Episode #420: Dan Cooper, ROC Investments – ROC: Return on Character
Guest: Dan Cooper is the founder and CEO of ROC Investments, which allocates capital on the basis of the behaviors of the CEOs and their senior executive teams.
Date Recorded: 5/11/2022 | Run-Time: 50:11
Summary: Dan shares how he ran a strategy focused on investing in companies with CEO’s that display high character earlier in his career. When he later looked back at the returns and found traditional factors only explained 30% of the strategy’s outperformance, he decided to launch an ETF based on that strategy, ticker R-O-C-I.
He shares how he defines character, how he quantifies it, and then how he implements it into a portfolio. Finally he shares what CEO’s exemplify this strategy with stories of executives of Costco, Southwest & Microsoft.
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Links from the Episode:
- 1:11 – Intro
- 1:54 – Welcome to our guest, Dan Cooper
- 4:26 – What led Dan to launch an ETF focused on character
- 8:51 – The original concept of developing a rules based character fund
- 11:00 – How Dan decides who is a high-character CEO
- 18:48 – Quantitative studies and how to think about this as an investment strategy; Return on Character
- 22:32 – Overview of how the composite score works, how often the strategy rebalances, and how he handles CEO turnover
- 31:36 – Overview of his newly launched ROCI ETF
- 33:33 – The initial reception and perspectives on a character index fund
- 37:26 – What else is on Dan’s mind?
- 38:56 – Would publishing their list incentivize better behavior from CEOs?
- 42:42 – Episode #323: John Montgomery, Bridgeway Capital Management
- 43:31 – Other thoughts and insights about Dan’s strategy and the ROCI ETF
- 44:58 – Dan’s most memorable investment
- 46:43 – Learn more about Dan Cooper; rocinvestments.com; LinkedIn
Transcript of Episode 420:
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Meb: Welcome podcast listeners, we have a really fun show for you today. Our guest is Dan Cooper, founder and CEO of ROC Investments, which allocates capital on the basis of the behaviors of the CEOs and their senior executive teams. Dan shares how he ran a strategy focused on investing in companies with CEO’s that display high character earlier in his career. When he later looked back at the returns and found traditional factors only explained 30% of the strategy’s outperformance, he decided to launch an ETF based on that strategy, ticker R-O-C-I. He shares how he defines character, how he quantifies it, and then how he implements it into a portfolio. Finally he shares what CEO’s exemplify this strategy with stories of executives of Costco, Southwest & Microsoft. Please enjoy this episode with ROC Investments’ Dan Cooper.
Meb: Dan, welcome to the show.
Dan: Great to be with you.
Meb: Redding, California. What are you doing up in Redding, near Mount Shasta? I’ve hiked that once upon a time.
Dan: You did?
Meb: I did.
Dan: Yeah, I did it too. It’s worth the hike. It’s got a great view, provided there’s not smoke in the area. And we’re getting a lot of that these days up here in Redding. We’ve been here since 2012. I moved my family here, together with my wife. We have two boys, and we love clear mountain streams, and rivers, and lakes, and mountain hiking, and camping. We do a ton of camping.
Meb: The hike up climb up Shasta for me, I did it by myself, and I made the mistake of doing it all in one day.
Dan: Oh, wow.
Meb: It was actually very challenging. But I had a moment where you start at whatever time is the morning, it was 3:00 in the morning or something. So, I went to a movie theater in Redding, or wherever it was. It was too cheap to pay for a hotel room because I knew I was going to be leaving at 2:00 in the morning and whatnot. So, I went to the movies, slept in my car, woke up, and started walking in the middle of the night. And listeners, if you’ve never been hiking at night, it’s a very discomforting feeling for the first 15 minutes and even the longer, right? Like, this is bear territory, perhaps. But it was like a full moon. And one of the most spiritual, just memorable moments of my life was walking. I just eventually turned off my headlamp, so you’re just walking in the dark and this path. And eventually, you come out of the forest and you see Shasta with just stars behind it. And I was just like, “Wow, okay, this is super special.” Anyway, awesome trip. I remember sliding down with my axe, my ice axe, and sitting on my backpack to go down way faster because I was exhausted at that point. I remember very specifically getting to a speed where I thought, you know what? There’s no turning back, but I’m going way too fast. And if you’ve ever seen those videos on TV where people’s like the ice axe through their leg, like, I was having flashes that I’m like, “I’m going to end up at this…”
Dan: It’s going to happen. They’re going to have a start. My favorite moment on Mount Shasta was we woke up early just like you guys, or you did when you’re by yourself. We got about midway up the mountain and the sun started coming up and the shadow of the mountain fell on the clouds below. It was a special epic moment. It’s a special trip. It’s worth doing. And it’s very approachable here for Californians. It’s not hard to get to.
