544 How to Grow an ETF Business w/ Wesley Gray

9/5/2022

Wesley Gray is the founder and CEO of Alpha Architect, an investment platform for building custom, low-fee ETFs.

Wes is a Magna Cum Laude graduate of Economics at The Wharton School, served as a Captain in the United States Marine Corps, has an MBA and PhD in Finance from the University of Chicago.

His interest in bridging the research gap between academia and industry led him to found Alpha Architect, an asset management firm dedicated to empowering investors through education.

In this episode, Aaron and Wes talk about strategies to “beat the market”, how being a professor is the best gig as an entrepreneur, and his biggest advice to entrepreneurs.

Wes’ Challenge: Register at https://alphaarchitect.com/mftf/ to join the March for the Fallen 28-mile ruck march

Connect with Wesley Gray (Alpha Architect)

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If you liked this interview, check out episode Index Funds, Bitcoins, and Telling the Truth with Mike Green.

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Aaron Watson: So you've got a, a really interesting business that we're gonna break down. Not only how you've built it and everything that's gone into it. But the, the kind of starting question. That I wanted to bring to you was really that of, you know, the folks that aren't professional investors, but need to do some investing, cuz we're all, you know, trying to save for retirement or other goals.
And there's been this, you know, huge narrative wave, I would say that there's, you know, conventionally kind of been two. Pathways by which someone would do their investing. They'd either, you know, go hire someone to be an active manager or to take a really big fee. And like, they're gonna beat the market.
They're gonna do special things with that with your money, basically. Yeah. Or there's this, you know BOGO Vanguard school of thinking, which is set it and forget it, throw it in an index fund. Never return in any way, shape or form to, to analyze that. So can you talk to me a little bit just, or, or start things off with folks there's, there's a middle ground there between those two extremes.
Can you just take people through how you think about that? X, Y axis.
Wesley Gray: Yeah. Sure. So, so to your point, like a good baseline for any investor is just to literally avoid all the BS and focus on the cheapest, most diversified, low cost solution, which to your point is Vanguard. Right that, so that should always be someone's baseline.
We have a framework called the facts where always say, Hey, make sure you focus on the facts. And what does that stand for? Well, F stands for fees. Keep them low a stands for access. I E like your liquidity, keep it high. C stands for complexity, keep it low. And then T stands for taxes which Vanguard and a lot of ETF structures will do for you.
And then the S stands for search, which is like your due diligence, all your brain damage cost. You obviously wanna keep that low. So as a baseline solution, Vanguard's amazing. And then to your point on the other end is like, well, let's go pay like way over price, active managers that do all kinds of crazy things to try to beat the market.
The problem with them. Is, there's not necessarily anything wrong with being an active investor, trying to beat the market and, and trying to earn higher returns than just say a passive index. The issue is if you charge too much for the value that you're potentially creating, it's a net negative. right.
And so the, the kind of the happy medium is if, is if you did active investing or try to get the cost out back to investing, right? So maybe you don't wanna just own the SB 500 for the next 50 years, because we know there's all these different techniques where over long time cycles. And to the extent you can deal with the pain in anguish of the strategy, you're gonna try to engage in, it can be at the market.
But you have to keep the cost down still. Right? So, so what we call that affordable alpha or affordable, active and we're a believer in that as well, but, but only for a certain segment. So either really cheap, super simple, great. Or you could do, you know, pretty cheap, really affordable and more active, also great doing really expensive, active, not [00:04:00] good.
Is basically the answer
Aaron Watson: makes sense. And one of the things that, and maybe this is just me. You know, not liking to follow the crowds and be in, maybe I like to believe myself to be a contrarian, but there's always been something that kind of irked me about, like, I'm just literally buying the exact same thing that every single other person is buying.
And to some degree, you know, you hear, if you do what everyone else does, you're gonna get the same results as everyone else. And yes, for whatever reason, I'm a, I'm a cat that likes. Try to beat to a different drum beat. So talk a little bit about tangibly putting that into practice, what that looks like and then how that inspired the company that you've
Wesley Gray: found it.
