around a lot longer than if you take the old-school Catholic approach and have five kids).

My grandpa said that every time he took his belt off, my grandma got pregnant. If he became well off, there would be no trust fund babies eighty years later because there were just too many kids with claims on it. But that is not the case anymore. If a wealthy person has a great advisor and management team, and has 1-2 kids, and that pattern continues, wealth can be damn near perpetual. I'm not sure we want a world that increases the amount of unearned wealth floating around, though I understand people make kids their world and want to do best by them and don't care about making them a nice social science statistic.

These are things I constantly underestimate:

1. The number of people that spend their days trying to control other people.
2. The number of people with great privileges and benefits that are not grateful for them nor do they use them in a productive manner.
3. The number of people with minimal resources that expect as a right for other people to give them resources.

This was a great response - thanks for sharing your thoughts. My next question probes a bit, so feel free to decline it if you're not the type to disclose personal details in public fora: you and the "admirable friend" turned out all right, even though your family and his/hers seem were reasonably well-off. Why do you think you and your friend turned out differently? Do you think the way your parents raised you two was indeed different, or are other factors at play here?

The reason I ask is because controlling people's financial behavior is an attack on the branches of the problem tree, while precluding profligacy and entitlement is an attack on the tree's roots. I've always wondered where these tendencies come from. Because I'm asking you a rather personal question, I'll share a bit of my own personal history: when my parents first immigrated to the US with me in tow, we didn't have much. Dad was a student and mom's education degree was worthless because she didn't speak the language. During those years, I'd get a small package of gifts at Christmas - two or three toys, and that was all I got all year beyond basic necessities. And yet, I was happy. In fact, I felt like I didn't deserve the little bit I received because my parents spent nothing on luxuries for themselves. And this was just one of the innumerable, tiny gestures I witnessed throughout my life - like how they'd cut the pinkest part of the watermelon for me and for each other, then eat what's left over on the rinds. I can say without a doubt that watching these gestures has shaped my behavior and how I treat other people. When I asked my mom about this, she claims that she and my dad didn't know what kind of impact it would have on me, only that "it was what my parents (i.e. my grandparents) did for me, and what your dad's parents did for him."

This talk about entitlement and profligacy reminds me of what Thomas Stanley called "Economic Outpatient Care." His research on families with multiple kids suggested that entitlement is a learned behavior, not genetic. This gives me hope that I can teach my kids, if I ever have them, to avoid this plague, which would obviate the need to control their spending behavior. Speaking of which...your grandpa was, ah...quite a virile man. That "belt-off" example is lurid and I'm going to shamelessly steal it for my own use.

I worry about leaving a trust fund to my kids and what affect it will have on them. My thought is set up a trust fund that works like this. When I turn 71 I will no longer get the dividends from the trust fund the money will go to my kids divided between my 3 kids. Which also stop at age 71 and go the there kids { My Grandkids } Why age 71 that is when I have to draw on my IRA's. That way while they are raising there kids they will have money to help pay for there young growing family. So they and future generation know the trust only pays out until age 71 then stops. Encouraging them to save and invest for themselves.

In this case, it didn't get more than a few seconds of thought. And a lot of times, I do get tired of belaboring certain points so you hear about the exceptions rather than the rules, creating a different perception than what might exist.

I will say that, while I stand by my earlier sentiments, I at least understand, on an emotional level, how a parent or grandparent, or even someone in a particular line of business with particular exposures, might be inclined to think the trade-off analysis indicates the privacy invasion is the lesser of two evils. Life experience has the effect of providing some prospective on things that cause certain issues to fall into gray areas once all the variables are considered. I'm not so sure I could condemn you on a theoretical abstract principal of individual liberty if you were the Vice President of a global weapons manufacturer and needed to go work in some third-world country with your kids for a few years. They'll get over the embarrassment of knowing you found out about the time they were making out with someone in a car faster than being kidnapped by insurgents and possibly killed.

On a societal level, to the degree there has been a personal evolution it is this: As I've gotten older, I've rejected the 1970's notion that all ideas are equal and that we should respect all positions (even when they are idiotic and cannot be defended by a rational discussion of facts). It is naive and foolish. Just because an belief is old does not make it right. Just because a practice is ubiquitous does not make it morally acceptable. Things must be judged on their own merits. Some cultures, some beliefs, some behaviors are not worthy of tolerance or respect. You don't get to waive your hand and say, "My country", "My religion", "My ancestors" and get away with whatever you want, as if you are somehow immune from criticism.

I still believe people should be free to make their own choices, even if those choices lead to their self-destruction (though there is a question about, at what point, a person becomes incapable and therefore intervention is necessary - remind me sometime to tell you about the Gold Gate Bridge / Delayed Suicide discussion I had at Wendy's; you'll enjoy mulling over the implications, I think). However, I also believe that at some point, people with influence and resources have an ethical obligation to step in and take away the scissors from the nut jobs running the asylum; to try to steer things in a way that is objectively better despite the dangers of being wrong. Having a lot of money is sort of like being the biggest, tallest, strongest camp person in a group. When things get out of hand, you're sometimes in a better position to settle it. Of course, what if the person with resources is the nut job? That's why society needs checks and balances.

For example, I don't have a problem with the powers-that-be shutting down that teaching assistant out on the West Coast who said calling someone "male" or "female" is a microaggression that could result in course failure. I think they should be run out of academia. To allow parents and students to spend tens, even hundreds, of thousands of dollars to be subjected to that level of self-delusional stupidity, in an environment which they cannot object, is intellectual malpractice.

I think it's okay to intervene in other situations (e.g., you know the case out on the East Coast right now where a teenage girl took nude pictures of herself on her phone? The prosecuting attorney is charging her as an adult with producing child pornography. The paperwork literally lists her as a minor victim and an adult perpetrator. Against herself. Perhaps its the quantum mechanics theory of age of consent - she is both minor and adult at the same time, all ages at once. I don't think it would be a particularly egregious thing if a rich, politically influential person ended that prosector's career for being a moron. It'd be good for the civilization. And this isn't something new. Out in North Carolina, a boy is being charged for multiple counts of producing child pornography because he took pictures of himself naked. A prosecutor has gone so far over the common sense line at the point they pursue something like that, using the authority of their office, they're a danger to the public.)

Related, there have been some things that have happened over the past few years that make me more likely to be offensively engage for the sake of defensively protecting something. Strategically, it's the most efficient move. We'll talk about it someday if we ever have a cup of coffee.

Generally speaking, though, my broad sort of moral compass on the matter is that people should be reasoned with; they should be given information; they should be free to make their own choices, even if that means failure or disaster. I'll be there to help, but I'm not going to force them to live a better life or make optimal decisions. Lasting change has to come from within. Your role is to love them; to support them; to be there for them (which doesn't mean being a doormat or letting them get away with whatever they want). I think it's a dangerous thing to believe money solves, or can influence, everything. Permanent change comes from the heart and it's a complex, tricky thing.

Agree completely. At some point these people need to be removed, Im continually shocked, maybe I shouldnt be, that people dont just flip and organize a huge opposition to some of these crazy cases. Id be through the roof if someone was trying to do that to my kid.

What I think is really interesting in the not all ideas are good vein, and such a powder keg that its nearly impossible to have an rational intellectual talk about, is the merits and limits of freedom of speech. Clearly propaganda and certain kinds of blatantly motivating while knowingly telling lies that could ultimately lead to poor outcomes for populations or nations...thinking anitvaccines, kevin trudeau types, political/race, etc...so forth. At some point in the future one has to think it wont be tolerated like today, but so difficult to pull off correctly. Fascinating, yet impossible to discuss on a knowledge level currently.

This is so exciting, can't wait until I've built up to the required amount of liquidity to invest with you guys myself. The beginnings of "Berkshire Hathaway 2050"!

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C'mon man, don't equate the new firm to a new Berkshire. That's like saying that Joshua/Aaron is the next Buffett/Munger. Yes, I can foresee Berkshire influencing Kennon-Green greatly (which is a good thing) in the same way that Warren is a role model to Joshua (also a good thing). But we don't say "Warren Buffett is the next Benjamin Graham," because while Benny had a huge influence over Warren's life, Warren is his own person who overtook his mentor in many ways and fell short in others. I'm sure Joshua/Aaron have taken many pages out of Warren/Charlie's playbook, but those are just the most visible aspects of a myriad of things that make Joshua Joshua and Aaron Aaron.

So in short: Kennon-Green will be the one and only Kennon-Green, in the same way Berkshire Hathaway is the one and only Berkshire Hathaway of legend (and not the "next Graham-Newman Corporation").

Of course, but it's just a mental shortcut equating this fund to the beginning of something great. I don't mean they will be literally the next Buffett/Munger. Just because you personally do not like such comparisons (I would venture a guess you dislike it when anyone says "the next Michael Jordan" in basketball as well) doesn't mean it's not handy for me (or maybe some others) as a way of projecting what something can eventually turn into

"Berkshire Hathaway 2050" is just far less to write out than "Unless if they intentionally decide to limit themselves to large capitalization public traded paper only, I find it hard to see a scenario where they don't eventually take over whole businesses with excess cash and start building something special, absorbing multiple fantastic businesses under their umbrella until it becomes one of the biggest managed funds out there 40 years from now"

Saying that "X is so good he/she is the next Y" can be interpreted two, non-mutually-exclusive ways:
1. It's a testament to X's success, which is so outstanding that it warrants a comparison to Y.
2. It conflates X with Y, downplaying X's individuality, personal struggles, and "behind-the-scenes" failures that molded X into a success.

I lean heavily toward #2 because of my personal philosophy that a person's success is the tip of the iceberg (shining, imposing, highly visible) while that same person's failures make up the remaining bulk of his or her character. But you know, that's just me, and the world doesn't revolve around me. Yet...(evil laugh).

Your argument is good - I'll admit that slapping a label on something may be appropriate depending on the context and depth of a conversational topic. In fact, I probably commit this identity-conflation fallacy myself in topics I don't understand deeply, often without realizing it. So I'll keep my pomposity to myself for the time being.

Noodles?

Yeah, "noodles" starts with "no." I was hungry, dammit.

By the way, your reaction reminds me of this joke. It's somewhat offensive so I won't repost it here.

Congrats on the new venture! As someone who makes a low income I am certainly not your target audience, but I will be cheering for your success!

I think what you meant was "I am certainly not your target audience...yet." Joshua has written thousands of pages here (and over at Investing for Beginners) on improving your income and quality of life.

Shoot for the stars! Because otherwise you might murder someone 🙂

I don't want to be nosey but what is your low income I to conceder my self low income, my family income of about 37,000 a year for a family of 5. I am 50 years old and could be one of Joshua's clients. And no I didn't inherit money. Just started at 23 with my Uncle advising me. Using IRA's and 401K's and picking GARP stocks and Value Stock/and Value Funds. My teenage kids are now investing Stocks/Funds and they all 3 have Roth IRA's with as little as 10 dollars a month. My one son works at HyVee and still in high school and puts 100 dollars a month in this Roth IRA.

Well, that's motivating! My income is gross 38k/annually, household of 4 people. Medical bills consume around 10-15% of that as I have a spouse with major illness. I have been investing, and am reasonably frugal so currently household net worth is around 150k with no debt. Early 30s in age.

I find your example motivating! Currently I am figuring out how to invest for my children who are too young for an IRA. I'm thinking of doing a DRIP in a few different companies. I think it's fantastic that your children are investing! It is extremely hard to find any investment advice for someone in a low-income situation. I find myself questioning whether I should hold the stocks for my children in my roth IRA so that they don't touch them and then inherit the proceeds. This of course will also allow them to get more student aid for college. I'm babbling at this point..................

I wish I was a better writer I could tell you how putting more in a 401k will increase your EITC [earned income tax credit} it lowers your AIG. Use all the tax credits you can Saver Credit, Child tax credit. Pick funds that are value , low turn over. As far as stocks to buy buy what you eat and drink and health care stocks to. Look at the most common old age diseases and invest in them drug company that make them drugs. First I would put as much in you 401K to get as much EITC as possible that is free money. I figured that every 100 dollars I put in get me 20 dollars in EITC back and that is just from fed, in the state of Iowa you get to clame 15% of that for state credit. Then there's the savers credit of 50% you would get at your income level. Some thing to think of did you know that not all if any income from a Traditional IRA or 401k is taxed , retirement age. Most people don't think that here is how it works. You and your wife get a standard deduction of 12600 and personal exception of 4000 each for a total of 20600. And that is index every year so it would take a portfolio of today of 540,000 dollars in if you draw 4% a year would be free of Federal Tax. Most people won't come close to that kind of money in retirement. I could go on and on. About Roth IRA's which are great too but after you plan your 401k contributions. Lets hear it for the Low income investor YAY.