Meb: I have so many fun stories. All right, so, we’re going to talk about all things ETFs, character. I want to hear a little bit about your background. You got a fun origin story. You spend some time on some other countries and continents. Give us the timeline origin story for Dan.
Dan: Yeah, man. I started off pretty humble, still am pretty humble, worked my way through college running my poison ivy killing business in Boston where my parents live. I was known as Dan, the poison ivy man. Everybody had it, nobody wanted it, and I was the only one stupid enough to go get rid of it. So, when I graduated from college, that’s all I really knew how to do. But a guy named Joe Ritchie grabbed me out of college. Joe Ritchie founded a pretty well-known trading company, which was called Chicago Research and Trading, CRT. And they were the largest options and futures firm in the world back then. And they traded I think something like ridiculous amounts in the volume of total market. I joined him after he had sold to Bank of America. We were managing his own money. We always had quant models going that Joe was developing. We’re allocating capital through private equity and venture-type strategies all over the world.
But we also did these crazy foreign diplomacy prompts. Joe would take his influence and try to make a difference in Washington on areas of the part of the world that he thought we’re missing from a policy standpoint. So, we worked on trying to help Iraq after the first invasion with the economic sanctions, working with the three religious leaders there. And then we’re in the middle of Afghanistan pre 9/11. Two years before 9/11, Joe and I were working in Washington to try to find a strategy to overthrow the Taliban. And all those jobs kind of opened the world to me in a way that was just unbelievable. The other thing I did with Joe’s after 9/11, I was tired of foreign diplomacy and politics. I launched the first character fund. That’s based on what I’m doing today.
Meb: What’s the year in the timeline?
Dan: That was early 2000s, in the early 2000s. It came from a conversation where Joe and I was sitting around and he goes, “Man, I just wish I knew who the good ones were, who the CEOs that actually have character because I think that’d be an incredible long-term predictor of a performance of a company.” And he was always coming at it from the standpoint of a trainer. He said, “It’s going to be difficult to analyze Wall Street and every aspect of taking the known data pools and cut them in different ways.” But I think we could be better than the market at understanding this one segment of the market, which is character. And at the time, I was reading Collins’ book, “Good to Great.” And then, I was also trying to bring a company to Japan called Tal Plus [SP] out in Nebraska. And they develop behavior-based interview systems to quantify the degree in which a person fits a job using an interview process. And so, I put two and two together and used Collins’ findings around level five leaders as the criteria. And they built a behavior-based interview around that and started talking to everybody on the street, analysts. We scored the CEO purely on the basis of this one criteria and then allocated capital.
Originally, we went short. We also kind of surveyed for the bad guys. And we had a bad guy list and a good person list. And we went short. The bad CEOs, along the good ones quickly learned that the shorts kind of were eating our shorts, literally killing us, because they were the best at manipulating truth.
Meb: They exist in the pump and dump world. And it’s funny, by the way, you follow some of the real bad, which, surprisingly, often, for some reason, seemed to be located in Salt Lake City, Vancouver, some other locales. But they continue to have nine lives, which is kind of crazy to me. It’s like normally, you see the CEO then you’re like, “Okay, that was absolutely atrocious. I would never invest in that person again.” But then they just sort of, like, resurface, like, a year or two later somewhere else.
Dan: Same thing in politics. I mean, it’s amazing how the market forgives. So, we got out of a short business. It became a market timing game, and we weren’t in the market timing. We just kind of ran longs. So, that’s how the strategy first got started. It was pretty interesting.
Meb: That’s a fun inspiration. How early in the process was this something that was quantified? And maybe it was from the get-go. And my perception, it’s like, you’re sitting around the early days, like, “All right, this guy’s total wanker. This guy is clearly a liar. This guy is running this for his own personal benefit,” whatever, on and on and on, or where you, like, you know what? This is actually going to be a framework. We’re going to try to be rules-based and objective. What was the original concept and how has it evolved over the past decade plus?
Dan: The original concept was very rules-based. It wasn’t sitting around saying, “Hey, Bob over there is a really good guy.” And one of the things we learned really quick, Meb, was that people that knew CEOs at the golf club or church pews didn’t know CEOs. I mean, the best way to get to this understanding, the holy grail of this approach is understanding people that are in the trenches with the CEOs. And so, I would speak with Wall Street analysts back then and ask them questions like, “Of the companies you follow, who do you think might put the company before their own interests? Who tends to be more humble than they are arrogant?” And they couldn’t just say… They would actually say, “Okay, give me a story. Give me a reason.” That data and that information relayed would then kind of be markers that we would be able to use in our grading scorecard for each conversation and each piece of data that we found that was relevant to the information we’re looking for. Each CEO had a different score, and it was all driven by this analysis. And so, we’re kind of trying to create a balance sheet almost on character and apply it and really try to force a discipline around it. And I think that’s really important because this isn’t opinion-based. You are out there trying to find markers of character. I mean, a lot of the things that the street kind of throws out on the floor doesn’t know how to value. And we think it’s valuable when we know a CEO might put the company before their own interest. And we think it makes a big difference. Those are the kinds of pieces of data that we’re constantly out there trying to harvest and organize, to your point.
