What is Three Body Capital’s mission?
The world is entering a period of accelerating change due to a confluence of technological, demographic, political, economic and environmental factors. This is very different from the linearity to which we have become wrongly accustomed.
We have created Three Body Capital to help investors navigate this profound paradigm shift.
Where does ‘Three Body’ mean?
“The Three-Body Problem” is an award-winning science fiction trilogy by Chinese author Liu Cixin (刘慈欣). The book introduces concepts and ideas which span multiple disciplines.
We believe that the transformation we see for the world will be driven to a large degree by China, particularly its emerging leadership in innovation led by A.I. Our name symbolises everything that we want to be as a business - imaginative, bold and transformative.
Where is Three Body Capital based?
We are based in London.
Who are Three Body Capital’s competitors and peers?
There are no obvious direct competitors, although there are clear overlaps with many industry incumbents:
Traditional Asset Managers: Blackrock, Aberdeen, Invesco etc.
Traditional Wealth Managers: St James’ Place, IFAs etc.
Private Banks: Credit Suisse, UBS, Rothschild etc.
Investment Banks: Morgan Stanley, Goldman Sachs, JP Morgan etc.
ETF providers: iShares, Vanguard etc.
Other Hedge Funds and Family Offices
Fintech startups/Robo Advisors: Nutmeg, Wealthify, Moneyfarm, Wealthfront, Betterment etc.
Brokerage-backed robo-advisors: Charles Schwab, Fidelity etc.
What differentiates Three Body Capital from its competitors and peers?
Everybody knows that change is happening. At Three Body Capital, our philosophy is different because we think that this change is happening faster than anyone else realises.
Further, we are differentiated from our competitors in the following key ways:
A focus on High Net Worth Individuals: Our market is a high value niche market that is able to not only make larger individual investments, but also qualify to receive access to sophisticated investment products (e.g. hedge funds, unlisted securities, illiquid assets). This is in stark comparison with the bulk of our competitors in the robo-advisor/no-frills investing space whose focus is to acquire retail clients at high user acquisition and regulatory compliance cost. We aim for quality over quantity.
A focus on Emerging Markets: The bulk of our institutionalised competition is focused on developed markets. As a result, competition in these markets is intense, leading to severe margin compression. In contrast, EM is the largest source of private wealth and AUM growth, while also the smallest penetration of formalised financial service offerings. Competition is limited to vanilla products (e.g. mutual funds) and investor knowledge is still behind the curve on sophisticated products e.g. private equity and hedge funds. Moreover, competition in these markets from foreign/global players is limited by regulation around licensing, cultural peculiarities and language. Our approach of working with long-standing partners based in these localities circumvents these issues and our local partners an international perspective and product offering - best of both worlds.
Product offering: For most robo-advisors, their ability to offer a low-cost product to end-users is their focus on delivering passive ETF products. While cheap to construct and run, inherent correlation risk between competing ETF products can lead to material losses for end investors, leading to permanent loss of capital. Our offering of zero management fees on their flagship products matches (and potentially surpasses) the ETF offering in cost, risk and performance, especially for an actively-managed portfolio. For private banks and asset managers, their product offering is either an ETF or a long-only mutual fund charging 60-100bps management fee, with little downside protection and a promise of targeted outperformance. Hedge funds and other sophisticated investments do not make up a big proportion of products offered because their target segment is retail. The competing product pool for our funds is largely vanilla long-only with daily liquidity, designed for easy access to retail. This contrasts with our focus on a niche HNWI segment to which a much broader range of investment products and insight can be offered.
Zero management fees: Contrary to the traditional AM model, which relies on management fees to cover overheads, our business model will build a network which is monetised over time once user stickiness is established. As a result, management fees are not necessary, allowing the investment managers to start on better performance footing vs other investment manager peers, while still benefiting from profits thanks to a 30% performance fee.
Network effects: The key edge in our model is network effects: by uniting HNWIs across EM in a single network, the ability to facilitate seamless capital flows across the network represents a greater revenue opportunity than traditional AM can offer - in fact, the asset management products confer operating leverage on the network at scale. These networks are similar to those of investment banks and private banks with 2 key differences:
Banks are incentivised to sell and are driven by volume, not investment outcome, creating a conflict of interest.