EITC is a refundable Credit and you pay no state of Fed income tax on it. Free money to put in your Roth IRA. That is what I did the fed is paying for my Roth IRA.

@IlovePi314159265359:disqus

Also, check out 529 plans ("a tax-advantaged savings plan designed to encourage saving for future college costs of a designated beneficiary."):
https://en.wikipedia.org/wiki/529_plan

Chris DeMuth Jr had a whole article discussing 529 plan investing:
http://seekingalpha.com/article/3309235-seeking-beta-the-worlds-1-passive-fund

Joshua, #8 on your list of thoughts scares me half to death. It's like you're actively trying to build an echo chamber, where dissenters would be forced to cut and run if they thought you were doing something wrong, lest they lose their own nest egg. There are also major alarms going off in my head about suitability, and either throwing suitability obligations out the window, or limiting recruitment to people for whom your offerings would meet suitability standards.

There is, I suppose, a nonzero chance that I'm misinterpreting your intentions there, but my God that seems absolutely horrifying. And that's just from the client perspective - from an employee perspective, that would be an uncomfortable prospect. Imagine your termination (either voluntary or involuntary). Imagine trying to quit a job where your boss controls your entire net worth. Or worse, being fired - imagine negotiating a severance package with that hanging over your head!

I'm entirely confident you're well-intentioned there, but wow.

Scott, I think the rationale behind restricting outside investment is to ensure that everyone in the firm (down to the secretaries) have "skin in the game." A lot of the Great Recession came out of playing with other people's money, and you know as well (possibly better) than I do that people tend to behave differently when they have no personal interests at stake, or when they come across "free money" rather than money they toiled for.

As long as someone being hired into the firm knows what they're getting into (i.e. "with Kennon-Green, it's all-in or nothing at all") before they sign up, I don't see any issue with that. A diverse team has its set of advantages, but a small, focused team of homogenous values has the advantage of not clashing with one another over goals and strategy. I sort of see it as the "Singapore model" of doing things - a capable, benevolent dictator at the helm can do amazing things that a team of capable, benevolent directors can't in the same time period. It's a high-risk, high-reward way of doing things.

Ah crap, I didn't mean to draw comparisons between Joshua and a dictator. My point with the second paragraph was "An organization operating with one mind and one set of values can run more smoothly and go farther than an organization comprising a diverse set of goals, values, and opinions."

On the positive side this is an exciting development and congratulations Joshua and Aaron! I think I generally would not do business with firms except possibly the #2 kind, since I think they can add substantial value (and of the #2 businesses I would prefer more fee structures that kept more of the fees upfront than recurring). But I am atypical, so this does not mean anything about which business model is best.

Now for some hopefully constructive criticism:

Personally, I would not even consider working at a firm that strictly enforces a rule that one can have no outside investments. It goes against some of my core beliefs in capitalism and ownership. On the other hand if #8 is a requirement that one keep a small position (e.g. 10%) in the firm, or it is optional but encouraged with some extra compensation, then I would have no problem with that.

Being strongly against #8 is why I taught myself investing in the first place. Tech firms as well as academia lay claim to all intellectual property you generate as an employee. Therefore to generate cash flow that you own you either have to create your own startup, or teach yourself an entirely separate industry. Of course, I am willing to do the latter (probably also the former on sufficiently attractive terms). But it took some years of self-study and training.

I can't say that such policies bring zero resentment from me. The idea that I cannot own anything that I create, and that my employer intentionally does not want incentives to be aligned between owners and workers, and intentionally does want to grab 100% of any optionality that I might stumble upon, makes me have extremely low trust of the employer. This was one impetus for me not joining startups founded by others, not trusting tech firms, and immediately taking all cash out of the company that employs me to put it in safer places.

I am not religious, but I can't help but thinking of the quote attributed to Jesus: "Render unto Caesar the things that are Caesar's." As an employee with an employer that does not care about rationality or aligning incentives, sure I will pay Caesar, but not a cent more. It makes me think Caesar's business model is flawed and likely to have lower returns, due to low trust metrics among employees in general.

I certainly saw this incentive process play out in Hewlett Packard, where my father worked for 26 years. Employees did not trust the company, the company did not trust the employees, decisions were always made based on local "embedded" rationality (how can I personally win?) rather than firm-wide rationality, and everyone just wanted to take as much cash out of the company as possible.

I understand and respect your feelings as it regards the technology industry but let me try and convince you that the parallel - morally, ethically, and legally - between work-for-hire and employment contracts and this is entirely different.

Under American law, there is something known as a "fiduciary duty" or "fiduciary standard". A fiduciary standard means that the person required to abide by it must, without exception, put the interests of the client above his or her own interest. It's part of the deal. It's the highest code of conduct that exists in our financial system.

Some firms are required to follow it (e.g., trust companies overseeing trust funds or asset managers exercising discretionary authority over a client account), while others aren't (e.g., places like Edward Jones in category #5, which are really stockbrokers masquerading as investment advisors in a lot of situations, though they do have trust departments subjected to the higher standard), which you can read about here).

If you were required to abide by a fiduciary standard, which you would be as an access or control person, you couldn't keep "100% of any optionality that [you] might stumble upon". The moment you put paper to pen and took the responsibility of caring for someone else, you waived that right willingly and of your own accord. It's no longer your optionality. You gave your word, vowing, "We're in this together, my best ideas are your best ideas". There is no moral separation between your brain, anymore. We, as a civilization, do it because this person is entrusting you with what sometimes took them a lifetime to build. You're literally holding what they exchanged a huge part of their time on Earth to acquire; to provide comfort for their family and security for their heirs.

I'm taking it one step further. Somehow - and I haven't worked out the specifics, yet - like several other firms that have achieved the same thing (and made employees rich in the process), I want to align the holdings so that a client knows the people looking out over their money are invested in the same things, adjusted for suitability, liquidity needs, and time horizon. Almost none of the firms who have done this have suffered any of the disasters others have because of the way human nature works. Even corporations that have melted down could have been saved by large required asset holdings, which is one of the reason a lot of the Fortune 500 has begun implementing minimum ownership requirements for top executives; to require the CEO, CFO, and Vice Presidents to hold a certain amount of stock expressed as a multiple of their base salary, which they cannot sell for many, many years to encourage long-term thinking.

Do you consider that egregious or unfair? That the CEO of, say, McDonald's can't take the millions of dollars he is required to put into McDonald's stock and buy some IPO, instead? I don't. Sure, he might have to pass on some opportunities, but it's part of the compensation calculus he has to make when deciding whether or not to take the job. It's also going to make him far more interested in the long-term survivability and safety of McDonald's than he otherwise might have been.

Just as no one has to take the job running McDonald's, no one has to work for me. In fact, I'd be wary of someone who wanted to manage other peoples' money but not put their own alongside it. I wouldn't trust someone like that with my family's assets so why should I hold myself to a lower standard? I can't do it and sleep at night. I don't want to just follow the rules, I want to be better than the rules. It's the same reason at the sporting goods business we remain one of the few firms that refuses to switch to the cheaper felt on things like letterman jacket name patches. I can't count the number of times we've been called over large orders, the person shocked because they thought they were undercharged or received a better product line than they should have based on the order price. No, that's how we behave. Sure, we could improve profit margins by going downstream but I want to be able to look at it and say, "It's the best we could do." Profits aren't everything. (Paradoxically, sometimes the quality difference attracts people and you end up making more money. The universe is funny.)

I think it goes back to my mom. When the letterman jacket business started and my sister and I were running machines in that tiny garage that was the forerunner to the present factory, if we tried to pass off work that wasn't perfect because we were tired or wanted to get our production list done, she would make us look at the work and say, "Somewhere out there, there is a real person who saved up for this product. Maybe it's a parent who took an extra shift so they could surprise their kid on Christmas morning. Maybe it was a teenager who knew his or her parents couldn't, or wouldn't, buy it for them so they got a summer job. This is going to be with them for the rest of their life. It's an accomplishment they had to earn. Is this really the best you can do for them? Is this the product you would make for yourself?" Over the years, I've heard her say the same thing to the employees when she doesn't know I'm there; if I happen to stop by to say hi or see what's going on with her. It's a core part of the value system that was instilled in us.

Why would I behave any differently when setting up a money management firm? Why should I allow a client to be treated any differently than I would want myself, or my family, to be treated? It sounds so simplistic but it's the right thing to do. You shouldn't hang on to that optimality, Connelly, because you've decided, as a matter of principal, your needs are secondary. In exchange, you get showered with more wealth than you could ever spend if you do your job right. Is giving up the return on a handful of great investments - which you'll take part in, anyway, provided you include it in the block trades placed with client portfolios - really such a hardship? Isn't there a point where you say, "I have enough, I don't have to go for the last penny"?

And, again - all of this is a willing obligation the potential employee accepts prior to employment. There is total, fully, transparent disclosure. There are no surprises. This is not a condition imposed on anyone against their will. "If you work here, this is the conduct we expect. If you can't live up to it, don't apply" serves as a sort of self-selection tool.

Personally, I find the objections a bit hard to understand (though I love the debate on it because it's forcing me to clarify my thoughts in a way that I otherwise wouldn't have). I view in the context of the larger picture. Let's say we do adapt the ConocoPhillips model and offer 900% matching on the first 1% of salary put into the 401(k), huge profit sharing, outright Christmas bonuses, etc., but restrict employee investments to 25% bonds and 75% blue chip stocks like Colgate-Palmolive, Hershey, Coca-Cola, etc. I find it difficult to be sympathetic to the idea that somehow, a willing person who entered into this arrangement is being abused as we shower money on top of them; "Oh no, I received another block of Johnson & Johnson in my account I have to hold for as long as I work here due to that excessively generous holiday bonus. How can I live with this injustice?" seems like an odd way to think from my perspective.

I also think the specifics a lot of people are envisioning are different than what the real-world implementation would look like (see my comment to Scott McCarthy for more on that).

Josh, I think this backlash has arisen from the fact that most of us like having options. We like having the freedom to take advantage of opportunities when we see them. We hate being at the mercy of the random number deities, or (Cthulhu forbid) a capricious human being who may have interests diametrically opposed to ours - if not today, then when the opportunity arises. You and Aaron exemplify this attitude, as you mentioned in your Obergefell v. Hodges post. That's why it comes as a shock to see you write, in cold, plain text, about your intention "to restrict any future employees from having any outside investments to the degree it is possible." You should rephrase this because at first glance this seems like a sudden 180 from everything else you've written. Not enough to shake your readers' faith in you, but enough to do a "wait, what?!" double take.

My idea is to use marriage as an analogy that many people can relate to: in many ways, monogamous marriage is a purposeful, willful restriction of one's own optionality. Practicing monogamy, by definition, means you willingly close yourself to the possibility of finding a partner different (i.e. possibly better) from your own, in exchange for legal, financial, emotional, and spiritual benefits - your mileage may vary. Why would someone choose to marry? Because when you tether your emotional, financial, physical, and spiritual health to another human being, you're promising to share the windfalls you encounter in life while sharing the burdens of negative events. Not tethering yourself means that you're exposing yourself to a conditional ally who's free to stab you in the back when it suits his/her best interests.

In the exact same vein, having all your employees tether their financial well-being to that of your clients precludes the "conditional ally" situation - that is, it eliminates conflicts of interests where the firm acts in its best interest to the detriment of the client. It's one thing to pay lip service to what you say is important, and another to strap in next to the people whose livelihoods you have been entrusted with. You share your windfalls with your clients, and you suffer alongside them during catastrophes.

Marriage is not for everyone. Kennon & Green won't be for everyone. But if you believe that willfully limiting your options actually has a greater net potential than keeping your options open, then marriage and the Kennon & Green model (and the Buffett Partnership model from way back when) will fit your temperament and goals very well.

Is this an accurate analogy to how you wanted to convey your now-infamous #8? Feel free to make adjustments if it's not good enough.

Well said. That's very much the spirit of the matter. I want people who willingly, with full disclosure, decide to hitch their wagon to ours, even if that means they give up on some things because they believe the net benefits for everyone will be higher. It's a trade-off decision just like any other and also provides a sort of signal to potential clients.

As I mentioned to someone else a minute ago, I clearly suffered from a professional blindness when I wrote the line because in my head, I already have several models of how I've witnessed it work to the benefit of everyone; it's not nearly as egregious or tyrannical (at least how I've seen it implemented at the boutique firms utilizing it, which I would seek to emulate) as it sounds.

