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Compound’s Investment Philosophy

Most of our clients come to us on a path to or having already achieved material financial success as founders, employees and/or investors in technology companies. We believe that their concentrated exposure via company equity plays a critical role in their long term wealth generation. However, exposure to a single company and the related potential return brings risk. It often means finding / founding the right company, negotiating the right equity package, exercising options at the right times, playing a role to help scale the company, and ultimately experiencing a successful exit for both the business and equity position. We want to help you navigate the complexities of that cycle.

A typical client may have anywhere from 40% to nearly 100% of their net worth tied up in equity of a single company, which is often an illiquid and risky position. We therefore tailor the other part of the portfolio with this position firmly in mind and help you assess when it’s time to reduce that concentrated exposure. We seek to leverage the fact that our clients have unique insight into private markets. We then aim to pair that knowledge with our investment sourcing engine, diligence capabilities, and asset allocation framework. How do public markets fit in? They certainly have a role to play, both as a means of efficient and passive exposure as well as strategies meant to generate cash flow or diversify around the risk inherent in existing positions. Private markets, on the other hand, offer the possibility of higher returns.

The Short Answer

We seek to build resilient portfolios that optimize for clients’ liquidity & income needs, growth expectations, risk tolerance, and tax profiles. We use multiple asset classes and various analytical tools to design custom-diversified portfolios. Some of our guiding investment principles include:

  • We believe in the power of diversification to manage portfolio risk without sacrificing returns
  • We view the world through a risk-adjusted lens (we aren’t afraid of risk but aim to right-size it)
  • We believe in the value of market exposure and diversification that public (liquid) markets provide, but also in the higher return potential that private (illiquid) markets offer
  • We believe tech employees’ unique needs and goals require custom asset allocations
  • Though markets may evolve, rhyme, and perhaps repeat, we believe in market efficiency and not in market timing
  • We believe in maintaining a long-term investment perspective wherever possible

Every investment strategy involves some level of risk. While there is no surefire way to avoid it, there are ways to effectively manage risk. If we oversimplify the world of possible portfolios to either that of Capital Preservation (“risk-off”) and Capital Appreciation (“risk-on”), our primary goal remains to optimize the level of risk needed to achieve client-specific goals. A risk-off portfolio recommendation will generally have more liquidity, from cash to fixed income, and while it will have public equity and alternatives exposure, those positions will be appropriately sized and often defensive in nature (value over growth, US over emerging markets, etc). Conversely, a risk-on portfolio recommendation will include liquidity (both cash and fixed-income), along with a larger allocation to public equities and alternatives.

The Longer Answer: Public & Private Markets

Below is the framework we use to construct client portfolios. Behind the scenes, we utilize many different client-specific input factors in order to recommend portfolios that are aligned with a clients’ goals and needs. For example, within our public equity allocation, our approach uses a technique known as “mean-variance optimization” to blend the various asset classes in a mix that targets a maximum expected return for a certain level of volatility. Various portfolios target different levels of risk based on their suitability to different client risk profiles. While the following framework serves as the foundation to how we approach portfolio construction, it is a framework and is not individual investment advice. We always tailor our approach to each person’s individual needs.

Public Markets: Liquidity provides flexibility in the face of uncertainty. The flexibility means you can easily sell assets to generate spendable cash, use these positions as collateral to borrow against, and be nimble in the face of evolving market conditions. However, this flexibility comes at a cost. The costs come from inflation (which erodes the value of cash), reduced exposure to private markets (which can otherwise offer higher return investment opportunities), and public market dynamics (which bring volatility and its emotional intensities). We view the role of public markets as a more-liquid and lower-risk complement to your concentrated equity positions.

We prefer to invest in passive strategies across a diverse array of asset classes within public markets for a number of reasons but primarily because we believe in long-term market efficiency. “Beating the market” within an asset class is a difficult task, and while it certainly happens in a given time period, the odds drastically decrease over the long term. Passive strategies also bring a lower fee structure (<.5% vs. >2% per year). This approach is contrasted to our approach in private markets, where we believe partnering with the right active manager can be accretive to investment returns.