Meb: I imagine a lot of the listeners are hearing this and trying to conceptualize in their heads and saying, “Okay, well, it seems challenging to be able to bucket people into good, bad, or a spectrum.” So, tell us a little bit about…and this could be the historical data versus idea, but the concept, let’s get a little more concrete on, like, what’s actually going into how the sausage gets made about, is this a character-driven CEO or not?
Dan: What we’re using today… I came back to this last two years. And one of the interesting things that motivated me were the following. One, it felt like character needed to be firmed in the world, meaning that it mattered. And there wasn’t a lot of places where you could kind of express your value for it. Two, I went and did some back tests on our earlier investment approach. It turns out that that model that Joe and I developed together 20 years ago performed very, very well over the 20-year period, which was another case in point and evidence that we’re on to something. The other thing we tried to do is we try to analyze it from a factor’s perspective as to why, and only 30% of the outperformance was explainable by traditional factors, 70% was unexplainable, meaning it didn’t have a correlation to traditional factors. So, we think we have stumbled onto a new, if you will, factor as it relates to driver for performance. Then, during those 20 years, when I wasn’t working on the strategy, and fast forward to today, I Googled, “Does anyone care about character once?” And up popped this book called “Return on Character,” which is what we named our fund after. And it was a book written by Fred Kiel published by “Harvard Business Review.”
Fred conducted a seven-year study on the impact of high character CEOs versus low character CEOs, and do they outperform? And his results show that high character CEOs outperform low character CEOs by 5X, as measured by return on assets. And that was another data point that just, again, affirmed the strategy as a valuable thing to try to work on. And so, what we did is I reached out to KRW, which is Fred’s company. And they lead our research in trying to understand how to analyze CEOs today for this characteristic. One of their partners, research collaborators, they are working with these university professors that were using behavioral integrity, natural language processing to measure integrity. Now, to break down character, we define it in four different ways, or having four components, integrity, responsibility, forgiveness, and compassion. And so, we’re constantly looking for markers in one of those four areas to be able to create and build the composite character score.
But our first screen was using behavioral integrity analysis with the professors that KRW brought from University of Virginia, Duke, and Yale to run our first screen. And we ran a screen on I think 700 companies, the largest 700 companies in the Russell. And that brought our list down to a smaller composite. Then, our next step was looking at publicly available data and scrubbing all those sources for markers of responsibility, forgiveness, and compassion, three other components of character. And that was done by three different people independently, and then the composite character score was added to the integrity score. And then, we also conduct behavior-based interviews, where we asked the street and asked people familiar with the sector, “Tell me about the CEOs in the sector that you’re familiar with.” and we run them through the same process as I did before. All these three inputs end up giving us a composite character score, which we used to weigh the companies that we ended up putting in the portfolio.
Meb: Maybe this will be helpful for listeners, you don’t have to give away the golden formula or anything proprietary, but it seems easy just to say, “Okay, like, integrity, forgiveness, responsibility.” Like, what does that actually mean when you’re saying kind of on a quantitative level? Like, how does that actually screen…? Most people, it probably sounds subjective. You’re doing an objective lens to this.
Dan: We use CEO shareholder letters and conference call communications. And so, we have over 30 years of shareholder letter analysis on most of the Russell 1000 that we use to do our first screen using behavioral integrity like natural language processing.
Meb: Cool. So, give me some more examples. Okay, so the integrity, that’s like a language screen. On the others, are they similar…? Is it language-based? Like, how do you determine for the others? What are they again, compassion, forgiveness?
Dan: Integrity, responsibility, takes responsibility for personal choices, things like owning mistakes when they screw up, embrace this responsibility, trying to leave the world a better place. Forgiveness, letting go of one’s mistakes, letting go of others’ mistakes, focusing on what’s right versus what’s wrong. And then compassion is empathy for others, you know, asking for help, empowering others, actively caring for others. And so, we run screens on Glassdoor for a lot of these markers as evidence rated by various different employees. We go after language videos conducted with the CEOs and look for markers or examples of these three other characteristics. We also read articles on all these various different CEOs and, again, trying to look for these markers kind of popping up and finding evidence that, “Okay, we see this here. We see him letting go of mistakes or making a mistake and owning it,” or a certain level of empathy and the way in which they responded to COVID, for example. All those things begin to provide points and get points to be able to give us a level of confidence for those other three criteria’s that we’re using. And then the same thing with behavior-based interviews, when you’re sitting and talking to people, you’re listening for these markers. And then, when those markers are hit, they get documented and added to the composite score.