I'll find a way to re-write number eight, softening the language for now as I'm sure it will be one of the things most discussed with the firm is launched. It was a total failure on my part, not communicating more clearly. I don't think the final product will have anywhere near the degree of opposition people think it will based on (reasonable, given the language I used) assumptions about the extent of the restrictions (e.g., you're not going to have to sell your family businesses, our farmhouse, your existing appreciated stock positions, etc. - I've never seen anyone require that sort of thing, though I'm sure it exists somewhere, maybe for a specialty hedge fund or something).

Thanks for your clarification Joshua to my and Scott's comments. I think the counter-argument from setting a very high fiduciary duty is based on good motivations. And I like the idea of not forcing people to divest private or long-time previous holdings. Also, I like the version after clarification where people can own approved large-cap stocks X, Y, Z, Q, R (but what about just indexing?).

Yet, I imagine I would still get an uneasy feeling imagining working for a company which might say prohibit me from buying into a business that I am excited about. Let's imagine my life's passion is stocks, and I want to buy more of my favorite insurance company. My employing firm isn't trading that company, or we can batch it with the firm's orders to prevent front-running. But the rules are I simply can't own my favorite insurance company. How might I feel? I suppose sad!

That's a very fair concern, and certainly a reason to prevent you from working for that company if it bothers you enough. But... isn't marriage essentially the same thing? When you commit to one person, you're closing yourself off of the possibility of dating someone else who may be better and may make you happier than your current spouse (it can be hard to imagine, but it's not inconceivable).

But if marriage was a rational decision for you, then you gave up the option to take advantage of romantic opportunities that cross your path, in exchange for tethering your fortunes and misfortunes to your current spouse. That's the exact same rationale behind Joshua's stipulation of no outside investments. I think it's perfectly normal to feel a little wistful about "what could have been," but people who want to keep their options open indefinitely shouldn't get married in the first place...and probably won't be a good fit for Kennon & Green.

The marriage metaphor is brilliant.

^_^

Not a total failure; just a minor oversight. I think a simple rearrangement of what you already have, sprinkled with some clarifications, will remove the kneejerk "he wants to restrict my WHAT?!" reaction that drowns out your second point. Something like:

"I see too many firms structured so that the senior partners are encouraged to maximize their personal gains at the expense of the client. To prevent that, we will require everyone who works at the firm (from Aaron and I down to the secretary) to refrain from having any outside investable liquid net worth so that we all gain alongside our clients when we make good decisions and we all suffer alongside our clients when we make mistakes."

Then you can clarify the details (like what you mean by "investable liquid net worth") with a lot of the language you've used to respond to Scott, Connelly, Steven, and me in a footnote or something.

Also, why are your own comments being held for moderation, for approval by you? It's like Disqus is forcing you to self-validate yourself :p

Because the Oracle of Disqus cannot be known. Its ways are mysterious. It appears to lose its mind about once every two weeks. I have to submit the comment as myself, then go to the backend as myself, and re-approve them as myself. Sometimes, 2-3 times. Occasionally, it will wait 15 or 20 minutes, then pull down an already approved comment.

I'm sorry, Joshua, I'm afraid I can't do that.

Gilvus, do you have a blog? I wanna follow you, haha.

Hey David, sorry for the late reply. I briefly dabbled in blogging but videomaking is where my heart is at (so I can insert visual gags alongside my terrible puns). I have a defunct YouTube channel that I might resurrect when I get some other aspects of my life in order.

Until then, you'll just have to make do with me making a fool of myself around Joshua's blog ¯_(ツ)_/¯

While I can feel for the issue Connlley has as I am as fiercely independent as you can get, I had no issues with #8.

I would gladly hold a vast majority of assets alongside the client. That is the morally correct thing to do. It's also a reason I appreciated Buffett's original partnership structure so much.

I was reading Andrew Carnegie's autobiography this morning and couldn't help but hear echoes of your mother's wisdom in his philosophy when discussing his bridge building business. He wrote "we were our own severest inspectors, and would build a safe structure or none at all." He also wrote that even when it seems price is everything, the much more important factor of quality lies at the root of great business success.

I also read Carnegie's autobiography. It is interesting but I think other than a few good life lessons he didn't disclose much about his investment secrets.

If you're ever in Scotland I recommend the Carnegie birthplace museum in Dunfermline. It was really moving to be in the very modest house that Carnegie grew up in, and see how he had travelled across the ocean as a child with nothing -- practically no money, just food in jars -- in boats full of disease. He made his own way up in the world starting as a bobbin boy, and then working at the telegraphs, and then through self-study and the use of a local Colonel's library of books. His mother mortgaged the house to provide him with ownership of stock, and when he got his first dividend, he shouted: "Here's the goose that laid the golden eggs!"

And what I admired most of Carnegie was in the end he decided not to just bask in his own ego like many people who are financially well-off, but rather give back. By funding education, libraries, world peace, and giving awards to otherwise unsung heroes.

Also, if I were to work as an investment manager, I wouldn't mind holding most of my net worth alongside clients (but not all, because really I don't trust that someone somewhere won't screw something up). That makes a lot of sense to me. The trouble would be more if I were hired by someone else who didn't want me to allocate capital. I guess the more employer interests diverge from my own the more I start to get confused. Unfortunately most employers are not simultaneously interested in technology research and event-driven value. I don't really see these as different activities at all, but I suppose most people view these two activities as in different industries.

I loved that passage about his first dividend check as well. I'm sure that's a feeling many of us here remember quite well. In truth I still get that feeling when I log in to my brokerage account and see the dividends that have been deposited.

I agree with you completely that Carnegie doesn't explain any investing secrets, but I've still found it quite interesting to get to know his personality through his writing. I fully expected the intelligence, ambition, and drive, but have been pleasantly surprised by the great affection and admiration he shows for his friends and family, his sense of fairness and honesty in business dealings, and sense of responsibility to give back and provide opportunities for others.

Scotland is on a long list of places my wife and I would like to visit. When we do I'll keep your recommendation in mind and try to make sure we stop by the museum in Dunfermline.

I think the challenge is coming up with the specifics. Would employees and general partners (like yourself and Aaron) be equal in terms of priority of interests when allocating stocks, or lower down the scale? Some ethical investment guidelines suggest that clients must always be given preferential allocation. If your employee is expected also to buy into that next 1 million block of Total Shares, how are you pro-rating the shares that are bought over the entire trading day? Does everyone get the same cost basis? If not, how do you quantify the market impact costs that general partners/employees have on securities, particularly those that are thinly traded? Isn't there a chance that your increased demand for the shares will end up costing your clients in the form of a higher cost basis?

I also don't understand a fee structure that charges a percentage of AUM. Independent of wealth-management questions, and once you have a strategic asset allocation for the client set up, why should investing 5,000,000 or 50,000,000 both cost 2% of AUM? That makes no sense to me. Seems a tad greedy to me.

I agree incentives should be aligned. I'm just not sure how you are going to do that specifically. If you are using index funds or never buying small-caps or IPOs, there probably won't be too much market impact costs or pro-rata conflicts of interests.

1. Those sorts of ethical questions have already been sorted out as this is nothing new. Firms disclose in the Form ADV Part II what their particular methodology is so the client can determine whether they think it is fair or not (e.g., one firm simply stated that all portfolios were managed individually with buy or sell decisions based upon a random portfolio generator program that cycled through clients so that, over time, no one particular client, including the employees, was favored over another). In our case, it's one of the things I'll put a lot of thought into but it doesn't cause me nearly the concern relative to the risk alignment if offers when viewed in the totality of the bigger picture and fully disclosed to complete and total transparency.

2. There are two parts to this question. The first is the model, the second is the price.

I don't understand anyone who would go for any other fee structure other than percentage of AUM or, alternatively if they qualify under the SEC guidelines due to high net worth hurdles, a percentage split based upon performance (the latter of which can be problematic itself because it leads to a tendency for shoot-for-the-moon behavior, introducing wipeout risk, which is the reason so many firms that employ it have to disclose in the fine print that it might subconsciously influence them to take on more risk than they otherwise would). It scales with market movements, unlike fixed fees - that is, if the portfolio goes through a 1973-1974, which inevitably will happen from time to time, the advisor gets a massive absolute dollar pay cut along with the client's losses despite being expressed in the same nominal percentage terms. If rewards long-term thinking because the advisor's best interest is long-term wealth accumulation consistent with capital preservation. One of the biggest dangers is for things like discretionary generation skipping trusts, where, if the investment advisor is also co-trustee, it might result in an incentive for the the remainderman third generation's interest to be prioritized in subtle ways over the second generation current income beneficiary due to the fact more compounding means more fees.

As for the price, it depends entirely upon what you are doing or getting. The reason so many sophisticated, rich people pay for these sorts of services comes down to:

1. The cost/benefit trade-off. Once you get past a certain amount of money, you tend to stop thinking in terms of absolute dollars and start thinking in terms of percentages relative to resources. An extra 50 basis points for someone who makes your entire life effortless, and who handles everything so your two ex-wives, current wife, three biological children, two adopted children, three step-children, and multiple illiquid family businesses is nothing. To try and save it for yourself is, if you'll excuse me, somewhat idiotic.

Case in point: Aaron and I were involved in a bid for a business that had gone into trust for a minor child when her father died. The bank trust department had been operating this enterprise indirectly by appointing employee-backed management and taking monthly financial statements, making sure it was still in good order by the time the child became an adult and received the inheritance. Once the child was 18, she told the trust to find a buyer for the business, free her considerable inheritance, and cut her a check, collapsing the trust as was permitted within the trust instrument.

How much do you think those bankers should have been paid for preparing all of that information for us, showing us around the factory floor, introducing us to management, answering our questions, making sure the audits were done right, the insurance coverage in place, etc.? If you think a one-time flat fee is justifiable, you're going to find no one looking out for your interest when you're dead and gone; the whole thing to go to whomever can disassemble or trick it away from an inexperienced or naive heir first.

2. There is considerable liability risk. The post I did on Johnson & Johnson provides a relevant point. At one time, Seward Johnson sent his daughter a note saying she was living, justifiable proof as to why trustees should be entitled to enormous fees as she had made their life hell, dragging them to court as they attempted to uphold the original intent of the trust he had established. Most clients think their family is different but only a fool would accept that kind of responsibility, time drain, and potential downside without getting sufficient payment from all clients buying the same service to make sure the losses, if any, were covered and a profit could be earned. Even Vanguard, which operates at cost and doesn't provide individual security selection for tax harvesting and such (you're dumped in funds along with everyone else) still charges an effective 1.57% on a $500,000 trust for that service.

3. They can do some fairly specific things for families. Imagine you're a doctor with high risk exposure. Or a real estate investor who wants to protect yourself in case of bankruptcy. Do you really think that the folks with $30,000,000 developing apartment complexes who go to UBS and pay them these kinds of fees got that rich by being foolish? No. They know what they're doing. Prior to the 2007 collapse, you should have seen how many of them were showing up in certain private banks saying, "Put it all in 100% high-grade municipal bonds regardless of yield; safety is all that matters, we've gone off the rails." One sold his own personal house and moved into an apartment. Those fees during that period - having someone else manage the fund so they could do their thing - is what allowed them to step back in, reclaim the money, and buy up their bankrupt competitors during the maelstrom. You're not giving them enough credit.

4. The mandate itself makes a difference. Global and international portfolios require considerably more skill than domestic portfolios. You're always going to pay more for someone who can read two sets of accounting rules, pays attention to the geopolitical climate in a given country, etc. Here, the objective is not so much outsize performance but rather, risk reduction (e.g., the sort of thing that I was doing when I explained to people before it was in the news that if they had money or assets in Russia, they should be bailing because of some of the things that were happening in the legislature). One decent risk-mitigation strategy can justify a decade of excess fees.

As for the second part - price - most places will negotiate. I've seen some that will manage a $50,000,000 account for 0.30% flat, very basic service, keep the thing running, harvest tax losses intelligently, make sure trades are delivered, get your dividend checks to you, etc. Others won't because they have very specific skill sets (e.g., an international managed portfolio is going to cost more simply because it's a lot of work dealing with so many currencies and tax regimes).