Yeah. Sure. So, so again, the problem as you approach financial services is you always got to remember that people always trying to sell you something and they're very good at, on your emotions and desires. And, and one, one of the biggest emotions out there is ego. I'm not, not that it's a bad thing, but like, like you may go out there and be like, you know, I just, I can't be like everyone else.
And, and that could be attributed to like, Totally fine. Total natural thing that most people do. However, if you talk to the wrong people, they're gonna identify that as a personality trait and they're gonna be like, oh, how can I exploit this? Well, I'm gonna sell them overpriced stuff. That sounds really different is really cool, unique, different, and I'm gonna win because I can charge this individual take advantage of their ego and they're gonna end up losing, but they'll, they'll feel better about it.
So obviously we always wanna be really careful about avoid. That because of the, the incentives of the financial service industry. Now that said, there's nothing wrong with trying to be better than average in being different. And in fact, the only way you ever even have a hope or a prayer of beating and winning in the marketplace is obviously you have to be different, right?
You can't own everything that everyone else owns and expect to outperform them because that's just silly. So we know you have to be D. To, to do well, but in a financial marketplace, you're also competing with everyone out [00:06:00] there and it's, it's a hypercompetitive game. Right. So usually in order to. Be different and do well.
It requires you to do things that are typically uncomfortable. Not fun and painful, right? Because in the end you're gonna have to trade with someone in the marketplace. And so what a lot of the financial research, and again, I, I speak from just what academic research says like data driven, evidence based stuff.
I'm not. Not anymore. I'm not a stock picker. I'm just a PhD quant type that just reads academic journals all day. What, what the collective academic research suggests is that if you're willing to be different, do things that are painful, maybe a little bit more risky, you have the horizon. You're not so worried about just being like the other lemmings out there.
A few of the different techniques that you can tangibly put into play. Always being cognizant of obviously of cost and taxes, cuz that can ruin any. Any good idea paying too much or, or paying too much in taxes, is it boils down to a few types of strategies. One would be what they call classic value strategies.
So that would be strategies that essentially buy cheap stuff. Right. So if, if your audience is not real familiar with stocks, but they know about real estate, well, instead of going by like the brand new house that they're selling out in the development, you go buy the boarded up, you know, row home in, in the middle of the ghetto.
That is CEO selling really cheap that that's called value investing and, and, and the equivalent in stocks like buying securities and companies that don't look that good on paper, but they're selling really cheap. If you systematically do strategies that do that over long horizons, they generally tend to beat the market over long horizons.
The other kind of class of strategy that you could do to kind of quote, unquote beat the market is what they call momentum strategies. So these are strategies where you just, you systematically buy winners. So when things are doing well, you buy them. But more, most importantly, when things are not doing well.
You don't get enamored or you don't believe the story you get rid of them. [00:08:00] So momentum is another strategy that people can use at least systematic over long time horizon to quote unquote, beat the market. But it's, it's a much more trading intensive strategy than value. Like those are probably like the two main ways that are, that are simple to explain.
If you have the horizon willingness to be different, keep your costs down that you can usually quote unquote, beat the market in expect. If you have like a 20 year horizon. And so
Aaron Watson: basically the founding thesis for alpha architecture company, that that can be operationalized and systematized. So as to not need an active person on the button or the trigger, so to speak, and instead algorithms, computer programs you know, basically writing rules of the road and then letting that just operate on its own is scalable attainable for lots of.
Wesley Gray: Yes. So, so what we do is we try to solve two things and I'll walk you through each of them. The first one is, is if you're gonna be an active manager, I, you're not just gonna buy a Vanguard fund. You need to somehow develop a process that, that intuitively and economically can beat the market over, over a long time horizon.
Right? So obviously we spent a lot of time doing the research, trying to think about how to achieve this. And there's two methods you can basically. One method is you, you know, beat your head against the wall, read every 10 K report, go talk to the managers, go talk to supply channel, do like epic due diligence on a firm and try to pick the right stocks.