Meb: Is it more that the positive signals…and it can be both sides, the positive signals really bubble up the best, or is it more like the negative ones kick people out? So, like, I’m just trying to think of, like, the megalomaniac CEO that maybe, okay, on a couple of these, but it just totally has no self-awareness with responsibility and blames other… How does the composite sort of work?
Dan: We don’t tend to focus on the negatives. I will tell you that the behavior integrity screen that we use, the Wirecard event, an example of a big blowup in Germany, and this process flagged the negative there. Our orientation isn’t around the negative. Generally, we just try to focus on what we call as a link score. The lower the link score, the better the results as it relates to behavioral integrity. And we aren’t screening for negatives. We’re just trying to spend our time in focusing on who tends to lean this direction more than others. And the other thing too is, like, we’re not going to get it right 100% of the time, but we’re diversified over 106 different companies and all sectors, mark cap-weighted. And we just think that this will outperform over time more than it won’t.
Meb: There’s two parts of this that I’d like to touch on. One is that you actually did fine, and you can speak to it, like what the spread was. Because, like, a lot of the discussion about…not to lump you in ESG, but ESG sort of umbrella, “Look, hey, we may or may not outperform.” But this is a better way just to get you S&P exposure. Your scenario, you’re not only saying, “Hey, look, let’s invest with these people who are better stewards,” but also, this may actually outperform. Is that sort of part of the argument? And if so, talk to us a little bit about the quantitative studies or research, how to think about that.
Dan: No, our contention is that even if you don’t believe in character, we think this is a good investment strategy because the research really points to it. You look at Fred Kiel’s book, “Return on Character,” I mean, “Harvard Business Review,” you look at that and all the evidence is there. You look at Collins’ book and he cites the level five leaders. There’s all these different research markers. I mean, there’s numerous studies on humility that’s come out that has a huge effect on leadership and its consequence in the way companies perform. And then, I have my own experience, where I actually ran this strategy before, during the time we were invested for four years and we consistently outperformed the market. And then, we went back into the research on what it would have done if we kept it going. And that same outperformance continued for 20 years.
And so, you know better than anybody, past performance isn’t a prediction of future performance. But we think that there’s really something there on just the performance side. Another thing too, studies have shown that 70% of a company’s performance is a combination of market conditions and business model. Business models for big companies like the Russell 1000, they’re all pretty similar as you go sector to sector. The biggest opportunity for change in a company good and bad really becomes the 30%, and that’s management and leadership. And leadership is something that we think is directly correlated to behavior. And it matters especially… Have you ever worked for someone that was a bad boss?
Meb: Yeah, well, let’s not call out any on the podcast specifically by name. I’m saying I’ve been my own boss for most of my career. So, technically, yes, I’ve worked for myself. But, look, I’ve certainly worked with partner who had rough work experiences. Yes. And I’m sure everyone listening can say yes.
Dan: You know, the difference and how it makes you feel. You’re either leaving the day feeling positive about life and hopeful knowing somebody’s got your back, or someone’s trying to go after you and you don’t trust them. And that has a huge effect on the way you interact with your colleagues at work. It has an effect on the way you drive your car home and when you greet your kids when you get home. And we just think that there’s a lot of argument for why this is an economically rational approach. But we also think its consequential impact is equally valuable in the sense that if we’re, as a market, as investors, trying to allocate our capital into companies that are champion or at least working towards this kind of behavior, that makes another big difference too. And if we could somehow start to sway the way people consider how they hire CEOs and leaders, because we’ve been able to show that this actually matters and then actually outperforms over time, that would be a great byproduct of the outperformance that we hope to be able to provide.
Meb: The composite score, how does this actually work? So, do you guys have like a 0 to 100 composite score and you’re really looking for the top quintile, or quartile, or something?
Dan: The tails of the bell curve, at the end of the day, we only have 106 companies. It’s not like we have 500.
Meb: And what’s the universe?
Dan: Russell 1000. We only got data on roughly 700 companies. And we’re staying kind of in the larger universe because we really want this to be a way to get market exposure. We have a slightly lower beta than the market. What’s interesting too is that Fred’s research, “Return on Character,” showed that high-character CEOs’ companies tended to have a higher return on equity and lower debt ratios. We went and conducted our analysis on our current portfolio. Our companies have the same kind of leaning as well, lower debt, higher return on equity. We haven’t been able to unnecessarily track our employee engagement yet through our analysis. But that’s another indicator that Kiel identified as a consistent aspect of CEOs that tend to be on the higher end of the character curve.