In my case, I'm not nearly as fee sensitive as some people because, as with most places in life, I care more about quality. I've seen too many wars lost for want of a nail. If Aaron and I both died, and weren't in the process of setting up this firm, there is only a single asset manager in the United States I would trust with my heirs' entire net worth. They're going to charge me 1.50% no matter how much I give them. They're worth it. I have faith in the people, the culture, the incentive alignment. They believe mostly in passive management, have very low turnover, and practically each and every security goes through a rigorous balance sheet and cash flow statement analysis before being added as it's managed on a piece-by-piece basis to lower risk. They'll survive Great Depression II. It's the most conservative institution I know. I would choose them for my own house over Vanguard (who is still wonderful - this is not a criticism of them at all - and a choice that certainly won't be necessary as I'm setting up our firm, which I intend to run with equal discipline) any and every day because they're paying attention to things like S&P 500 methodology changes or tax efficiency in ways it can't. The numbers get big enough at some point that matters far more than the fact I might pay an extra 100 basis points, especially when I know they, who take a role in the lives of their clients, would have a much better chance of persuading my heirs not to be dumb than someone at Vanguard, Fidelity, or T. Rowe Price is.

Heck, you could probably convince someone, somewhere at a decent asset management firm to take a $10,000,000 portfolio and construct a modified, directly-owned, tax-efficient index fund for you for somewhere around 0.50% to 0.75%. I'm not sure I'd accept the contract but I'd think about it since I could do it so easily. Plus, then they'd have all sorts of other advantages. Pick up the phone, call and say, "Transfer $14,000 for the gift-tax limit worth of Coca-Cola shares to my niece in a new UTMA you setup for her." while they go back to dinner. That has real utility to some people who don't like thinking about money. God knows I am that way when it comes to thinks like car maintenance or lawn care. Is it really worth four-figures a year to have my yard taken care of, my sidewalks salted, and my driveway shoveled when it snows? It is to me. I'd rather be reading a book and I'm successful enough it doesn't matter.

If you've read my stuff, I'm a huge fan of index funds for the average person despite their structural flaws and they are also good for certain other specialty situations. (My entire personal foundation is split equally among two index funds because by doing it that way, within a larger donor advised fund, I could avoid disclosure requirements in the form of the IRS 990 which I would have had to release to the public.) They are, however, a blunt force instrument that cannot, and do not, meet the requirements of a lot of people once you start getting into real money. If a person has no need for such a service, I don't think they should pay for it. It's all about personal utility, which is unique.

[I'll try and come back later to clarify / edit this comment. We had dinner and ice cream but I started responding before realizing this, alone, could make for an interesting post topic - who, specifically, benefits most from certain services.]

Joshua , I am just guessing but I believe you are talking about Tweedy Browne in whom you would trust if something happen to you and Aaron. My question is what happens say I am a client and something did happen to you and Aaron what is your backup? Someday I am going to want to find a good money manager to handle my children's trust that I plan setting up in the next 5 to 10 years.

That's ultimately going to be one of the most important questions with which we have to concern ourselves.

In the beginning, based on ordinary probabilities, it the chances of it becoming a problem are about as low as we can get in a world where things aren't certain. The odds of both of us dying at the same time are a rounding error. Both of us have a life expectancy of more than 84.4 years. Both of us have a 1 in 2 probability of living longer than 86.3 years. Both of us have a 1 in 4 probability of living longer than 94 years. That does not account for any scientific advancements that might happen in the next half-century. There is no history of dementia, Alzheimer's, or any other cognitive impairment in either of our families. We don't smoke. Other than French food in which the alcohol is burned away, we rarely, if ever drink (certainly less than a dozen times in our lifetime thus far). Neither of us has ever so much as smoked a cigarette or used any form of drugs. The list goes on and on.

In light of that, we think the chances of us having a 50+ year run at this are satisfactorily high; certainly more favorable than major banks or trust companies, which tend to trade hands and rebrand themselves with new employees in what seems like every-other-year so you don't know what you're getting. That's a long time to build a culture, especially given that we start out with total ownership, the first two people on staff, and in charge of the hiring process ourselves.

Ultimately, I imagine (though I am not willing to state definitively at present as it is something to which I want to devote a lot of time and thought) it will look like a small group of managing directors, each of whom is financially and contractually bound to the firm; a handful of people who come to us over time and that I can observe for years, watching everything from their capital allocation practices to the way they live their life. That way you get this rolling-experience of tenure so the institution itself isn't likely to change much over generations because turnover at the top was almost non-existent.

In between the early founder's days and that time, there would be two countermeasures I'd be likely to take in the event of some freak event that took us both out of the picture; something that, again, is highly unlikely on an actuarial basis.

1. The nature of the investment style is that portfolio turnover should almost always be below 10% to 20%. With average holding periods of 5 to 10 years or longer, knowing the portfolio itself had enough underlying quality, the client would be able to take his or her time without having to liquidate, holding what was already owned as they found an alternative asset management group. Unless there was some special mandate happening, in other words, the portfolios should run themselves for 3-5 years after we died since we aren't market timing, we aren't putting together highly complex, time-sensitive derivative exposures, or anything along those lines. We focus on valuation and quality. Let's say I wait years and finally pick up a sizable Brown Forman position for clients ... would our death really matter in the short-term? Are they going to be selling any less Jack Daniel's? Of course not. So, in that respect, the method of what we do is very, very different than a lot of places.

2. I could keep a written letter in a vault telling each client the person or firm I recommended as a backup to us and/or have our executors arrange a sale to that person's firm.

Additionally, in the next few years, Aaron and I are having children. It's highly probable the firm we establish will be the one watching over our own children's and grandchildren's trust funds, education funds, and other inheritances; not to mention many of our siblings, nieces, nephews, etc. At some point, as operating profits are redeployed, other assets are sold, careers are built, etc., the Kennon-Green family will end up most likely having most of its liquid net worth in this place. I mean, my brother alone is going to be earning anywhere from $250,000 to $500,000 a year based on his speciality following med school, not to mention the money he's already built up from his military career. Most of that will get invested, which will turn into a significant pile of assets over his lifetime. If something happens to us, he, as a client, will be in the same boat you are. Whatever we decide, and however we resolve it, I want all clients treated exactly my own family.

The solution we ultimately reach will be one that allows me to sleep at night and not worry about those who remain. It's been done before by looking at how others have handled this - it's a problem as old as life itself - I'm sure I can achieve it.

Great answer , You are wiser than your years. I can't believe I may have someone from a blog that might be my children's Trust investment manager someday.

I am always a bit surprised when people make trusts for children. If I thought I was getting up there in assets or years, I would probably make a charitable trust instead.

The reasons are twofold:

(1) I believe that self-sufficiency and (properly working) free markets are generally ethically right, because most people get paid roughly proportionally to the value they create.* Thus, it is ethically wrong to give someone a large lump of resources that they didn't earn personally, unless they possess some great handicap, or unless it will do them some great good. The reason being that receiving a big lump of resources incentivizes the value creation machinery to stop --- because it is often easier to be lazy and than to say create businesses or technologies. (Think about what percent of trust fund recipients focus on spending the money for consumption instead of using it to create jobs, businesses, technologies, etc.)

(1a). In more detail, the ethics argument is by the categorical imperative. If all large lumps of money were always required to be redistributed (or even just redistributed to children), then we would have tons of recipients wasting talents that could otherwise be socially beneficial, and tons of donors not creating businesses or innovations because they would have no incentive to do so. Meanwhile, people who have great talent and are in crushing poverty e.g. in China, India, Brazil, would not receive small charitable contributions for e.g. scholarships, which could greatly and positively impact their lives. The net result as I see it is the transfer of many small pieces of charitable money that could benefit many lives through education, to one big lump of money for some lazy, rich, entitled person.

(2) I have seen too many peoples' relationships with their siblings or relatives turn very bitter over things that are being given to others. If one teaches children to be self-sufficient, not be entitled, and expect no fortune or property transfers, then I think their chances to be self-reliant will be higher and their likelihood to litigate, fight, or engage in counterproductive behaviors will be lower. If they happen to get something in the end then they will treat this as a psychological bonus --- rather than an entitled person who will treat missing out on a fortune as some great affront to what was "rightfully theirs."

* Major exception: there is no global labor mobility, so this is not true across country lines. See e.g. the arguments of Michael Clemens for liberalizing labor mobility.

Well said, when I take about setting up a trust fund for my 3 kids it is not for them to not work or be lazy. Now I know some people will say education is the way out of this rut which is true but I have lived long enough to see as the say the apple doesn't fall far the tree. I was in Special ED Class and so are my two boys. I am proud of my kids they are smarter than me and they work my 2 oldest is and have worked at HYVEE since they where 16, my oldest girl now works at a bank and she is 19. She has 6800 in a Roth IRA and 1450 in her 401K. My son is about the same amount. he is 18, my youngest is 16 and he has about 3200 invested. And for those that think this is pocket change there father who never made over 40,000 a year and didn't start investing until he was 23 could be one of Joshua's clients. When you grown up without it tends to motivate a person to leave a better life for there kids. As a blue collar worker who has saw his wages decrease the last 7 years while the company owners life go's on new cars new Jet. To get ahead in life one has to be a owner of a profitable company or own stock in profitable company's. I personal don't have the brains to run a company as most of you can tell by my grammar. But I know that if I save and invest in good company's or find someone that is smarter than me manage my investments. That is how I my family can get out of this rut of living with the basics. I am no different than my boss who has given his kid a leg up. The son is now CEO of the company same age as me and started the same time. This is a long journey it would take 3 generation to get a trust fund largest enough to get one not have to work. All I wish for is that my kids to have some extra money when raising there family's to pay for piano lessens, dancing lessens, new school cloth beginning of the year. And yes I should of gotten a better job but see I am one of those workers that employers love I never leave no matter what pay cut, no raises. I haven't missed a day of work in the last 3 years . Sorry it sound like I got a chip on my shoulder:(

Well congratulations for your good work ethic and your love for your family. I don't think my comment was even particularly addressed to you. It just distressed me to see my wife's relatives fighting over inheritances, lazy children who have trusts just doing entertainment and consumption activities all the time, etc. I wonder how many people think it through carefully before leaving millions to their children. This topic relates I suppose to the psychological effects people experience when they win lotteries:

http://www.forbes.com/sites/robertpagliarini/2013/09/27/why-lottery-winners-crash-after-a-big-win/

Connelly I wrote that after a bad day at work. I do worry that in the long run leaving a Trust Fund to my kids may do more harm than good. Thinking setting up the Trust that works like this when I turn 71 I will no longer get the dividend's from the trust because I will have to start drawing from my IRA's which should be in the 7 figure range by then. My youngest will be 36 years old and hopefully have a family. The Trust will be set up so when they turn 71 they will stop getting dividend's and so on and so on. So they know that the Trust only payouts for about 35 years. Should be enough years to help with raising a family and putting some away for retirement because they will know at 71 it stops.

Yeah, number 8 does not sit well with me, "to the degree that it is possible". I must have read it over a couple dozen times, trying to justify it entirely. I am glad there is some talk among some very intelligent people here. I just can't totally even rationalize my thoughts on it. Maybe it comes from being an employee for such a long time, and seeing all the negatives created at "the top", yet always doing my thing on the side.

This is no negative opinion on Joshua's idea at all, as I am pretty sure, and would be shocked if I am wrong, that his intentions are totally well meaning and air-tightly thought out.

I don't think Joshua meant anything negative by it, but he may have not thought thru how many people might find it alarming.

If my wife came to me with news about a job offer she had received, and it wasn't some high up position involving conflict of interests (i.e. I'm going to be the new Vice President so I better sell my Haliburton stock) there would be some serious domestic disharmony if she started saying her new boss got to have some role in my investment decisions!

I could see their being some justification for it if the job involved making investment decisions, as an investor I might find the requirement for that level person attractive.

The knowledge that the receptionist (and potentially his family family) had to operate under such constraints in order to retain her job I suspect would creep out many clients.

Echoes of...
"The Firm" begins to sound very creepy very early in
the film, when it becomes known that `the firm' has never had a divorce,
`the firm' encourages children,' `the firm' is a big, happy, 41 member
family. Unfortunately, it seems that another interesting little side note is
that no one has ever left `the firm' and lived. "

I just wrote a few responses that explain my thoughts in detail on it (all of which should now be visible in the comments section if you want to check them out). To some degree, I have to plead professional blindness because in my head, I have a certain models of how it already works and how it's made a lot of people very successful while aligning the incentives.

There are a not-insignificant number of firms out there managing, say, nine-figures with barely more than four people in the office. You have yourself, the other portfolio manager or analyst, and a secretary. There are several that have grown into the multi-billions with barely more than a few dozen folks all working in an a relatively small office, everyone grabbing lunch from the same place and using the same central coffee pot. It's a tremendously scalable business model once you have the money to get past what can be high fixed costs starting out (depending upon the specific type of firm you are launching - some can be done with next to nothing, others take a lot up front in legal and regulatory compliance). This is not something that is going to effect many people and all of them will have signed up willingly with full transparency. If I want a secretary, I'm going to find a candidate that fits my needs, have background checks, and approach them with an offer than makes them stick by my side for a long time. If he or she turned us down because his or her husband/wife wanted to keep running their money, that's okay. We're both free moral agents. We aren't entitled to their services and they aren't entitled to work with us. We're looking for the right fit. (Plus, if you check one of the other comments I made, almost all of the firms I've seen have pretty broad, reasonable exception rules; e.g., if you had a big block of Halliburton stock upon your arrival, it would be grandfathered in, you could have huge non-security positions, like real estate holdings and private businesses).