The other thing you can do which we're I used to do that by the way. Now, now I'm what they call a systematic investor is you can just use data to identify. The securities or the stocks that on average will produce these favorable results. And it turns out, even though it may not be that intuitive, that when you compare the performance of just doing a system, for example, that buys cheap stocks or quote unquote value, invest.
Those systems, which just generically go by, Hey, things that are really cheap on say like a priced earnings ratio. They tend to do just as well as the human beings that maybe spend 20 hours a day reading 10K reports trying to pick value stocks. Right. And so kind of my PhD thesis was essentially proving that to.
Where I literally read a bunch of stock picks you know, that individuals were doing and I put them together and I said, well, you can actually just systematically do the same thing, ended up in the same place. So that's step one for us is how do we build algorithms and systems that can general generate a process that will presumably help win over time, but that's not what you have to do to win.
Cuz now I need to be able to deliver this cheap and affordably. To the marketplace, right? Cause if I charge a lot for a process, that's good. It's not gonna be a win to the client. So we need to also make it affordable. So, so our business came about where, Hey, we believe we, we have the R and D capability.
We have all the PhDs like everyone else, we can come up with the processes that will win over the long haul, but our objectives, how do we do that? Low cost. Well, we're gonna have to get rid of this notion that we're gonna drive Ferrari, go live on park avenue [00:11:00] and like do all this kind of crazy stuff. We we've got to actually live.
And, and act like, like we did in the Marines, like in the Marines, they got something called do more with less, right? Like if, if we're gonna be able to deliver this cheaper to the client, you know, we've got to rip the cost out of the ecosystem. So, so we can manage these products, deliver them to the marketplace in an affordable way.
And that means we just got to clean out anything that's in the way of, you know, adding costs. But no, Essentially got it.
And
Aaron Watson: so in terms of scaling something like this, you know, we've had plenty of software entrepreneurs on the show before, and you know, the, a AWS, Microsoft Azure, Google cloud type of solutions are one of the things that enables scaling in a way that previous eras, like they literally had to rack their own servers just to be able to put something.
At scale in a, in a relatively expedient amount of time, what is, what is the confluence of technological and other just macro developments that makes, bring something like the, like this to the market possible now, like, cause a question why not 20 years ago? Why not? 10 years ago?
Wesley Gray: Great. Great question.
And, and I'll tell you that story cuz cuz we kinda got lucky, right? So historically the way asset management work is, well it still works like this to some extent, massive scale business, right? Cuz it's all about distribution and, and being able to pay all the lawyers and everyone to build up the compliance with head.
Right? Huge barriers entry. Because how in the heck are you gonna launch a firm? Where you need a hundred sales people out there in the field to get anyone, to buy it, to get you to the scale, to be able to pay all the lawyers, to help you run this stupid thing. Right. And so that has always been a problem, but that said, and this is kind of something that's came about now or last 10, 15 years.
And we just happened to start exactly this time is we started immediately with our firm with a. Empower investors for education. And one of our core beliefs is transparency. [00:13:00] So we immediately went digital marketing, right? Inbound content. We wrote content. We did research cuz I'm not, I'm not into like selling and like jamming stuff in front of grandma's face.
But I really like research. I love talking about the data. I love talking about the processes. So it was just natural for us to just say, Hey, I'm not gonna do cells. I'm gonna do education. And that happened to be perfectly time when blogs, they weren't cool yet, but they were kind of getting cool. And so I start a blog, like I don't even know, like 12, 50 years ago and started writing about this stuff.
And then all of a sudden people realized like, wait, internet connections are getting better. No one believes he sells people anymore. Cuz now you can Google anything. There's a lot more transparency and ability to do your own due diligence. You know, why am I listening to this idiot sales guy when I can actually just go Google and find blogs with people that got PhDs that are gonna explain to me how this works.
