The Four Stages of Alpha

Part 2 of The Take Is Not the Trade.

Part 1 showed that the top takes on Supertake are often factor bets. This part is the other half: what it takes to turn a take into a trade that works for a portfolio.

Alpha has four stages

Alpha can be thought of as the product of a few investment operations: take × trade expression × trade management × portfolio management.

For a take-driven investor, each later stage keeps or leaks the take's edge.

Alpha has four stages.

Take. What does the investor believe that the market does not?

Expression. Which instrument pays if the investor is right, and only if they are right?

Management. How big, when to add, and when is the investor wrong?

Portfolio. How does this take combine with the investor's other takes?

Where your edge lives

Every great investor is great, at a minimum, at one stage.

Thiel is the exemplary contrarian. His interview question, "what important truth do very few people agree with you on?", is the take stage in one line. Yet his macro fund Clarium, where takes had to be expressed and timed in liquid markets, peaked at $7 billion in mid-2008 and lost money three years running. Clients who stayed lost about 65% from the peak, and assets fell about 90%. Great takes, sometimes accompanied by weak expression.

Chris Camillo, who coined "social arbitrage", made his name connecting the dots. His takes start as everyday observations, like kids making slime at home. The edge was the next step: tracing the trend to an investable company and taking leveraged exposure before the trend showed up in earnings. His own rule is to act only on information big enough to move a company's numbers. Profiled in Jack Schwager's Unknown Market Wizards, he turned about $20k into tens of millions. The observation is available to all, but making the connection is the edge he sharpened.

The Big Short is an expression story. Plenty of people thought housing was a bubble in 2006. Michael Burry and John Paulson made fortunes because they found an instrument, subprime CDS, that paid many times over if they were right and capped the loss at the premiums if they were wrong. Being early still hurt: Burry paid those premiums for two years and fought his own investors before the trade paid off.

Soros on sterling, 1992, is a management story. The devaluation view was widely debated. The edge was size: when the setup was right, Soros pushed Druckenmiller to go much bigger.

Trend followers tend to have no take at all. Their entire edge is sizing and exits. Multi-manager pods pay only for the residual. They hedge factor exposure out and judge PMs on what is left.

Making the take the trade

Supertake's core idea is right: a take should become a bet, and bets can be shared, scored, and invested in. The gap is that today's scoreboard is driven by index or factor returns, not by the take.

Three things would close the gap:

1. Thesis purity. The share of the book's variance that comes from a basket of pure-thesis names, versus from indices like SMH or QQQ. Most often, a proper thesis requires a relative expression, and that is best captured by adding shorts to the basket. Shorts should clean up an expression by removing exposure the investor does not want, stripping the alpha out of the beta exposure.
2. Ongoing trade management. Markets rotate, and companies change their strategic priorities mid-trade, so a take has to be managed over time, not set and forgotten.
3. Nuanced combination of takes in portfolios. Takes can cancel each other out or double up. Portfolio skill is choosing which takes to keep, sizing each to its own risk, and hedging out what they share.

The take is the beginning of alpha. Your portfolio exposure decides whether it stays yours.