One possible hybrid solution I've seen for non-control or access people that accomplishes the same thing to some degree is allowing outside investments in a few, restricted situations (e.g., open-ended funds, ETFs, etc.) but setting a high minimum investment level alongside of clients after so many years of service, the person had to have a large amount of skin in the game. In a few situations, these were funded with bonuses and profit sharing so that administrative person over in the corner might be sitting on $200,000 worth of assets at the firm even though he or she had never put any of their own out-of-pocket money into it. As long as employment remained, they were required to be invested alongside clients. It would alleviate nearly all of the objections you raise while still providing the same incentive alignment so clients knew everyone in the building was going to suffer if they ever made some huge mistake; they were all in it together.

(As for "The Firm" ... I can't even imagine something so horrible. If you look at Aaron and my inner circle and it's got every religion, every race, every part of the political spectrum, every socioeconomic category. I'd go bonkers in a place so sterile with so much cold uniformity. The only consensus upon which I will insist in that regard is 1.) The client comes first (part of the discussion we are having; how best to achieve that), and 2.) The value of any acquired asset must be justified based upon reasonable, articulated assumptions about earnings, dividends, assets, liabilities, or other metrics, and make sense within the context of the overall portfolio exposure.)

I just wanted to jump in to say that #8 didn't bother me so much, perhaps because my professional experience includes nitty gritty understanding of the concept of fiduciary duty in the retirement plan context, as well as the minimum stock ownership requirement policies executives, and sometimes members of middle management, are required to follow. So for me, #8 was viewed as not overtly harsh. It is not uncommon for professionals in audit firms, for example, to be subject to independence standards that prohibit investments in client companies in certain circumstances, such as where there could be a conflict of interest. In those scenarios, there are also exceptions and/or firewalls can be constructed (like if your spouse wants to maintain ownership of stock of an audit client or in the family business situation referenced).

... (whispers with joy and relief) ... the ERISA attorney understands my intentions ...

Seriously, I did not even consider people weren't aware it's done, which is why it was such a short passage. I wouldn't have thought much about it if someone required it for me to serve in some specific capacity, it would be part of my calculation as to whether I wanted the position or not. The fact it could be found onerous or controversial is strange to me but I'm grateful everyone is so open in talking about it because it immediately lets me know the way in which it is communicated to potential hires is going to be extraordinarily important. It has to be framed in the context of why it is done; why it is a core part of who we are and what we believe is the right way to behave.

It's funny how it's easy to take things for granted because we are so used to them. (Aaron was cracking up a few hours ago when he popped his head in the door and laughed, "Man, they're really freaking out about the ownership requirements, aren't they? I would not have expected that.")

This is going to get interesting when we start getting into the nitty gritty of firm setup and regulatory rules. I'm excited about it, haha! It's going to feel a little bit like dodging tennis balls in the middle of a court.

Ha! Loved the gif. My husband is laughing at it, too. 🙂

"A single man tear...a single man tear.."

Yes, the manliest of a single man tear.

I really appreciate you taking the time to address all our comments Joshua. Your revised version reads much better and I'm sure you aren't the type to run something like "The Firm".

I also really appreciate you laying your thoughts out how you do and exposing yourself to all our comments like you do - that takes some internal fortitude I'm sure.

I would also add that please keep doing so. I'm a very skeptical person when it comes to trusting people not to take advantage of me if I give them control of my money; I do trust you however - your blog, with all its financial, intellectual, and very honest sharing of personal stories over time had thoroughly won me over.

If I ever get to the point where I have half a million needing management, you are the only person I would consider if I decided to no longer do it myself. I'm sure many of my co-readers feel the same, and you will have a huge pool of potential investors over time.

I would not be at all surprised in in 30 years time you and Aaron will have a firm with Fayez Sarofim levels of success. Good luck guys!

Re: Your edit: Every firm I've ever seen that imposes a standard like this, requiring employees to be in the same boat as clients, restricts it to investable liquid net worth. The employees can still have huge cash and Treasury bill reserves without restriction. They can still own or develop real estate. They can still own private businesses (though you have to disclose this in the regulatory filings so the person knows there is something else that takes your attention, even in a small way). Exceptions are even made for large, appreciated security positions that were acquired prior to employment (e.g., you worked as an executive for some company and now have this massive concentrated block you don't want to part with anytime soon). It applies solely to their stock, bonds, REIT, MLP, and other securities holdings. Generally, if you buy it through a brokerage account, it falls under the umbrella. I never considered anything else. If I hired someone who had a huge stake in a private family candy company, that doesn't bother me because most of the clients are, likewise, going to have real estate and private businesses outside of their liquid securities portfolios. We're talking solely about that portion of their holdings. It would be egregious to consider someone to divest a family business or a working farm. That was not now, nor has it ever been, in the cards. I expect most of our associates to end up with holdings like that.

Re: Your original comment: I can see why it may appear that way but it's been done successfully at a handful of firms without any of the problems you mention due to the structure in which it was implemented; firms that have been far more likely to survive and prosper during economic and market collapses because everyone is in the same boat as the client and people have a tendency to watch out for their own well-being.

I think your objections might be significantly reduced if you understood the structure of how this has been enforced (which is my fault entirely for not adequately explaining in the post itself, having skipped over some of the models that have been used in the past by others).

The general theory behind the handful of places that demand the standard is this: If a client approaches a money manager and lets that money manager invest a large portion, or in many cases, the entirety of his or her liquid net worth, it is immoral for the money manager to turn around and put his own liquid net worth in other investments not available to client or that deviate substantially from what they are having the clients, as a whole, acquire (suitability definitely factoring into the question). The portfolio manager has the highest duty to another person under the law - a fiduciary duty - to put their own interest about his. They have to come first. It's part of the deal when you sign on the proverbial regulatory bottom line and this is seen as an extension of it. (This manifests in other ways, too, even for those with less draconian requirements. Many firms, for example, outright ban employees from participating in any IPOs. It doesn't matter if it's fair or not, if you are employed there, you and anyone in your household cannot take an allotment or you're getting a pink slip.)

Instead, what the employee typically does is open a custody account at either a bank trust department or registered broker-dealer. The firm itself is granted monitoring ability / limited power of attorney over it. The employee signs an ethics agreement, saying he or she will seek permission from the compliance officer before placing certain trades to make sure they don't result in harm to the client (e.g., buying Johnson & Johnson during a market crash and taking the supply of cheap stock). If there is no conflict, the trade is cleared. If there is a conflict, there are ways to resolve it, such as batching the employee's order with clients' so the average cost basis of the trades are divided among all accounts actively buying it at the time, giving everyone a fairer deal. (Side: The power of the employer here isn't unique. In fact, Control or Access persons don't have an option here on the monitoring front - those with access to certain client information and investment data and those in their household, whether the household members consent or not have to make their accounts open to monitoring, which is one of the reasons you get all of those questions on a new brokerage account application. If the person places a trade in violation of the ethics agreement the firm made him sign, he can be subject to everything ranging from immediate dismissal to disgorgement of profits.)

Let's say we go with the first category - a firm specializing in global value asset management. Unless and until we launch a pooled investment vehicle, every portfolio is individually handcrafted, including the employee's own portfolio. Suitability is a core part of that process. Clients and employees still set the mandate and can even include ethical considerations (e.g., "I know we're building large tobacco stakes for our clients but I'm uncomfortable owning these firms so I want them excluded from my account"). There'd be nothing inconsistent about an employee saying, "Josh, I want a severely restricted mandated; a focused portfolio of only fifteen stocks, all with great dividend records. Buy them regularly, whichever you think is most undervalued at the time, and reinvest dividends". Okay, we can accommodate that and you're still in the same sort of assets we hold for clients. I find it hard to feel sympathy toward the idea they are somehow they're getting screwed because we're showering them with much higher than average income and bonuses, while they have to restrain their activities to the Hersheys and Coca-Colas of the world.

The goal is for the employee account to hold the bulk of securities that are little or no different, in substance, from any other client account at the firm, suitability, liquidity, and time horizon all playing into that analysis. Yes, it will be unique and hold a different mix of assets, but if you blacked out the name, it would be the same sort of investing philosophy, the same sorts of buying patterns, the same sorts of analytical process as used when constructing non-employee portfolios so you couldn't tell a difference. It makes it all but impossible to get situations like the ones you saw back in 2005-2009 where people were trashing certain assets in internal emails to each other but recommending them to the general public, individual clients, pension funds, etc.

Additionally, realize that, at this point, I'm not thinking about going after a broad firm in the sense of American Century, but rather a boutique firm in the sense of some of the older value investors who built small organizations around themselves to scale their existing activities (there's one that over many decades, grew from nothing to now managing tens of billions of dollars with a couple dozen people in an office, almost all of them secretaries, a few analysts, and only 3-4 owners/decision makers; the employees have nine-figures of their own money invested alongside clients as do the retired partners). Large and institutional dynamics aren't relevant. Even if the place starts with just Aaron and I, we could become gargantuan without ever having more than what amounted to a baseball team of employees; a handful of people working in an office every day, side by side, for decades, all hitched to the same wagon.

But imagine that, God forbid, I suddenly get replaced by outer-space body snatchers a la the 1950's sci-fi movies. My doppelgänger has a penchant for using large percentages of client portfolios to speculate on triple leverage crude ETFs. Aside from the fact he's going to eventually run the place into the ground with lawsuits about suitability, the very thing you seem to think would be a concern - a revolt among the small band of secretaries and analysts who have been chosen over the years, in the case of the latter, for their own adherence to disciplined, rational value investing - is exactly what you'd want. Multiple, concurrent resignations sends a massive signal to everyone else, including clients. The alternative is letting the honest employees who see what is happening bail ship by keeping their paychecks but deploying their own fortunes to alternative money managers, leaving the clients behind and saving their own ass. Not on my watch. I think it's the only ethical way to behave; the people steering the ship should have to go down with the ship, which is going to make them a lot more careful than they would otherwise be. If you, as an employee, believe a place has gone off the rails, you should have to resign because continuing to draw a paycheck makes you complicit in the conduct.

When the resignation came, you'd call the bank custody agent or broker-dealer and remove the firm's oversight at the same time you tendered your letter of resignation. The employer - who, again, is most likely a friend and colleague as you're talking about a handful of people who have been working in a close-knit office together for years - couldn't hold your money hostage. You could immediately go out and, assuming you weren't using information you gained from your position as an access or control person, start flipping penny stocks if you wanted. It's not some golden cage. You can walk out at any time, throwing a lamp down behind you and screaming, "Bye, Felicia!".

I also think it matters this is not a new condition that would be imposed upon someone. Everyone would know it from the outset and have the ability to make a fully informed decision.

Furthermore, the nature of the firm itself is self-selection because I cannot foresee a situation in which I would knowingly hire anyone who didn't share our deep value / growth at a reasonable price philosophy. To complain or feel put-upon about the security selection - e.g., "Poor me, I can only buy undervalued, fully-paid-for-in-cash, attractive businesses and am restricted from speculating in any meaningful way during my tenure" would be like a vegetarian applying for a job at KFC and then being miserable he or she couldn't have a hamburger for lunch. It's not what we do. We're value investors. It's not like their probability of getting rich too isn't significantly higher than average if they play by the rules.

It's important to say: I wouldn't be doing this if I were building an organization with 5,000 workers. I'm doing it because I can start in an office with just the two of us plus support staff and slowly scale to a handful of people due to the scalability of the industry. There are a not-insignificant amount of boutique firms that manage nine-figures with 4 people or less, some of which just have a single portfolio manager, a backup manager, and two secretaries. I think the problem you are envisioning probably looks very different than the reality we are confronting in terms of implementation.

(As always, I enjoyed and appreciated your comment. I'm not even kidding when I say I'm tempted, once the firm is open, to send you a copy of the information packet, a red pen, and sticky note saying, "Find flaws and force me to defend or reject our current position". At the very least, it forces me to reevaluate things and for that I am extraordinarily grateful.)