Meb: And so, you guys don’t just do CEO. Do you do the whole C-suite? Do I recall that?
Dan: That would be the goal. Sometimes, we can gain some understanding of the C-suite, sometimes we can’t. But we have to start with the CEO. Generally, if you have a high-character CEO, your odds of them having a very high-leaning character of C-suite is far greater. And one of the things that we’ve launched, we’re really confident in our process but our hope is to be the best in the space at understanding this one sliver of the market over the course of our existence. And so, we’re just constantly looking for ways to be better. And getting into the C-suite at a deep level would be a long-term objective, for sure.
Meb: Talk to me about how often are you looking at this? Is it continual? Is it once a year? How does it get examined?
Dan: We balance, if needed, every quarter. And then we’re constantly watching our CEOs and our companies. One of the things that it’s important to make a distinction here is that we don’t see character as something that means mistakes won’t be made. In fact, we often see when people screw up, like when I screw up or anybody, it’s like the ultimate test to look at character. When we’re reviewing all our CEOs, we’re constantly looking for how they react to the challenges, what is it that they do when they do screw up? Do they own it or not? A great example of that, when I first did this fund, I got to know Jim Sinegal of Costco because he popped up on the list. He was one of our early CEOs. And he since last day turned it over to Craig, the current CEO, and Jim was telling me a story about Craig and how soon after Jim had left, they had a scenario where they had these little signs in their jewelry boxes at Costco. Have you ever been to Costco?
Meb: Yeah, but it’s been a while, so I don’t… What’s a jewelry box?
Dan: A jewelry box is where they sell their diamond rings and everything else, and watches, and things like that. And they had a sign that said, “Diamonds cut like Tiffany diamonds.” And Jim had expressed some worry about it. But eventually, somebody forgot to put cut like and just put Tiffany diamonds in the case. And sure enough, Tiffany comes in. It’s kind of upset. And they lawyer up and Costco lawyer said to lawyer up. And Craig kind of steps in and says, “Wait a minute, we screwed up. We need to own this. We don’t need to deny it. We need to own our mistake and make it right.” To me, that’s an amazing example of character that bleeds into, not only his but the company’s reputation. And I think you see it played out in that company even today. Those kinds of things matter.
Meb: So, a couple of questions. You mentioned CEO transition. So, what do you do? Do you just have to, like, restart the rankings all over? What happens in that scenario where you’ve got is it a subjective transition? Were you like, “Okay, this gal looks pretty decent too?” How do you handle that, which I assume happens not too infrequently?
Dan: Yeah, no, we exit the position anytime a CEO leaves. We have to run a new analysis on that, which takes some time, part of one of our conditions.
Meb: How do you handle something thing like, “Okay, we got a highly-rated CEO,” and then they do something that would knock their score down. So, I don’t know, just 2022, they get cancelled for doing X, which was a bad behavior, whatever it would that would trip your signal. Is it like an immediate, or do you then have to, like, apply a lens and say, “Okay, we need to examine this because maybe it’s not what we think?” How does that play into the portfolio from that point?
Dan: We would definitely have to examine the situation to really understand exactly what the trip up was. But that would be done pretty quickly. And it wouldn’t be done necessarily using analytics. We would use our own personal judgment on the situation, and whether or not we needed to pull that CEO from the portfolio.
Meb: What might be helpful is to maybe go through either some good ones and give some examples and/or some who’s missing and give some examples. I think that might give us a little more concrete, real-world feels about what these guys and gals are doing. Warren and Charlie in there? They got to be good behaviors, right? Where do they rank?
Dan: Yeah, they’ve made it. Maybe, yeah.
Meb: Okay, as you say, you know, maybe they’re peddling too much sugary drinks, and that…
Dan: That’s right.
Meb: …takes them down on the…
Dan: Sees candy, yeah, it’s just too much. Yeah, we don’t have a lot of companies that are very controversial, ironically. I mean, I think our most controversial company is a taser company.
Meb: That’s a good question is how often…? Because I imagine people listening, like, you’re not actually applying the four criteria to the actual operating business, or is there some sort of spillover effect?
Dan: We’re not really taking a moral filter on the actual industry business. That’s another level. And it gets messy pretty quick, as far as everybody has different opinions. And so, we try to stay neutral there. Some real-life examples, I mean, there’s some past ones that are great, Herb Kelleher at Southwest, Jim Sinegal of Costco. We had Claiborne Deming at Murphy Oil. To date, one of the things that’s an element of our process is that we don’t necessarily dig into a lot of specific stories on the CEO when we really try to rely on our process. The new CEO, or it’s not too new, of Microsoft has just popped up as far as just transforming the culture of that company. UiPath’s CEO, Dan, was a really interesting guy. Their leading principle is humility as a company, which I thought was really fascinating as far as just an antidote of a type of company that we have in our portfolio.