Right. So I think the technology has, has allowed. A lot of [00:14:00] voices to be out there and in a democratic way, they kind of move to the top, but it's, you know, it's low cost for me to put out a blog and if one person wants to read it or 1 billion people wanna read it, it only costs me the time to put out the blog.
And, and I think just the way that the world's moved towards getting the information from Google, from getting information from blogs, internet, and direct to consumer that that's what allowed us to scale our business without having to hire. any sales people like, like we've only starting, even though we've been doing this for 12 years now, we, I think we have like officially we have like two sales people and, and they're kind of recent onboards the last few years.
It's always been organic inbound direct marketing and that, you know, that's how we got where we are. What about actually
Aaron Watson: gathering the assets though? Like it's not the same as a server, but do like, I'm just so ignorant in this. Like, are there things that break when you actually just get more assets under management and maybe you hear about that with like a hedge funds.
It's like, you know, we could make our trades when we had. You know, 50 or a hundred million AUM. Yeah. But when we're a 2 billion AUM firm, like we just can't even make the same trades because it doesn't yeah. You know, the opportunity isn't
Wesley Gray: there. Yeah. So, that that's an easy problem to solve. And, and what I always tell people, cuz we, I deal with entrepreneurs all the time, entering our space, AUM.
Literally solves all problems. Like those are all problems of too much. An AUM stands for assets to under management. So if you have a problem of having too much asset problems, like what you just talked about, well, that's a great problem to have, cause that means you probably own 10 private islands. And you have millions of dollars and millions of resources and you could solve that, right?
Yeah. That's not the issue with being an asset ma manager, like a caveman could figure that out or a cave woman, cave person, I should say. But the hard problem with the asset manager is the barriers to entry to get started in the first place. Right? Cause there's one thing is when you're actually small and you don't have a lot of assets, you actually have a huge advantage in the sense that.
You don't have to deal with [00:16:00] any scalability problems you can buy and sell anything without any impact. So you have that advantage. You're super nimble and you can do weird things and no one looks at you. Oddly, the problem is you have massive fixed cost and you need to get like at an, in the case of an ETF, you need to have $50 million day one, or you're lighting money on the fire.
You, you know, or lighting money on fire. So how the heck do you get to 50 mil? If you're starting from zero. So you have all this ni nimble capability, but because of the huge fixed cost, you need a half 50 mil to make it profitable and stay alive by how you're gonna get 50 mil. If you don't have any money to pay for sales people to get it rolling.
So, so asset manager business is just incredibly challenging because of this chicken or the egg issue. And it's the same problem with like, SASCO, Newser like if I'm gonna start like a ne a new Facebook, or if I don't like Twitter, I'm like, well, I'm just gonna go start a new. Well, the problem is they got network effects.
They already got the scale. They're already there. They already paid to fix costs. No [00:17:00] problem. So even if you invent something that's better, more cheaper, more nimble, the problem is you've got to survive to get to scale, to make it profitable and worth your time. And, and that's like any good business that that's a good business.
It's gonna take you a decade. Realistically to build it. And, and that's why it, I'm sure you've heard this saying, but in our business, particularly like in asset management, financial services, it's, you know, overnight success takes 10 years a and that's actually pretty good number. Like, like that's why I moved to Puerto Rico a few years ago.
Because it took me 10 years to finally get to this point where I was like, I actually need to worry about taxes cuz I'm actually making money as opposed to being broke off my ass for the past decade. So it's just the nature of our, our business is challenging.
Aaron Watson: So man, there's so many different directions I could go there.
I'm trying to pick the, the route that makes the most sense for everyone. So the, the years of struggling the years of, you know, not needing to worry about tax optimization, cuz you're worried about growing the revenue and just getting the business to a sustainable place. Yes. Was it, was it bootstrap, like how did you [00:18:00] actually think about growing this thing?
Outside of writing blogs and doing this content marketing, like what was, what was the strategy.
Wesley Gray: Yep. So, so we were a hundred percent bootstrap. We've always been basically bootstrapped there there's one wrinkle on that. I'll walk you through. But essentially this is just something I always wanted to do right in the first place.