Moreover, they are often remunerated by their client (the seller), in opposition with the investor (the buyer).
For banks, the relationships exist between the bank, the banker (an individual) and the client, exposing the bank to risks of the banker being poached as a result of their position as employee, creating a conflict of interest that is implicit and difficult to manage. Our model addresses both issues: we have the option of co-investing in deals, equating to skin in the game on the best deals curated for the network. Moreover, as a commercial relationship between us and local partners, the conflict of interest as to ownership of the relationship is avoided.
How will Three Body Capital generate revenue?
Three Body Capital will generate revenue in a similar way to the highly successful software “freemium” model: barriers to entry are low, with little to no upfront costs for users (zero management fee). However, once users are engaged on the platform, the aim is to retain and deepen engagement (research and insights), enabling the sale of high revenue and high margin products and services (SPVs, deal flow, network access etc), monetising the network consistently over time.
Our focus will initially be on the HNWI market (defined as individuals having liquid investable assets of at least US$1m), although our fee structure and risk management will likely make the master fund attractive to institutional investors and allocators too.
This Freemium revenue model will benefit us in many ways.
Firstly it removes us from the pool of other asset management competitors, helped by our theme of transformation both in our investment theses and in the business model itself. By moving to a zero management fee product, we are sufficiently set aside from the rest of the industry to have a chance to make a strong value proposition to prospective investors.
Secondly it lends itself to fast scaling, removing the barriers to customer acquisition such as upfront costs and management fees, particularly given the narrative around fees being the evil that needs to be stamped out (not necessarily true).
Finally, a freemium model, once established amongst HNWI clients, translates into a huge opportunity for long-term annuity-type monetisation from deal flow, products, research and services.
Being able to “own the demand” of the highest value individuals around the world, growing at the fastest pace, is the opportunity as well as the moat for our business model.
You are effectively building two businesses – a technology business and a fund management business. These two industries have very different cultures. Tech tends to be open and transparent whereas fund management is about not revealing too much. How will you reconcile this?
Primarily, we are building a technology business and, as a result, our ethos revolves around full transparency. We aim to apply this approach to all the products we distribute into our network.
Our funds (starting with the long-only fund and the hedge fund) will also be fully transparent. We will reveal our process and we see our decision to embrace this approach is a key differentiator. We aim to make our research and our content widely available and to position this as our competitive advantage.
Fundamentally, we don’t believe that fund management should be a black box and we wish to open up and communicate transparently to our end investor so that we can both provide reassurance but also a deeper understanding about what we’re doing at Three Body Capital.
You’re a team of only 5 people. Is that team big enough to build this business?
At present, all 5 of us are involved in research and content for our platform.
David, Eugene and Emad will be primarily focused on the fund management side. Due to the nature of our offering and, unlike most traditional long-only benchmarked products, we don’t require full coverage of all the stocks in the emerging markets universe. Our focus is on transformative opportunities. It is conceivable that there are many countries in which we wont have a single stock. Furthermore, as AUM grows, we will begin to generate significant trading commissions and we will be able to hire research analysts from the fund itself. We envisage these people as being local analyst who will be based in the ground in each geography.
As our business grows, we will invest in people. After our first funding round, our first appointment will be an experienced COO/CFO.
How is the pre-money valuation justified?
We believe our £8m pre-money valuation is a function of the IP, the network of the team as well as the stage we are at with respect to readiness to build our business. We’re also basing this valuation on what we believe the lifetime fair value of each of our clients to be.
We like to think there are two types of startups - zero/million dollar companies and zero/billion dollar companies – we look at ourselves as a zero/billion company. The opportunity that we see justifies the belief in that potential: Monzo goes for the low end of the market and commands a $2.7bn valuation; we go for the high end, with a much lower client acquisition cost, already established networks from over a decade of relationship building and decades years of investment experience focusing on emerging markets with a unique process and DNA. Further, we do not believe that we even need our base case to materialise in order to build a business of significant value
The network is what’s valuable: deal flow, IP, owning the demand for the transformative investing and change in the emerging world.
Already we are in negotiations with sovereigns, content under NDA but we’re talking about some sizeable projects (e.g. space programs).