But we’re constantly looking for additional inputs and understandings of current companies out there in the marketplace. And it’s fun to learn. I mean, it’s so fun looking for something good as opposed to looking for something bad. And it really is exciting when you are able to start seeing a trend in a specific company and understand that, man, these are people really working trying to do better. Well, we can talk about the bad. That’s fine. Man, by the way, Kelleher, I used to have a quote of his hanging in my bathroom. And I’m going to muck it up. But it said something along the lines of, “We have a strategic plan. It’s called doing things,” or something like that, right? Like, it’s such a Kelleher quote. It’s so accurate. Let’s talk about a few names. You can give me their rating or if they fall in or out. Elon, where’s Elon as a CEO?
Dan: I tend to look at the Elons of the world as productive narcissists, ones that you wouldn’t necessarily bet against because in a lot of ways, those guys are the company. So, they’d always put the company before their own interest. He didn’t make our list, but we don’t like to go negative but we also don’t like to talk about our list as being kind of a way to make other people look bad. We also don’t see character as a fixed thing. We think it can be developed. Elon can be on the list. In a way, I’m cheering for all 1,000 companies and the rest to migrate this direction. There are certain CEOs that aren’t on the list for obvious reasons. But I think we also know why the opposite of what we’re trying to identify is super dangerous. We want to affirm the good side of the bell curve. We want to find the few that are over here. And the few that are over here, we just want to stay away from. And I think most people should want to stay away from them. But we’re not in the business really, Meb, of identifying them. It’s just not our space.
Meb: No, it makes sense. By the way, you guys, listeners, Dan has launched an ETF, the ROCI ETF, great ticker, with our very good friends at Alpha Architect Western crew, right? When did you guys launch?
Dan: March 24th.
Dan: Yeah, so we’re just out of the gate.
Meb: Just out of the gate, that’s exciting. I can remember that just like yesterday, our first fund.
Dan: When did you launch your first fund, Meb?
Meb: 2013. We sub-advised one in post-financial crisis, earlier than 2013. Maybe like 2010, if I can remember. So, tell us a little bit how you do this in practice, so, how many names, how do they get weighted, when do they get rebounds, all that good stuff.
Dan: We have 106 names. It’s marked halfway across all sectors. We are really taking the top-weighted CEOs from our criteria or our analysis for each sector. We want the strategy to any outperformance that we perform to be really attributed to character as opposed to any factors that may be driving it. And so, equal-weighted the market cap perspective. We rebalance as needed every quarter. And we’re constantly monitoring and reviewing our list throughout the year, and also constantly looking for new CEOs as we go. Research is constantly in process. And it’s designed, Meb, to be kind of a way to get market exposure, but only allocate your money to leadership and companies that are pursuing this kind of behavior. Instead of putting your money on the broader market, that on character, or invest in character, we think you’ll perform over time. And also, it’s affirming something that I think makes the world a little better. And that’s kind of the value proposition because we’re trying to, in a way, almost create a character market.
Meb: What has been the initial reception for how people are kind of receiving it? And what I mean by that is not necessarily are just people dumping millions of dollars into it but a lot of times, when we’ll launch a product or an idea, we’ll get some responses that we didn’t expect, or people say, “Oh, interesting,” and not necessarily in a negative but also in a positive way. Or maybe they say this fits in in a different way or something. Like, what’s kind of been some of the conversations you’re having and how are people thinking about this here in 2022?
Dan: In general, it’s very rare people don’t like it. It’s like this appeals to something almost innate, and people that goes…it’s almost like a duh. Of course, that makes sense. And the average investor will say people that are in the industry absolutely love it. They tend to always ask, “How can I buy?” And you have to explain it to your advisor and allocate portions of your current portfolio to [inaudible 00:32:34.364]. The sophisticated investors are constantly looking at it compared to everything else that they do. And I think they all like the premise. They want to see a track record over time, as most people would. But there’s a real broad and general openness to it I’ve found so far. There are always one or two people who think that character doesn’t matter. They cite other companies where our CEOs have outperformed, have done really well, and they don’t have character. And so, that’s always easy to do. But, in general, it’s been very well received. And the main thing is just getting the word out that there’s now some first time. I remember the first behavior-based investment product I think the SEC has ever approved. And it’s a kind of a new alternative. We don’t quite know where we fit yet in the SG world, but we certainly think it’s relevant, and we’re hoping that people also care about investing in character and see us as a way to do that.
Meb: You have a nice website that you’re building out, and I was smiling because it talks about the things that do matter, the things that don’t matter, age, tenure, industry, education, career path, political stance, beliefs, religion, and family history, which I thought was great.