Like I just, even as a little kid you know, I grew up on this on a ranch and everything. I, and I, I learned to hate manual labor at a young age and, and a long story short, I learned like, wait a second. There's this thing called investing where you just take money and you make more money. That's a lot better than like digging ditches out in the field.
Right. So for whatever reason, I was like, that's what I want to do. That makes a lot more sense than like breaking my back all day long. So I, I just, I was like, you know what? I got to get into this business. Long term, it's what I wanna do. And then what my particular case is kind of cheating, right?
Because what I did is I became a professor and I don't know if your audience knows about like being a tenure track professor, especially at a business school in finance, but it [00:19:00] it's a, it's what I would call a cheese ball gig. Right. You're making like a big salary. And I had a special deal where I only had to teach three classes a year.
Right. So, and it was a quarter system. So there's 52 weeks in a year. A quarter's 10 weeks. So I literally worked where I had to like focus on like actually doing something for 10 weeks a year, but I had 42 weeks a year to do quote unquote research. Right. And I'm getting a huge salary. So, so in my case, it was pretty easy to be an entrepreneur because what was I doing during the 42 weeks a year?
I'm thinking about investment strategies and things that I want to do. And like, cuz it'll be useful for academic research, but Hey, I might actually make some money and turn this into an investment product someday. So I had this like very lucky situation of, of not having like burn to midnight oil in one job and do the other one.
So it
Aaron Watson: sounds, so it sounds. So it sounds like another arbitrage. I know we're gonna talk about Puerto Rico later, but another arbitrage for anyone looking to break into investing is to just get a PhD and become a professor.
Wesley Gray: yeah. Yeah, exactly. It's not easy, but, but if you, I always tell people the best gig ever to be an entrepreneur.
Is to somehow become a professor be because it's not a real job. And I feel bad for, for what I call real entrepreneurs where, you know, you're literally like working your ass off 88, 9 hours a week at your day job. And then somehow you've got to figure out how to do. You're entrepreneur endeavors after that, and you got a wife and you got kids like, to me, that seems crazy.
And you're just setting yourself up for failure. So you, you really need to get a situation like that, where you have something floating you, but you also have your time and or what you're doing, kind of matches what you wanna do as an entrepreneur. Anyway, cuz that's the only realistic way you're gonna be able to, to make it happen.
And then the other. That I always tell people is so one, if you can become a professor, get your PhD you know, that's not, not easy, but you know, if you can do that, it is a great way to set yourself up to be an entrepreneur. The second thing is just put [00:21:00] out really great ideas and great content. And, and, and put yourself out there.
And so that's what we did. And, and one way we got set up in business and, and I don't know if you ever heard this story, it's kind of crazy, but I literally had a billionaire cold call me cuz he ran my blog and he ran my dissertation as well. But like this was way back when we started our business. Right. When I was becoming a professor, I got a cold call from a billionaire.
This guy named Eddie stern, who runs like the stern fan office. And he is like, Hey, you know, I got like three to $4 billion. This was around 2010 and he said, I want to get rid of all these hedge fund managers. You know, we just got smoked out in 2008. I'm tired of all this crap. We're gonna take over our money.
We're gonna keep our costs down. Controller taxes. I haven't reading your blog. I like you. I trust you. Can we talk. And I was like, well, like I just VE first verified. I Googled like, is this a scam? I, I feel like I'm about to get scammed here. And I Googled and I'm like, oh crap, this is actually like a billionaires calling me.
So anything, one, one thing led to another and then they basically kind of put us in business. Initially, cuz they, we got like essentially a 50 million seed into our, into our anchor strategy. . And so that was kind of about us
Aaron Watson: going, just to clarify though. So, so people were stick with us. This is invested capital.
So that AUM idea, not like equity that they took in the business, sometimes not equity sometimes. You know, your starting investor may take also some of the shares associated with being like, like actually the, the. The business equity itself, but this is invested capital that you can start to take your, you know, relatively small fee on and then go to the next potential investor and say, Hey, look, we already have 50 million and this reputable investor.