I think you're on the right track. You'll attract a lower percentage of high quality employees and clients, which is what you want. Anyone wanting to work with you is going to have a long term mindset. If ther not willing to put their money where their mouth is then they shouldn't be in the game. I just finished my MBA and started studying for the CFA exams. When I'm financially independent in a couple of years this is exactly what I'll look to do. Either find a place to work that operates in this manner, or start one of my own. I'm excited for you two.

hey! MBA and CFA? welcome to the club! 🙂 I'm currently pursuing level 2. Just wanted to let you know that its one hell of a fun ride....if your completely in love investment management that is. You will be losing sleep over the next few years as you wrap your head around new concepts and you will probably not have a social life ( I kid you not!) but the learning is just priceless!! All the best!

Oh, well that's much tamer than what I had interpreted your original comment to be. I thought you actually mean all or nothing - I'd certainly agree that a prohibition on private, illiquid investments like real estate would be abhorrent, and am very glad to understand that you didn't have anything of the sort in mind.

Now that I better understand what you were trying to say, I'm much, much less opposed to it - actually, I wouldn't be opposed to it at all, if I'm understanding your position correctly now. The thought of an employee missing out on great opportunities because they're outside the firm's core strategy is never what concerned me. I was terrified, however, that you might restrict an employee from being able to divest a holding which he believed to be toxic, if he was unable to convince you that he was right (and I expect you'd find that every bit as scary as I did!).

And of course the compliance aspect is a given - I don't think any reasonable person objects to compliance controls.

But speaking as someone who knows your taste in pens, I'd be very happy to have to send me that packet (though I'll warn you now that my penmanship is nowhere near as nice as yours is). I think you're aware that I'm not an attorney or anything, but I'd be happy to take a look at what you come up with and offer feedback.

"(As always, I enjoyed and appreciated your comment. I'm not even
kidding when I say I'm tempted, once the firm is open, to send you a
copy of the information packet, a red pen, and sticky note saying, "Find
flaws and force me to defend or reject our current position". At the
very least, it forces me to reevaluate things and for that I am
extraordinarily grateful.)"

Joshua, I know this wasn't addressed to me, but I would gladly take you up on that offer myself. If only for the learning that I would gain from such an exercise of critical thinking and argument, it would be well worth the many hours spent.

Scott, Joshua is on the right track. I have 3 mutual fund family's that basically have the same setup that Joshua is talking about and they all date back to the 1930's. The only problem Joshua will have is a proven track record.
Only time will tell and when I say time I mean 30 plus years. I would love to find a young money manager that could make me and my family wealthy over decades and Joshua might be it.

A little bummed at how far below your minimum assets I am, but totally understand why it has to be that high. If you ever consider adding a pooled/mutual fund with lower minimums, I'd definitely consider signing up.

Otherwise, I wish you and Aaron the best. Perhaps I'll be a future customer of yours...in about a decade or more. Very exciting development, and I've learned a lot about investing from you both here and over at About.com in the past few years.

Imagine your termination (either voluntary or involuntary). Imagine trying to quit a job where your boss controls your entire net worth. Or worse, being fired - imagine negotiating a severance package with that hanging over your head!

Under the arrangement as I understand it, this grossly misunderstands the amount of power your boss has. Your boss doesn't get to hold your investment in the firm hostage. This is not like "well if you quit at anytime before age 65 you lose your entire pension". It merely dictates philosophically how the portfolio is managed based on how the firm would manage it for its clients. You don't forfeit your investments by deciding to quit your job. If at any time you decide to leave, you can have full control once again. I don't really see where this disadvantages you in a negotiation. And even if there are vesting provisions for bonuses, you knew that going into the deal, so is there really a problem here?

***

I really liked this concise summary of the financial industry. It's refreshing to see someone in the financial industry who actually cares about the interests of the clients instead of just trying to extract value from them (which is partially what made me want to learn about investing in the first place). Again, sadly the people who need to read this most probably won't 🙁

***

The only problem I am having is trying to convince some family members that this is exactly what is happening (given their rather substantial reliance on category 4 firms)...even where at the same time they aren't willing to pay for quality Category 2 services. I try to emphasize the dangers and risks of chasing hot money while generating high risk and inferior, tax-and-fee inefficient returns, but it seems like the emotional high of making a couple percent profit in a week or so is just too powerful.

It seems hard for them to really understand that stocks are simply fractional ownership interests meant to be measured over the long term and that mathematically you pay dearly for playing the short term game.

I'm at a loss of what I could do here to help improve the situation, or is this just one where you just need to back off and let them do what they will? It is hard to get anywhere past "what you say makes sense and you seem to know what you're doing, but that is only one way to think about it". I have gone with this family member to meetings with Category 4 type advisers (at their request), but I am still baffled by their decision making process. It is so feels-oriented, and they seem to pick and choose what they want to listen to.

Perhaps it is my age that doesn't do any favors here, but I'm just wondering -- do you have any techniques on how to best help these types of people? (Or is it best just to give up)?

@joshuakennon:disqus You represent a rare breed of folks trying to do the right thing for customers in the financial services industry, therefore, Godspeed in this endeavor. Like you, I am passionate about finance but would never consider working in a typical Wall St firm due to what they have allowed themselves to become.

I'm not sure how many others have offered to help you on this quest, but you can count me in at whatever capacity is needed. I'm a geek/innovator/designer/technologist by trade and I'd be happy to help you bring this vision into reality.

Cheers and best of luck!

PS.: check out Society of Grownups, they're doing a similar thing in terms of financial planning for young adults. Small & hungry group, sharp CEO, happy to make an intro.

It is so interesting that so many of the frequent commenters on here (including me, in my sub-comment posted a bit after this article came out) had parallel reactions to #8.

To use an analogy from a company I often talk about, I think it's like people on tech sites being astounded and shocked when Apple solders RAM or otherwise makes a product less customizable or user-serviceable. It's a hobbyist/specialist problem.

What do you think of the Buffett Partnership structure? Is this something you may use? I think it was 0% management fee, 25% profit-share to Buffett above 6%

It depends on the order in which we launch since we're doing a systematic, targeted, controlled rollout - either the individually managed accounts in third-party custody for a flat annual fee (which will allow large IRAs and certain other pools of assets that otherwise wouldn't be easily brought into the firm for various regulatory reasons) or a partnership-like structure. A handful of value firms have offered both in a side-by-side arrangement with the client choosing that which works best for them. It isn't necessarily and either/or thing.

Buffett, since you mentioned him, operated multiple partnership arrangements throughout his lifetime, many of which wouldn't really be supported by the broader market these days as they are somewhat outdated in terms of expectations. For example:

- He managed a fixed income portfolio for a modest (if I recall correctly) flat fee for a couple of old ladies, whom he wouldn't allow invest in his equity partnership because he didn't think it was appropriate for their situation.
- He had one or more partnerships where it was 50% / 50% profit split with him taking some (25%, I believe)of the downside if things went wrong.
- He had a partnership setup specifically for him and his father that he didn't charge much, if anything
- He had another partnership where it was 75% to limited partners, 25% to him over a hurdle rate equal to something like the Treasury yield which was around 6% [e.g., the cost of opportunity cost of parking cash, so were you to use a similar arrangement today, you certainly wouldn't establish a 6% hurdle, but rather, somewhere between 0.28% and 2.12% depending on whether you used the 1-year Treasury or the 10-year Treasury].

He engaged in some structural engineering - it was honest, mind you, but it made his results look better than they were - that would be worth its own post someday. I have all the old partnership letters somewhere but I want to say it was 1962 or 1963, he was employing something like the equivalent of inflation-adjusted $11 million in debt at the partnership level for workouts, then another $9 or $10 million in inflation-equivalent debt through a general corporate loan made to a controlled subsidiary (Dempster), which he was able to ignore the stock price and use private value, instead, making his performance relative to the market look far better than it otherwise would have been had he been restricting himself to long-only purchases like Peter Lynch had to at Fidelity. (It raises an interesting point: If Harry Bottle hadn't saved Dempster, I sincerely doubt any of us would have heard of Warren Buffett as the results could have been disastrous. He would have still ended up very rich because he was, and is, brilliant, but I don't think he would have had the scale he did to take over Berkshire Hathaway.) The man is a genius when it comes to structural design. He creates systems that redirect massive portions of the productive output to himself even when the underlying holdings perform average by using special types of leverage that don't have as much downside when prudently managed. Strip out, for example, the stocks he has held through Berkshire's insurance subsidiaries and they aren't particularly exceptional - he's as good as most other value investors, beating the market, but it's really that he has all this non-equity float amplifying the effects. The influence of Teledyne on his behavior is hard to overstate, which is almost entirely ignored by those who study his career.

He's also a genius at controlling the narrative. As Charlie Munger once remarked during a shareholder meeting, Warren's whole ego is involved in Berkshire and his net worth whereas Charlie couldn't give a damn once he had financial independence. Buffett has gotten people to look at Berkshire's rise in book value each year then compared it to the S&P 500 market price (rather than the S&P 500's adjusted book value). It sounds so reasonable on the surface but he gives himself a huge measurement advantage here that provides breathing room for a long-term view. The reason nobody questions it is because, long-term, he has lived up to his performance promise. Again, he's done it honestly and it's worked out wonderfully but it's a sort of sleight-of-hand to get people to focus on the future during periods of underperformance like that 10-year stretch in the 1960's or 1970's when the company's stock price was worth the same amount of purchasing power at the end as it had been at the beginning. Like the control-accounting he employed at the partnership, he knows exactly what he's doing. He used to do it in the 1980's with talk of overhead as a percentage of corporate costs, compared Berkshire to a mutual fund when, in reality, it was a technicality of holding company structure that allowed him to ignore most of the measurement costs of the individual operating subsidiaries. None of this takes away from his achievement, it's merely a way to say I understand how Charlie Munger sometimes laughs and rolls his eyes. Charlie never cared - he'd just show you the ugly numbers, be down 75% on paper in a year during his partnership, and say, in essence, "This absolutely sucks but this is the way it is and you'll deal with it or you don't deserve to compound your money with us."

I do know I'm not particularly keen on the ubiquitous 2-and-20 arrangement everyone else seems to use. When I met with two higher ups at the law firm that is advising me and which is one of the best in the state at arranging these sorts of structures, getting the necessary filings done with the securities regulator, etc. they pressured me heavily to go with it, saying it was simply how things were done. I'd rather get paid less, if anything, if we don't make money, but get a significantly heftier chunk of any upside, which they were baffled by since it could mean years of no income from the partnership. Their astonishment that I would even suggest it was a bit strange, to be perfectly candid about it. They looked at me like I had two heads or had somehow suggested we engage in ritual animal sacrifice.

I can't say for certain but there's probably a 65/35 chance we'll launch the private individually managed accounts first. Part of that is a personal consideration as I have some friends and acquaintances that have been trying to get me to manage their accounts for years, and who have liquid assets ranging between $100,000 and $500,000 parked in things like Traditional IRAs. Aaron and I, as the two Managing Directors, will be able to waive the minimum and slightly alter the fee schedule, bringing them on board even though they otherwise wouldn't qualify (and certainly wouldn't qualify for a partnership under the accreditation rules). It will make social engagements a lot simpler as the next time I'm backed into a corner for someone saying, "Please manage my money", I can hand them a Form ADV, an information packet, and that be that. Those IMAs will be a flat fee arrangement similar to a mutual fund. I'm not sure if we'll go invested balance (e.g., 1.50% on invested balances with cash excluded like one value-based firm does), a flat fee (e.g., 1.25% on the first $25 million or 1.00% on the first $100 million like two value based firms do, respectively), or a flat-tier (e.g., if you have between [x] and [y], then [z]% is what you pay), but we've narrowed it down to a handful of potential arrangements. Most of yesterday and this morning was spent running scenarios and having discussions the merits and drawbacks of each approach.

That would make another interesting post as part of the series when we go through this process - explaining different fee structures so when folks encounter them they understand the pros and cons from both sides of the table.

Always learning something in your in-depth responses back to readers' questions - thanks always for the insightful replies!

In regard to #8, I once heard Carlos Brito, head of a Anheuser Busch InBev, say when he makes hiring decisions, he takes owners over executives every time. He gave an example of an employee working at a small mom and pop store when whole foods moves in across the street. The executive will probably leave to go work at whole foods but an owner of the small mom and pop store will stay and innovate and focus on how they can survive. I hear you saying the same thing - you want owners over executives, I just don't know if you can enforce it legally after you've hired someone.

Congratulations on your new endeavor and thank you for giving us a peek behind the curtain of the start up process. It's very interesting to see the different structures and considerations in forming such a business.

Disappointed that I cannot be a part of it due to investable asset minimums, but I'm interested to follow along as it grows. Good luck to both of you. Keep us posted.