Dan: It’s all research-based analysis. The other interesting thing is that the four characteristics found that we define this character, integrity, responsibility, forgiveness, and compassion are also the characteristics in other cultures that are attributed to the definition of character. And so, this isn’t just, say, an American thing. Most societies would recognize that those four areas brought together Is kind of a representation of character. So, we would love to someday take this beyond America and go to Europe and Asian markets.
Meb: Presumably, it should apply, no?
Meb: I wonder how much cultural difference you see in some of these countries. I mean, not only could you globally, but you’ll essentially end up with some country cultural ranks, I would assume, where some countries, just by the way that people are wired socially, that they may have lower weights on some of these.
Dan: See, that’s the thing that’s interesting is the research shows that telling the truth is linked to integrity, taking responsibilities for when you screw up is linked to responsibility, forgiveness, forgiving other people when they screw up, compassion, empathy for others. Anytime those four characteristics kind of combine does generally define, well, that person’s got character. I’ve talked to Fred Kiel about this. And he says, “Yeah, it’s almost like this universal rule that kind of runs through us all.” Those things matter as it relates to how you define character. Like I said, the other things where you said doesn’t have anything to do with your behavior type, your personality type, for example, you’re introvert or you’re extrovert, it doesn’t matter. It can come up in any kind of human being.
Meb: It’s interesting because there are a lot of additional avenues this could go with different subsets of the globe. As you think about experiencing and refining the research in the coming horizon as you look out, what are some areas where you’re kind of like scratching your head or pondering in the Redding woods, where you’re like, “I wonder if we could incorporate X?” or, “I’m curious if these measures may correlate to Y?” like, what are y’all thinking about as you look out to the future?
Dan: When I look out to the future, I really go back to research and how we can be better at understanding this aspect of the market. I can’t help but think if you go on Amazon and you look at this pen, for example, they’ll have like 20 reviews on this pen. People take the time to write their opinions. A dream of mine would be to be able to provide a way to start to provide a voice to people that are working in the trenches and to be able to start providing perspective on the way leadership behaves and culminating that data and using it as an informative way to allocate investments. That is something that I think about a lot and how best to do that because I think there’s a lot of people that have a lot to say about how they’re treated or their experiences at work. And it’s so personal and relevant that it’d be great to figure out how to kind of unlock that in a more deep and sustainable manner.
Meb: Yeah, how does the Glassdoor effect, anything like that ever play into it? Where you, like, “Look, the CEO says all the right things but behind the scenes, this guy is a total tyrant.” Is that something that ever surfaces or you ever, like, think about, you know, at the same time, the Glassdoor is totally unreliable because it could be a bunch of employees that just got fired?
Dan: Right. I had one scenario where I just called Christian leaders and said, “Hey, this CEO is just incredible. He’s got an incredible character.” But then all my analysis on the CEO shows that he was more like the general and a few good men that put the fear of God in all subordinates. And so, you quickly learned that the way these people behave, CEOs behave at the golf club is not indicative of how they behave in the trenches. And so, the more that we can refine our analysis using a variety of different tools, Glassdoor reviews are great as a point of consideration, not the point of consideration, the better we’ll be at understanding. There’s a lot of tools that are available today that haven’t been in the past that can help us gain both an understanding of this aspect of companies, not just from the standpoint of, say, natural language processing, artificial intelligence of behavior, of language, but also just people’s ability to freely express information. And those are all things that I think and hope that we can develop over time and really improve upon and make us smarter. And also, it’ll be kind of fun is that it starts to show in effect. CEOs actually think twice before they behave poorly because behavior starts to matter. That would be a neat byproduct.
Meb: Yeah, you just start publishing your list. That’s like the real get the CEOs to start behaving, publicly shaming them and saying, “Look, man, you’re bottom quartile right now. You got to pick it up.” There’s a side business for you, selling access to the list of all the public boards around the country and being like, “Yo, you guys, your CEO is thinking up the joint. Maybe you should think about something else.” That would be an interesting, activist campaign situation. You’re going to get… Elliott, if you’re listening to this podcast, Carl Icahn, if you’re listening, here’s your targets right here.
Dan: It would be a real awareness if the boards are asking the question, “Why isn’t my CEO on the list?” And if we can get that much traction, and we can demonstrate… Most people have a core part of their investment strategy that sits in the markets on a broad level, like the Russell 1000 or the S&P 500, our value proposition, our request in the market is move proportion of that over to the character fund, VOC ETF, and get kind of the same relative risk returns with the upside of character over time. The more we can get people investing in character and showing that that matters, that they do care about behavior, and that, in a way, it’s kind of a vote that they believe it will outperform, the more attention we’ll get, I think, with these companies, with these board of directors. That’s the long-term goal. We’re orienting ourselves towards trying to build a strategy that will be here for 100 years. We don’t want to sell it. I’ve got an incredible investor in Bridgeway Capital Management, which is out of Houston, John Montgomery, and Tamra, the CEO there, our principal investors. And we’re focused on trying to create a product that is available for as long as people care about character in the market, there is the place to affirm it. That’s our focus. And we’re really excited. I mean, we’re just getting started, Meb. And surely, I really do appreciate you having us on.
