[REPLAY] Deep Basin – Earning Alpha in Energy - [Invest Like the Best, EP.81]

**SPEAKER_1** (0:00)
This week, we are excited to re-release episode 81, Patrick's Conversation with Deep Basin Capital.

**Patrick O'Shaughnessy** (0:11)
Hello and welcome everyone. I'm Patrick O'Shaughnessy and this is Invest Like the Best. This show is an open-ended exploration of markets, ideas, methods, stories, and of strategies that will help you better invest both your time and your money. You can learn more and stay up to date at investorfieldguide.com.

**SPEAKER_2** (0:31)
Patrick O'Shaughnessy is the CEO of O'Shaughnessy Asset Management. All opinions expressed by Patrick and podcast guests are solely their own opinions and do not reflect the opinion of O'Shaughnessy Asset Management. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions.
Clients of O'Shaughnessy Asset Management may maintain positions in the securities discussed in this podcast.

**Patrick O'Shaughnessy** (0:56)
My guests this week are Matt Smith and Ian Singer of Deep Basin Capital, a hedge fund specializing in the energy sector. I first met Matt almost 10 years ago and in that time, I've grown to respect him as much as any investor that I've ever met. Now, having spent time with Ian who specializes in oil and gas exploration companies and the rest of the Deep Basin team, I have similar respect and admiration for all of them. Deep Basin does almost the exact opposite of what USQuants do. In fact, their entire goal is to build a portfolio of mostly idiosyncratic or stock-specific risk, the very thing USQuants mostly remove from portfolios. Deep Basin positions the portfolio to make a series of carefully constructed bets long and short without taking market risk, style factor risk, or even commodity risk. They use a hybrid fundamental and quantitative process which we explore in detail. This is definitely another good example of who we are all up against in public markets.
What makes this story unique is that we are investors in Deep Basin's management company and so have a clear interest in their ongoing success. Listeners know that I want to be as transparent as possible on this podcast, so we even spend a little time telling the story about how it all came together a few years ago. I have learned a ton about investing from my countless hours with this team and hope that this conversation gives you a glimpse into what is happening at the cutting edge of investing in the world of hedge funds. Please enjoy this conversation.
So as you think about the energy space specifically, talk about the features of the universe that you're starting with, maybe define what that is, how many companies is it, and what makes that an interesting playground, if you will, for assessing long short opportunities.

**Matt Smith** (2:34)
If you think about as an analyst, what you strive to do is find a place where you can add value, where you can do something that is repeatable, you can do something that is differentiated, and where you can find yourself more repeatedly on the right side of an investment than on the wrong side and tilt the odds in your favor. Having spent some time in media and telecom and then industrials materials, and then for eight or nine years energy, I've just found that not only was it a sector where I'm passionate about all of the intricacies of the business and the complexities of the global energy chain, but it happens to be a sector where the complexity scares people.
If you dig in and you construct a portfolio to remove some of that complexity, what's left over can be very long-term structural, idiosyncratic investments on the long side and short investments in structurally advantaged businesses on the long side and structurally disadvantaged businesses. And you can do it, and we certainly try to here, in a way that's free and clear of oil and gas prices, free and clear of interest rates.
And part of our education at CEDAW was building a high idiosyncratic risk portfolio. You know, I read the Buffett letter when it came out, and you know, I think he still spends some time on alpha and beta. And I would say I care a lot about the attribution and the nature of the returns that our process, that my process as an analyst generated. And in energy, like no other sector I've been a part of, understanding these businesses at a very atomic level allows you to build informed views and very low variance models of what the future prospects for the business look like.
And that allows us to have insights that we think are valuable and alpha generating. And the beta piece is the removal of all those things like oil, gas, interest rates, systematic risk. And in many cases, we purposely try to get rid of style factor risk in the portfolio. And what's left are these repeatable, we think, asset driven insights of these businesses. And unlike any other sector, we have 70 businesses that make the same product and upstream in the US, the liquid, Canada, another 15 You can build a very elegant portfolio and really isolate specific nuances that you're trying to achieve in a portfolio. And we can stay in energy investments far longer than most investors can because we can take out lots of the bad things that can happen in the energy sector.