This might be a dumb question, but are you worried about running out of good businesses to invest in when your asset base becomes very large? Will you put a limit on your investors at some point so you don't get too large to manage in the way you want?

That's not a wonderful question!

There are almost always going to be more great businesses than there is money for a specific manager but the issue is whether those great businesses are an attractive value so that establishing a position the client will hold for years, decades, or even generations, is wise at any given moment (e.g., look at this comparison of Wal-Mart over time). If you're looking around at a world where Johnson & Johnson is at 43x earnings or Microsoft is at 85x earnings, no checks are being written to acquire assets even though the assets themselves might still be the same cash-generating businesses they've always been.

One of the big cultural differences I found between various types of firms was a willingness of a small minority to close the doors to new investors when values were scarce relative to the asset base under management. Those who want to join during these times of restriction (which tend to happen once every 12-20 years) have to put their name on a waiting list the same way we're building a waiting list prior to launch so we can give priority to people who already have their information in the database. When the doors are opened again, in whole or part, they go down the waiting list letting people in as opportunities become more widespread, often due to a market collapse. This allows the new and best ideas to go to the long-term clients who have been with the firm rather than new money showing up at an inopportune time.

In that respect, yes, we fully intend to build into the culture of the place that the doors are shut from time to time.

Regarding the question of overall size, it depends on the mix of business and isn't a problem we'd be likely to confront until the numbers became truly staggering (a first-world problem I'd love to have if it took me a quarter-or-half century to get there). There are a myriad of reasons but here are just two:

1. There might be clients who show up with $5,000,000 or $10,000,000 and want us to do nothing but manage a passive portfolio of tax-free municipal bonds at a competitive fee with absolute safety standards and a total overall duration of 8 to 12 years so he or she can live off the interest income without losing sleep. They don't care if, after fees, they slightly underperform a comparable bond fund because they are focused on risk-adjusted, rather than nominal total, returns; they want only the most gilt-edged, sterling bonds imaginable, with individual security default being highly unlikely, and any significant permanent capital impairment at the portfolio level almost unthinkable; that differential being the insignificant (relative to their assets) price tag for giving up their anxiety. A mandate like this isn't going to have any meaningful effect on our global value equity strategy.

2. Additionally some of it gets mitigated over time. Imagine a long-term investor is sitting on a position that grew 10% over 25 years, going from $100,000 to $1,083,000. A huge part of that is going to be deferred taxes; a sort of interest-free loan. If a wonderful, few-times-in-a-decade investment comes along that offers a decent probability of, say, 12% or 13% compounded, it's not particularly wise to sell the original position despite its lower compounding rate because the loss of the deferred taxes for someone in a high bracket means less capital working for you. Once that is factored into the equation, you get into this situation where the goal - which you must always remember the goal is increasing after-tax, inflation-adjusted purchasing power - is better served by retaining the original position. Even if the compounding rate is lower, and it looks less impressive on the record, the client ends up with more absolute wealth. That's what counts; how many cheeseburgers or cars can the client buy? For some of these older value firms, there are huge built-in deferred taxes, meaning when a new idea crosses the radar, it isn't being absorbed by the existing asset base, but rather by new deposits (dividends and interest on existing securities, as well as new cash the client sends into their individual account).

There are several workable solutions I've seen. One respected value-based firm sub-divided its strategy into different categories (small cap, real estate, international, etc.) and then divided client funds among each so they could shut off the areas of overvaluation or limited opportunity, while keeping open areas that were still attractive. Another kept raising the minimum to the point, for certain strategies, they won't talk to anyone with less than $10,000,000 and, during certain times, won't accept any new clients unless you are a family member of an existing client. Still another shut its doors entirely for decades, becoming an elite club of original investors.

In other words: Yes. Whether it's private clients or perhaps, someday, a public mutual fund or index fund so smaller investors can join us, we would absolutely be willing to shut off new funds if the influx interfered with our value-based approach.

You can't set up a private mutual fund? Seems like it would solve #2 nicely for older members.

Sorry, I must have been less than clear. In the context of too many assets someday being a (first world) problem from the deployment perspective of the management company, I'm saying it wouldn't be as simple as $[x] is the threshold beyond which it gets difficult because if we season it to it over many decades, as is most likely to be the case if we are ever fortunate enough to find ourselves in that position, a lot of the existing assets wouldn't be competing for those opportunities because giving up the deferred tax benefit wouldn't be worth the switching costs. That means new money coming in could be deployed fine, whereas if it were all coming it at once, it couldn't be. Older members, if they wanted, could just keep adding cash to their existing custody account and we'd be buying along with new money; a separate fund of some sort wouldn't be necessary.

I think the original question that was posed to me was concerned about how, the money management firm itself, deals with the problem of larger assets forging their own anchor, as one famous investor put it.

Sorry I wasn't clear, I guess I went off in a tangent (my question had nothing to do with the original question), my basic question is why not start off with a private mutual fund, instead of being a customized asset manager for each client? Seems much simpler will much less overhead for you. Do wealthy clients demand customization? As opposed to here is the prospectus of our mutual fund, take it or leave it?

Awesome - Good luck. For now I'll have to stick with "most rational situation for a reasonably successful office worker making $50,000 a year" financial planning, but I'm sure I'll be a client in future decades.

1) Congratulations! I know you've been working on this a long time.

2) I look forward to reading the 13F filing someday! That is if you don't find a way to file it under an obscure name making it impossible to find.

3) If your readers formed an LLC with $500,000 of cash, could the LLC join the adventure?

4) How much will you explain your selections to your investors?

3) I'd be happy to join that LLC.

Question: this is all for taxable money, right? Not held in IRAs, etc.?

I wonder if there will be an annual letter to shareholders that will make great reading. 🙂

Joshua, this is a very inspirational post. One of my dreams is to open my own practice under the type #1 which you laid out above. Your points that you've broken down have led me to think critically of how I would lead my own such company. I think you're definitely on to something here.

The Credo type agreement is vital. A company culture can either pay dividends over the decades or cause problems. I think that your focus on making sure that your employees are a right fit for your firm is a great decision. You clearly know what you're doing and I wish you the best of luck.

P.S. If you are ever open to employees that telecommute instead of in your immediate area, I'd love to learn from and work with you.

hey joshua! two quick questions.

Number 1: when calculating owners earnings how do you come up with the average maintenance capex? i mean do you simply take the average over the last few years or do you dig into the filings to figure out the number? if you dig into the filings to come up with an estimate then could you kindly share how you do that? reason why im asking is that i read Buffett mention some where that maintenance capex has to be a guess. I was wondering if we could have your take on it.

Number 2: how do you deal with people who are too concerned about the stock price on a day to day basis. I'm asking cause someone close to me, whom i would like to see the light, is just obsessed with the daily price fluctuations, even though ive consistently tried to explain to them that its the underlying business we should be looking at. Your thoughts would be great. thanks!

Joshua,
As someone who works in a fee for service industry, I wondered if you would be willing to explain your philosophy regarding professions who work on a percentage scale (lawyers who take a percentage of a settlement, realtors who charge a percentage of the home's selling price, and financial advisors who charge a percentage of assets under management, for examples).

Joshua, when I first read the infamous #8 my initial reaction was "okay, I can see some advantages to that, I guess." But after mulling it over the past couple of days, you now have my unqualified, enthusiastic support. It's like the old days when the sovereign would ride into battle with his troops. Everyone from the upper echelons down to the lowliest footsoldier would benefit from their conquest, or risk capture/death from their defeat.

It's like how The Art of War recommends burning bridges and intentionally putting your soldiers' backs against the wall in certain situations. Doing so removes the incentive to engage in self-serving, tragedy-of-the-commons behavior.

Number nine: "if a secretary or data entry person works for us for over an entire career, he or she almost can’t help but retire a multi-millionaire if they do exactly what we say."

I here you. Should be hectic but fun. I'm hoping it's as thorough as everyone says.

oh its thorough. trust me. I mean they basically grab 10 subjects and grill us through 3 levels on these 10 subjects........its amazing.....i mean i had learnt quite a few thiings from level 1 during my MBA but level 2 is a whole new ball game.....I had not done any of the level 2 stuff earlier.....but i believe thats where the actual security analysis and valuation is.....of course level 1 is the base for it all and level 3 is the portfolio approach. you'll love it.....oh and if your friends from MBA think they know a lot about investment management......boy will they be in for a surprise when they see the CFA curriculum...its make you so humble....i mean i used to think i knew a lot of finance but that all changed when i got to the CFA ..... fascinating stuff!! you will love it and its worth every cent and every minute of your life that you spend on it. 🙂

That's exciting and I'm glad to hear that. I already make good money, so it's more about learning and becoming an expert as opposed to getting a title. Did you use the CFA's study material or an outside program? Any recommendations on study material?

thats great! I worked as a reasearch analyst at a brokerage firm but due to the massive difference in philosophies between me and my head of research i decided that i would much rather prefer to teach kids accounting and invest my own money. I mean i want to invest for the long term and would like to spend my time studying companies rather than trade on news. It just doesnt make sense to me any more (thanks to Joshua ofcourse!)

As for CFA study material, well i used Kaplan notes and videos for level 1 entirely! didnt even touch the curriculum and did ok. Level 2 ofcourse was a whole new ball game. I used kaplan the first time (I flunked level 2 twice! ) and i used Arif Irfanullah this time around. He's pretty good. He's in my city so i also took his live classes. they were pretty helpful cause they helped me maintain discipline.

Joshua, I love your work. Is there any chance at all of low-cost ETF or mutual fund for those of us who don't have $500,000 yet? I'd love to be able to invest what I have now, but also make regular investments on a regular basis going forward. Thanks

Yes. An open-ended mutual or index fund of some sort is most likely. I wouldn't do it in the beginning but it's in the strategy documents as a potential way to service smaller accounts. I've already had one of the biggest underwriters in the country send me a price quote should we want to go down that route. It would not be terribly difficult to get launched, but I am prioritizing the private clients first.

In the meantime - and I am not making any promises so do not expect anything - send me a message in the contact form with your name, address, telephone number, and estimated investable assets you would want managed. If we happen to open early in the state where you are located and it won't be too much additional work, I might find a way to waive the minimum for you. I can't guarantee anything, and you shouldn't plan on it because I need to focus on efficiency and scale as we get it off the ground, but I'll at least look it over and see if it's doable.

Other options might include:

1. Going to your attorney and setting up a family limited partnership, pooling money from your inner circle. Absent special circumstances, the LLC or LP could hire us, just as any other business could, under an ordinary advisory contract once we are up and running. (E.g., you wouldn't be able to use a performance-based model due to the look-through rules for accredited investors, but a plain-vanilla global equity strategy on a flat-fee basis should be entirely permissible under the current regulations, which I'd run by our compliance service. The LLC itself would setup a custody account at a bank trust department or broker-dealer and we'd manage the LLC's portfolio, with you or whomever served as the Managing Member handling the tax filings and distributions.)

2. Finding others that, together, allows you to reach the minimum investment. I've had a couple situations where, individually, potential clients wouldn't meet the threshold but as a family or group they could; e.g., you might have one sibling with a $250,000 Rollover IRA, one with a $110,000 Roth IRA, and one with a $150,000 brokerage account. Individually, none of them would qualify but if they all sign up together, I'd treat them as one group for purposes of minimum balance requirements, giving them access to our services. This is on a case-by-case basis as it will require a bit more work but I'll at least look it over and see if I'm willing to do it.

3. If you have a high probability of significant future earnings or assets and are younger, I might be willing to make an exception. I'm talking to someone now who has a portfolio in the low six-figures but still isn't anywhere near our minimum. This person will end up making a tremendous amount of money once professional training is done for his/her chosen occupation, and they are such a good fit for the value-based philosophy we use given their temperament and timeframe, they've convinced me an exception is in order. They'll grow alongside us, regularly contributing to the portfolio we manage for them. As cash builds up, I invest it like normal. They were very, very persuasive.

Thanks a million. You're the best. I'll work on one of the options. I'm a teacher, so most of my net investments are in a job-sponsored 401K. (And no huge chance of significant future earnings!) But I truly appreciate your thorough answer and continuing excellent work. I'll work on convincing my parents to invest part of their investments with you! BTW, have you ever looked at the motif investing sight? You basically create your own basket or ETF of up to 30 stocks. Once it's created anyone can buy in. It's an interesting concept. Thanks again.