Investors should consider us having skipped over seed stage and should view us as a series A ready company – we have done research, we have the IP, our processes are built to scale and we have our partners already defined. In order to build the tech infrastructure, we have most of the components (e.g. AI narrative mapping) and we have our future partners identified and commenced discussions. We already also have a good sense of market demand.
Our valuation should also be looked at in the context of the lifetime fair value per client acquired vs the cost of client acquisition. The following simple exercise shows what this value might be”:
Average HNWI Client Age: 40 yrs
Average Life Expectancy: 80 yrs
Average Investable Assets: US$10m
Average Transaction Charge on Network: 2%
Average Portfolio Turnover (annual): 15%
Annual Revenue: US$30,000
Discount Rate: 5%
Net Present Value of HNWI Lifetime Cashflows: US$544,772.59
Average number of HNWI per country: 10
Total number of countries with partners by 2021: 50
Total HNWI contact points: 500
Total NPV of Network: US$272,386,295.31
Discount to NPV: 20%
Fair Value: US$217,909,036.25
Fair Value of 25% stake: US$54,477,259.06
Three Body Master Fund
What is the fund’s investment strategy?
The Three Body Master Fund is a zero-management fee, performance fee only fund, aiming to be invested long and short across the world, with a focus on developing markets and centred on a theme of identifying and benefiting from transformation and change.
What differentiates the Three Body Master Fund from other emerging markets and technology hedge funds?
Our core belief that the past is not reflective of the future, and might in some cases even be contrarian to a company’s future prospects. This is what differentiates us from the bulk of our competition, who operate on a basis of mean reversion, seeking out normalisation in earnings momentum and reversion to historical valuation ranges as a basis for making investment decisions.
Put differently, our competition invests under risk (“Given the parameters, how much money can I make or lose?”), whereas we invest under uncertainty (“Given this much capital at risk, what could the parameters possibly look like?”). Between capital and risk parameters, there’s no question as to which we have a better grasp on.
Who are the fund’s competitors and peers?
The Three Body Master Fund is in competition with products launched by the world’s largest asset managers, whether active or passive.
A drive by regulators to provide more transparency and accountability to investors is causing anxiety amongst incumbents: in a bid to amortise escalating regulatory costs over larger revenue bases, we saw several large international asset managers undertaking mergers in an attempt to gain scale. The result is even larger asset management entities, ever-more-complicated internal bureaucracy and even more inertia when responding to changing economic and investment realities.
Into what type of securities does the fund invest?
The Three Body Master Fund has a mandate to invest in all security types and we have no strict approach to asset allocation. However, currently, our focus will be on equities.
Into what geographies does the fund invest?
The Three Body Master Fund has a mandate to invest in all geographies but we believe that, currently, there is a higher chance for higher returns in Emerging Markets.
What is the expected annual return of the fund?
The Three Body Master Fund will return 8% average annual return, net of fees, over 3-5 years.
What is the fund’s approach to asset allocation and security selection?
The Three Body Master Fund’s investment strategy circles around a well-defined investment process, honed over years of application in the Emerging Market space.
Discovering and positioning to deliver investment returns, both from long and short positions, is a core part of our investment process. There is only one driver: earnings. Yet the nature of investing in change is such that we position in anticipation of inflections in earnings, not with a specific view as to when a catalyst occurs, but with a view that outsized returns will be delivered when change hits.
The alignment of manager/investor interests goes further than upside: performance fees incentivise us to seek upside, but a zero-management fee and a high watermark ensure that we avoid downside risk. Downside below the high watermark translates to zero revenues. There is no minimum revenue to speak of from the asset management segment.
As a result, this reinforces our investment philosophy: make money on an ongoing basis, make a lot of money sometimes, but never lose big.
What is the fund’s investment process?
Our primary consideration is whether an instrument has an Emerging Market angle. If it does, we then typically ask 10 questions:
Theme and Narrative - Where's the transformation?
Company - How well do we know the company?
Management - How credible is management at execution?
Earnings - Is there room for an earnings inflection?
Business Model - How do they make money?
Insiders - Who controls the company and calls the shots?
Portfolio Fit - Is this the best instrument for the book?
Market Risk - Can we mitigate market risk around this company?
Idiosyncratic Risk - Are there unquantifiable risks and are they worth taking?