Meb: Oh, it’s fun. John is a former podcast alum, listeners, episode 323, if you want to check out a fun chat. He’s one of the OGs of quantitative investing, as I mentioned to him in the show, even owned his fund at one point many moons ago.
Dan: John was the one that did our backtest review of our earlier portfolio and his head kind of fell off his shoulders when they saw and discovered this kind of what we call the character factor. That original performance is not related to our fund today, but my original strategy, only 30% of the outperformance was related to factors, 70% John couldn’t explain. And so, he got pretty excited.
Meb: If anybody knows more about factors in testing, John is one of the few. As we start to wind down, Dan, what else? Anything we missed in the general conversation about character-based investing, or like, “Yo, Meb, we should have talked about X, Y, Z,” or we’d covered all? What else is in there?
Dan: Well, I mean, you know, from my standpoint, I’m really focused on trying to convince people to put 20%, 30% of their market exposure in ROC ETF. It’s a big piece but we’re just getting going. We’re looking to build a community of people that think character matters. We’re calling it ROC Ambassadors. The fund is connecting with other investors that think it matters and want to affirm it. So, we’re always looking for people,
Meb: How are you going to connect those? You guys are going to build out a Slack channel, or is there going to be a way you’re going to hold the ROC conference at some point? What’s a good way for these guys to connect eventually? You’re still brainstorming.
Dan: We’re still brainstorming. We’re a month out. We’d love to have a ROC conference, a Slack connection point. We’re looking for ambassadors. Meb, would you be a ROC ambassador for us?
Meb: You got to send me some swag, and at least one free fishing lesson in Northern California.
Dan: Absolutely, and a waterfall visit. Yeah, I think you’d like that one too.
Meb: Cool. I’m going to hit you for the [inaudible 00:42:45.234] stuff. Well, yeah, I mean, it’s interesting. I love the idea and the concept. It’s one of the concepts that also, like, you want to believe in, where you’re, like, hopeful that this is the way it works and not the opposite. The good guys win, guys and gals. So, that’s pretty cool. What’s been your most memorable investment, looking back over the years? You’ve done a lot, been in a lot of places. Anything that seared into your brain?
Dan: Well, I think my most memorable investment has been my original investment character fund that was able to outperform for 20 years by investing in CEOs that had tendency to behave with character and honor. I had the privilege of getting to know a number of those CEOs. And the neat thing about that is that they all tend to make you better as a person. And it’s not too often that you can be in the investment world and actually become better as a consequence of your focus. In this case, that was probably my greatest bet. And the greatest outcome is being able to kind of prove that it does matter, you know, and it works. That’s what I’d hold up as an example.
Meb: All right, well, listeners, all my public company CEOs, if you’re not on their holdings list, you got to reach out to Dan and say, “What’s going on, man? There’s another line of business… I need to amp up my number. Where am I going wrong here?”
Dan: Meb, I think it’s important to mention, and this is a really cool aspect of this, is that Fred, he launched a consulting company that actually goes in… It’s called KRW International. And they go into huge companies and help companies develop this aspect. And their contention is it’s not that people have or don’t have character, it’s how you develop it over time. And so KRW, if you’re not on the list, actually is the solution to this side of the coin. We’re only looking to try to identify KRW International and then the ones I worked with on the research front can provide a solution to get companies kind of looking and orienting in this direction. It’s really exciting.
Meb: Awesome. Well, look, man, where do people find out if they want to check out the fund, what you guys are up to? What’s the best place?
Dan: Rocinvestments.com, www.rocinvestments.com is where we live. And you can also find me on LinkedIn. I welcome people reaching out, giving me their opinion on different companies or ideas. The more we can rally together… If ever there was a community approach to investing, it’s this because all of us and many of us live with these CEOs or live and work in these companies are familiar with them from a professional standpoint, we welcome the dialogue. I look forward to hearing from people.
Meb: Awesome, man. Dan, it’s been a blast. Thanks so much for joining us today.
Dan: Yeah, it was an honor. I really appreciate it.
Meb: Podcast listeners, we’ll post show notes to today’s conversation at mebfaber.com/podcast. If you love the show, if you hate it, shoot us feedback at [email protected] We love to read the reviews. Please review us on iTunes and subscribe to the show, anywhere good podcasts are found. Thanks for listening, friends, and good investing.