  • Cash or other short-term investments (such as short-duration fixed income securities) should be set aside to cover any liquidity needs that are forecasted for the next year, including general spending, buying a house, getting married, and other funding obligations (exercising options, servicing debt, funding private investments, etc.). A client’s quarterly taxes can also impact their liquidity planning. And finally, we also recommend maintaining an emergency fund that covers a few months of living expenses in case you lose your job, wish to take some time off, or experience an unforeseen emergency. This may translate to an allocation of up to 20% of cash and ultra short-duration fixed income to help cover your liquidity needs.
  • Fixed Income comes in a variety of flavors, but ultimately its allocation serves as a core position to provide modest income and capital preservation (risk-off). There are a number of ways to categorize fixed income strategies. Some of the most common include by issuer (from treasury to municipal and corporates); by maturity (days, months, years, etc.); credit quality (investment grade to high yield or junk); and by geography (US, International Developed, Emerging Markets). Within each categorization is a risk-return tradeoff that we consider when building portfolios, but in general this allocation should have significantly less risk than public equity allocations. Depending on the client, this allocation may range from 5% to 80% (risk-on to risk-off).
  • Public Equity can also be segmented in a number of different ways. However, unlike fixed income, an allocation to public equity serves as the core engine to drive capital appreciation or growth in an investment portfolio (outside of concentrated equity positions). We can divide public equities by company size (large cap to small cap), industry (from health care services to industrial services), geography (US to Emerging Markets), and a number of other means (growth vs. value, etc.). In practice, this means we utilize a collection of ETFs and/or custom-built direct index vehicles that provide passive exposure to public equities. Depending on the client, this allocation may range from 5% to 90% (risk-off to risk-on).

Private Markets: With a higher return potential comes more risk and less liquidity. Many of our clients who come to us have previously accessed private markets via equity & options from businesses they’ve worked at, invested in, and founded. They understand the risk/reward tradeoff, the illiquidity, and the limited access.

Private markets can also provide stability, diversification, income potential, capital appreciation, and more, but they do bring associated risks. Private markets can be illiquid for long periods of time, have high concentration risk, and offer much less information than public companies. Consequently, manager & fund selection is critical.

Private markets also have a variety of sub-asset classes including venture capital, private equity, real estate, private credit, commodities, crypto, and more. These each play different important roles in client portfolios. Investors can typically access private market opportunities via private funds or on a deal-by-deal basis. Importantly, these investment opportunities are not often available to the general public for a variety of reasons including minimum net worth requirements, access limitations, bespoke relationships, etc.

Investing in private markets requires an enhanced set of diligence tools given these are fragmented markets with little publicly available information on their strategies, company performance, competition, etc. While we have discussed our mostly passive approach in public markets, our strategy in private markets relies heavily on partnering with active managers who serve as experts in their fields. (This is necessary in part because, unlike in public markets, low-cost private-market “index funds” do not exist!)

A well balanced private portfolio may have an allocation to high growth assets like early-stage venture capital, as well as income generating and lower risk investments (such as a real estate fund that improves & manages apartment buildings). Generally, the larger an investor’s balance sheet, the more appropriate it is to allocate larger amounts to a greater diversity of private investments. Allocations to private markets are always considered within the context of the broader portfolio and client needs, and can represent up to 30% or more of a client's investment portfolio.

Looking Ahead

At Compound, we believe investment portfolios evolve over time. From entering new life phases to encountering the reality of changing goals, we believe allocations should always be dynamic. Our clients come to us with recent or near-term material liquidity as well as concentrated exposure to company equity. We help them diversify their portfolio and optimize their balance sheet to achieve their long term goals.

Note: if you’re interested in working with a financial advisor specialized in tech employees, Compound can help. We can help you diversify concentrated stock positions, optimize company equity, plan asset allocation, and more. Sign up here and we’ll be in touch.

Compound Financial Inc. (“Compound Financial”) offers software-based financial management and planning tools. Investment advisory services are provided by Compound Advisors, Inc. (“Compound Advisers”), an SEC-registered investment adviser (CRD# 306341/SEC#: 801-122303). Registration as an investment adviser does not imply any level of skill or training. Compound Tax, LLC (“Compound Tax”) provides tax consulting and compliance services. Compound Advisers and Compound Tax are wholly owned subsidiaries of Compound Financial. Altogether, we refer to our business as “Compound.” The information contained in this communication is provided by Compound for general informational purposes and should not be considered as financial or tax advice. Compound is not a licensed lender, law firm or insurance agency, and Clients should consult with their personal investment, insurance, tax or legal advisors or brokers regarding their particular circumstances as needed before making any final financial decisions. This communication is not an offer to sell securities. All investing involves risk, including the possible loss of any or all of the money invested, and past performance never guarantees future results. Please see Compound Advisers' Form CRS here, and ADV Part 2A Brochure here.