Trading - Who makes the price for this particular instrument?
What is the fund’s approach to risk management?
In order to safeguard all of our interests, we are acutely conscious of the need to constantly monitor, avoid, manage and mitigate our exposures to risks to the business, separate from the portfolio risk management inherent in our research and investment process.
What is the fund’s minimum investment size?
The minimum investment into the Three Body Master Fund is $100,000.
What is the fund’s charging structure?
The Three Body Master Fund will launch with a fee structure of 0% management fees and 30% performance fees.
The rationale for this fee arrangement is because we are making a bold attempt for an outsized slice of the asset management pie. This positions us not only as an active fund at the same price point as a zero-fee ETF, but also as a call option, with enhanced risk/return, since we have as much skin in the game as our investors.
What is the fund’s performance benchmark?
The Three Body Master Fund is an absolute returns fund. It is not designed to mimic or track an index or benchmark.
Is there a long-only version of the Three Body Capital Master Fund?
Yes, there will be a long-only version of the fund that will be launched alongside the Three Body Master Fund.
Three Body Network
How quickly are you looking to grow the Three Body Network?
By end of 2019, the Three Body Network will have relationships and users in each of the BRICS plus 10 other countries.
In what geographies will the Three Body Network operate?
In the near term, the Three Body Network will partner with emerging market private banks, asset managers and family offices, incentivising them to offer the network to their clients via a share of deal revenue.
Our long term vision is for the Three Body Network to become a P2P marketplace for the global HNWI community.
How does the Three Body Network generate revenue?
The Three Body Network is an aggregator, a marketplace where HNWs and their advisors can trade goods (deals) and services. Consequently, our revenue streams are numerous and scalable, and they will develop and grow over time as our platform connects more capital with opportunity.
The Three Body Master Fund has a fixed annual cost, but, in a short space of time, it will gain huge operational leverage by feeding off the information that we obtain from being curators and managers of the Three Body Network. Hence, one significant revenue stream for the Fund and for the Network will be the sustainable alpha that is generated on an ongoing basis from the network.
This will give the overall business, Three Body Capital, a sustainable edge as we facilitate a distributed and growing network of verified HNWIs. In time, we can also educate these HNWIs.
As a result, we will generate an effective annuity stream from day one as we connect HNWIs with a huge range of goods and services (e.g. legal, insurance, consulting... the list is endless) to meet their needs, without being reliant on any geography or key client.
This is why the valuation for our business is so far in excess of annuity valuations as there is an effective annuity on the lifetime fair value of each customer with strong network effects and lock-in.
In addition, the aggregated data from the platform will create brand new markets, as does potential network access fees that can provide sustainable annuities if needed, as can fees charged for access to incubated projects.
Who are the Three Body Network’s competitors and peers?
No one is building a version of the Three Body Network in finance.
The only company that could compete after we have built market share is Apple, as they have the access and technology that allows them to connect to this group of HNWs. But they’ve shown no intention of building this product.
The Three Body Network stands in direct competition to the global private banks. As we grow our network of emerging market HNW investors and offer them investment opportunities which sit beyond the scope of a typical private banker, we become their key network of choice for sourcing investment opportunities.
Why would a HNW want access to the Three Body Network?
The Three Body Network will give Emerging Market HNWIs the opportunity to secure their long term financial futures for them and for their families. In a time of great change and transformation, we offer them a chance to guarantee and insure their future.
We do this by giving them access to 3 key resources:
Deal flow: We will provide HNWIs with access to unique investment opportunities from all over the world.
Capital: We will provide HNWIs with the opportunity to access capital for their own projects. Via the Three Body Network, HNWs can raise funding from a variety of sources all over the world. Our network gives them access to a constant source of verified and authorised investors and their capital.
Education: By becoming a member of the Three Body Network, HNWIs will gain access to our research and insights that will make them smarter and enable them to make more money in both the markets and their businesses.
By creating a network that connects individuals from all over the world with opportunities, the Three Body Network is providing HNWIs with the chance to secure their financial futures.
The value that we offer is in the calibre of the network we are building. Access to a distributed yet highly connected network such as is ours is a truly unique opportunity, especially in Emerging Markets.