TAX LOSS HARVESTING , To me it sounds like market timing. Let say you buy Coca Cola at 40 in 1 month it go's down to 37 you sell to take the Tax Loss Harvest, then you have to wait 60 days to buy it back I think. And if you are a long-term holder of a stock why would you sell that has gone up in value lets say Pepsi just to sell you Coca Cola so you can do a Tax Loss Harvesting. I think I will keep it simple buy and hold. When I look back at MY investment history I have loss more money by Selling a good Stock then Buying a Bad Stock.

As with all things in life, it can be abused, in which case that's exactly what it turns into (the same way stocks can be intelligent long-term, lower-risk assets or mechanisms to high-risk speculation).

It becomes valuable for high income families, when dealing with big short-term gains that would be taxable at ordinary interest rates (e.g., you bought some firm - say, Kraft prior to the Heinz buyout and suddenly the buyout is announced and it skyrockets, you're on the hook for huge short-term cash profits). The odds of business that was sold appreciating by the same degree in that time frame are incredibly, incredibly low to the point that you get a few years' of free compounding by taking advantage of it. One way you can offset the risk of market moves during that 60 day window is to substitute substantially similar assets (e.g., if you had bought Coca-Cola and it declined 30% so it was on the chopping block temporarily as part of an offset transaction, you'd buy PepsiCo in the meantime as it's also an excellent business with similar characteristics).

Done right, you end up with even more money to buy even more Coca-Cola as you aren't timing anything, you're exploiting the language in the tax code for your own benefit. It's not something most people should worry about, though, and I only subscribe to a very limited form of it that involves high marginal tax rates, significant (in absolute dollar) realized gains, and relatively new positions sitting at large losses that can be swapped with economically comparable exposure, arbitraging the difference.

You are doing very good at the Test.
Todd:)

Joshua,
What are your thoughts on an entrepeneur who has most of his net worth in a business that he knows and compounds at 15 to 20 percent. Should they be diversifying or continuing in the business they know? I do like your thoughts on using stock purchases as a way to inventory profits in a business.
Cheers,
Scott

In case Joshua doesn't answer, I think you can do well reading this article by him: https://www.joshuakennon.com/we-bought-ourselves-a-business-today/ - he sold a large block of his favorite stock because the returns are better and this one: https://www.joshuakennon.com/mail-bag-what-would-you-do-if-you-woke-up-with-10-million-your-existing-knowledge-but-no-other-assets/ - where he talks about how he would allocate $10m for "a quiet life"

But basically, it's a tradeoff between opportunity and safety, and it's completely up to the individual as to how he decides what matters more to him. Diversification could very well lead to worse returns if you're getting 15-20% on your private business, but risk adjusted, it could be worth it, getting 8-12% while getting a different cash stream in case the private business is going through hard times. But for reference, Joshua has consistently said he wouldn't be comfortable with more than 30% allocation to any asset class (private business vs real estate vs MLP vs stock market vs cash and equivalents). If you read his recent comments/tweets, he mentioned that Exxon Mobil is now his 4th largest stock holding, yet it only accounts for 1% of his networth. In the end, you asset allocation is up to you.

'Ello Joshua. I've surveyed the comments made on this thread so far, but I don't believe anyone has broached the specific question of foreigners joining in. I've done cursory research on the requirements before, and it's relatively easy to open a Delaware LLC, especially since I know a resident US citizen whom I can trust (and provide the mailing address, et cetera) to be a founding co-member.

However, I imagine that you would have meditated on the trade-offs associated with choosing between wider customer/capital bases, and the attendant demands of dealing with non-resident clients whose culture and needs may be different from those in the United States. As a global asset management firm, would you be willing to take on the complexities of managing wealth for foreign clients at this early stage?

Hope to get clarified on this. If not, I imagine you're busy, and I wish you and Aaron the utmost luck and a healthy amount of eustress!

How does someone avoid a Bernard Madoff . Having all your money with one money manager firm be about the same as having all your eggs in one basket?

For individually managed accounts dealing exclusively with publicly traded securities the answer is easy: Demand third party custody. I should write a post on that topic alone as I think it would be interesting to people. Maybe I'll try to fit that in sometime this month.

In plain English, it means that the investment advisor doesn't actually hold the stocks, cash, or other assets they are managing for you. Instead, a third-party institution you hire does. That third-party institution sends you statements showing you exactly what holdings they have on record for you, which you can then compare to the statement you get from the investment manager.

Basically, let's say you had a true asset management firm. A client shows up with a pile of money to invest. If the firm insists the client uses independent third-party custodians, the advisory contract is signed but the client puts the money in an account at a bank trust department or a registered broker-dealer like Charles Schwab. The advisor then has a special power of attorney over the trading of the account but cannot make any withdrawals. (If the advisor is given custody and has the ability to make withdrawals for some reason or another, one safeguard is having the custodian send the account holder paper, in-the-mail verification anytime the advisor removes money from the account.)

In addition to the advisory account statement each quarter, the third-party custodian actually holding the money and assets will send an account statement to the client every month or quarter. The client can compare the two statements and make sure everything matches as a safeguard.

When the advisor wants to bill the client for the fees, they submit the bill to the custodian who disburses the fees by taking them out of the client account or, alternatively, the advisor sends a bill directly to the client who pay via check if the latter is the preferred method.

It makes life infinitely easier for everyone involved.

(And make sure you choose a reputable custodian!. This is not a recommendation but I would say you should be looking at large, deep-pocketed firms with larger compliance departments such as Schwab, UMB Bank, Citigroup, Fidelity, UBS, U.S. Bancorp Investments, Pershing, Interactive Brokers, State Street, or Northern Trust to see if they meet your requirements and you can meet their minimums.)

Non-broker custodians typically charge fees that are relatively small - measured in the basis points per year - and are absolutely worth the peace of mind it provides, in my opinion. (Other custodians, such as Schwab, will provide the custody services for free if you do the trading through them so they get the commission.)

With some private hedge funds or partnerships, the manager must have custody to conduct business - how else could a private equity firm buy a manufacturing plant, purchase new equipment, etc.? They have to be able to write the check to build those factories or launch those new products. - so the current regulations require the fund to submit itself to surprise audits by an independent third-party auditor throughout the year. The auditors show up, rifle through the paperwork, open up the bank accounts, make sure everything is where it should be, and then issue independent reports on it that the clients / shareholders / investors can review.

There's a lot more to it but that's really your best defense aside from working with someone you trust and listening to your gut: Third-party custody and/or independent audits.

Thanks Joshua you are teaching me a lot with this blog. My uncle always told me not to have all my investments with one firm because chance of corruption. I think you have found your purpose in life!

Unfortunately this is a lesson my in laws learned the hard way, as they were caught up in the Madoff scheme. They didn't have all their eggs in that basket, but it was a significant loss. Their accountant even warned them that the numbers didn't add up, but when your friends are invested and seeing big gains and the manager is a very prominent and successful person on Wall Street, well it's easy to put the blinders on and ignore the red flags.

This made me realize I needed to learn more about how to guard myself and my wife from a similar event should we one day decide to not manage our assets by ourselves. I decided that for publicly traded securities my first question to the manager would be if he had a problem with our assets being in a custodial account. If he said yes I'd pull a grandpa Simpson and head straight out the door.

Just wanted to say some non breaking space (nbsp) are inserted somehow at the beginning of sentences that make them start a space after the beginning of a line, which is not that beautiful to the eye.

That is not normal and appearing on any of the systems we use (latest Mac OS, Windows 10, Samsung Note Pro, iPhone 6 Plus, etc.)

Can you please attach screenshots with a brief explanation of the operation system / browser you are using? That will help isolate and replicate the problem.

I am not sure what is the cause of this, but I can replate it on my windows7 both IE and chrome and also on my android5 device with chrome.
In the source code of your page we can see two spaces before every sentences after a period. Could it be the browser rending it as a space + nbsp?

Ah, I see. I apologize because I misunderstood you.

No, there are, in fact, two spaces there and there will always be because I am part of the old-school master race of pre-Internet proper MLA formatting. Like those who refused to give up vinyl when the cassette tape came along, me and my brethren stand together.

Being born in the 1980's and still actually having a typewriter I occasionally use, it's the only thing that looks correct to my eye and feels right to my hand. Internet sites like Facebook, which (I believe) automatically remove it, have caused people who grew up on digital technology to think a single space is correct or looks right so much to the point that the official rules have been modified to say, in essence, 'Do whatever you want because people don't know any better these days and say it's not really necessary due to font changes'. Their eye literally sees it like an error despite it being correct for generations.

I refuse to accede to this new foul, abominable demand to remove it. Just as Coca-Cola is superior to Pepsi, Creed fragrance is superior to Bond No. 9, and physical books are better than eBooks, the double space will always reign supreme in the Kennon-Green household. It is as sacred to me as writing in cursive.

To this particular onslaught of modernity, I say, "You shall not pass!".

I was not aware of this traditional practice.
W3C specifications ask several spaces to be collapsed to only one, which is I guess the reason you need to set a nbsp, which, as a side effect, creates the extra space if the sentence happens to start on a new line.
http://www.w3.org/TR/REC-html40/struct/text.html#h-9.1

Preach!

*Cough*GenerationalOverturn*COUGH COUGH* I'm one of the young whippersnappers who was taught that the double-space-after-period is a relic of the nostalgic "good ol' days" held dear by you old farts scowling indignantly in our general direction.

Seriously though, double-space after a period is aesthetically tasteful for separating sentences. White space works wonders in keeping things neat and tidy, but I'm a giant slob so I'm not sure if I'll ever pick up the habit.

I'll get off your lawn in a moment. Stop shaking your colostomy bag at me.

I didn't even realize that the single space after a sentence was a "thing." I too was taught to put two spaces after a sentence, and I was born in 1990.

You are my hero Joshua 🙂

Who would manage the portfolio, would it be you (Joshua) or a person working for you? Also would you offer stock recommendations for a fee for those who still would like to manage there own money? Something like a Investment letter. I think you could do very well with your own investment recommendations letter. That would take care of those who could not make your 500,000 beginning balance.

When the firm is established, these sorts of things will be spelled out in the regulatory paperwork.

I will say in general terms: I have never been, nor am I ever likely to be regardless of how much money could theoretically be made, interested in selling my investment ideas. I'd much rather raise capital and put them to work myself, with my own money invested alongside partners and/or clients depending on what the situation may be.

Really think you're on to something. I've been reading your blog Joshua for a good little bit and I gotta admit...I've spent many a weekend pulling a "wikipedia style" click every link festival on 🙂

As for this article, I think you guys have something here. My intuition tells me that more and more people are going back to the "own the business" mentality because the current super trading/momentum models are dying. There's so many similarities between what you've done and what Buffett did roughly around the same age it's scary. I'm sure you know all that of course but just saying...more evidence you're on the right track.

Biggest thing I think you've got going is the whole idea of people "eating their own cooking." This basically makes it almost impossible for a client to leave because most people take advice from someone who does something differently. After adjusting for different lifestyle issues, a person should have all their money in the same types of things they recommend others. This will also make sales for your firm much easier to get because when the secretary who greets them at the door is doing the same thing the guys in the back are recommending...you get the social proof engine that drives long-lasting firms.

Anyhow, just wanted to put this down because I really believe in what you're doing and this is one of the few blogs I read any more because of how deep you go into stuff. I'd be happy to put money with you guys in the future.

Kudos and great job...you'll grow pretty fast I believe with these values 🙂

Joshua, quick question - how do you evaluate management? I know finding a good underlying business is far more important, but once you do find those businesses, do you evaluate management based on actions you can find through the financials? Or maybe from discussions in quarterly calls/transcripts? Do you have any examples that you can point to that I can do some self study on? Thanks for your time!

Not sure if it's too late to add a comment, but how does the $500K minimum compare to the minimum that Buffet established with his first fund? A good deal of your readership, while financially disciplined, is young, and unlikely to have amassed that kind of capital. I wonder if lowering the minimum to, say, $100K would net you a much larger asset pool (which at this level, the more you have under management, the more lucrative opportunities you'll be able to take advantage of). And $100K shows that the investor has the discipline and understanding necessary to be frugal and save, so you won't have the added headache of dealing with partners who don't understand what you say in the annual newsletter. Just some thoughts. Because the focus of your writing seems to be the democratization of personal wealth (i.e., even ordinary income earners can amass great wealth), yet the $500K minimum seems to reinforce the statistical truth that it is easier for people with lots of money to make even more money. I'll be at $500K someday, but not for a while. I'm in my 20's and have been reading your posts for years; I would love to be a Kennon-Millionaire (like the Buffet Millionaires who got in early and have held on for 50 years).

Do you intend to facilitate the ownership of private businesses as well?

e.g. if a client wants to buy an apartment complex, would you help secure insurance, a property manager, and the best liability protective holding structure?