Why would a local partner want to access the Three Body Network?
Our local partners benefit from being part of the Three Body Network in 3 key ways:
Fund distribution: Thanks to the 0% management fee structure, we allow our local partners to charge a distribution fee which our partner believes will not significantly impact the saleability of our master fund in their specific jurisdiction. Whether these fees are recurring or one-off is completely at our partner’s discretion, and as a country-level distributor, the fees are for our partner to keep. The consequence of this is that the model of distribution of our master fund units in an individual country is solely managed by the local partner, allowing them to benefit from having an additional offshore product to sell, as well as any synergies with their existing product offering.
Research: Distribution of our research in each country is also channelled through our local partners, with the possibility of local language translations being done on specific pieces of content if desired.
Bespoke products and deals: Since these bespoke products carry a 2/20 fee structure, we are happy to enter into fee-sharing agreements with our partners on a product by product basis, since it is likely that these will be bespoke. In cases where we may be able to place a deal with an existing holding structure not set up by us (e.g. private equity deals), we may elect, together with our partner, to add on a placement fee which can be split equally across both parties. In addition to fees, we believe that the ability to offer our partners the opportunity for their investors to participate in bespoke deals and investment solutions with a global EM perspective allows them to compete at a much higher level vis-a-vis your local competitors.
In summary, we hope that the Three Body Network allows us and our partners to collectively tap into our shared belief that Emerging Markets are truly where the future of growth is for our businesses. Together, we feel that we serve our partners’ customers.
How will you resolve the issues around onboarding local clients in terms of compliance/KYC?
We will use our local partners to onboard the clients. We hope to rely extensively on our local partner network who have local knowledge and relationships with the relevant service providers (compliance, tax, legal).
The clients are their clients in their geographies. In terms of onboarding, we will face our local partners, which should help simplify the operational process dramatically.
What differentiates the Three Body Network from an investment bank?
The Three Body Network is differentiated from a Global Investment Bank in three key ways:
Alignment of interest: The Three Body Network has its interests aligned with the investor, rather than the corporate client. That is at the heart of our DNA - we are investors ourselves, and have seen firsthand (and sometimes suffered the consequences of) the enthusiastic but often hollow sales pitches made by investment bankers with the aim of closing a deal, pushing their IPOs to market, collecting their fee and washing their hands of it, potentially earning a second round of trading fees from their clients which they’ve put in a deal exiting that same deal. By being able to access deal flow on the private side directly as buy-side investors, and sharing that deal flow with our end-investors, we stand on the same side as our clients in the search for top quality. Put differently, we only show deals that we would invest our own money in; a bank would show any deal that gets them paid, regardless of whether investors eventually make money.
The nature of advice and assistance: On the occasion where a HNWI client is looking to raise capital via the network, we provide advice on how to make their project investable from the perspective of a potential investor. This is in contrast with the banking model of advising to make a deal as saleable as possible and maximise the proceeds. The difference is subtle: the former leads the client to offer investors a fair deal, receiving capital while leaving adequate upside on the table, culminating in goodwill that makes doing future business easier; the latter leads the client to offer a deal which maximises near-term proceeds at the risk of investors losing money, at the risk of engendering ill will on future investments.
The scale and scope of deal flow: For many investment banks, the focus is on getting the best bang for buck in terms of country coverage. As a result, they focus on winning the biggest, most profitable deals from their biggest corporate clients. Being serviced by a global bulge-bracket bank is easy for a big company; it’s not the same for a smaller company, especially one in emerging markets, and by “small” we still mean enterprises which are worth tens and hundreds of millions of USD. These are often successful family-grown businesses which unfortunately miss the cut for investment banks and their institutional clients (too small for a big fund to take a position), but have businesses too advanced for the likes of PE and VC investors. Who better to seek out as an investor, then, than another entrepreneurial family in another emerging market economy who understands the intricacies of the business and faces similar challenges, whether in the same sector or one which is completely uncorrelated? By working with our local partners who provide the depth and local touch in coverage, the Network provides precisely that connection, one which no investment bank will likely be interested in providing. Moreover, Emerging Markets represent the largest growing pool of private client assets in the next decade, reinforcing our belief that there is an opportunity to work with the underserved growing HNWI capital pools in these countries.