So Hey, you should probably consider
Wesley Gray: joining us as well. Yeah. Yeah. So I should clarify. It's not operating capital. It is investment capital, which is obviously way different because you know, if you have 50 million and you charge, let's say half of a percent, you know, that, that means you're getting 250 K revenue.
It would be really nice if someone just put 50 [00:23:00] million in my bank account, and then I could go spin that on like operating. But, but this is really, it sounds like a lot of money, but to your point, that's the assets, but you need that because even, even if you get paid zero on. It, you know, an asset, management's something where, when you talk to people, they're like, well, how much assets do you have under management?
And if you tell them that you have, well, I have a hundred thousand dollars from my mom. They're gonna be like, okay, maybe I'll give you $5,000. Right. Cause they don't wanna be like a big part of your business. But if you say, oh, I got 50 million in my business, in my assets, then they'll say, oh, I'll give you five.
Right. So scale begets scale. It's like a lot of these things, you, you need scale to get the scale and it's no different in asset management, but, but the, the main point to, to go back to your original question is one, get a gig that facilitates a lot of time on your hands, and then two put yourself out there as authentically and loudly as you possibly can.
And if you're saying something different unique, I truly do believe in this day and age, you know, you'll, you'll have people that reach out to you. To, to inquire about, you know, what you're doing, what's your value add and all that good
Aaron Watson: stuff. And so, yeah, that's a perfect thing to build off of, which is people are gonna have these different takes and you, you reference momentum.
That's also called trend following sometimes. And Value investing. Like there's still different takes within that, you know, very large universe of investing frameworks. And so if I have a particular type of momentum investing or any type of investing that I wanna do, what your platform actually allows folks to do is make their own.
Custom ETF and be that the rules or the, the, the industry or the segment that you wanna focus on, you basically provide the underlying infrastructure for them to kind of express that investment thesis and, and bring it to the market in not the high fee active management way, but in a lower fee way.
Do you wanna expand on
Wesley Gray: that a little bit? Yes. Yeah, yeah, yeah. So, so, and, and I'll explain it. So, so we, we. Two kind of core businesses, right? And this goes back to the whole mantra of low cost and just running things lean. Cuz [00:25:00] we effectively had like an AWS situation, which I'll explain. So we have our asset management business, which is our branded products.
So where we do the research, it's our particular ideas. That we run, we put it out to the market. I personally invest in them, et cetera, but over time, because we had to survive in this crazy, you know, huge barrier to entry entry business called asset management. We ended up building the ecosystem to support an asset manager institution on the cheap.
Right. And every single point, along the way, we are not Goldman Sachs, where are some people in a garage trying to save money. And it turns out that, you know, we run our own assets, but that capability to be able to bring other people to market. Cheaply affordably and efficiently is, is, is what we call ETF architect.
And that's what, we're where we do at your talk about where, where let's say you're an entrepreneur and you want to bring your idea to the marketplace, but you don't [00:26:00] wanna light millions of dollars on fire to try to figure out how to do that. Our platform it's kind like equivalent tech. It's like AWS, right?
Like. Do you really wanna run your own server racks and do all this stuff? Probably not. It's a lot easier to just go hire Jeff Bezos in Amazon, cuz they already did it for their own business. Right. We kind of did the same thing. We, we, we didn't even know it. Because we weren't thinking about being in that business, but we essentially created like AWS for ETFs.
Where, where if you don't wanna deal with all the back office, minutia and things that most people don't wanna waste time on, you know, we have a business where, where we do all the infrastructure behind the scenes to allow, you know, basic people to be. Sorry, like go be out rich and famous and sell their idea to the public, essentially.
Yeah.
Aaron Watson: And you're meanwhile, you're doing the shovels and pickaxes behind the gold rush.
Wesley Gray: Yes. Yeah, exactly. That, that's why I tell people I'll sell a great shovel. That's low cost and high quality to anybody who, who wants to enter our business. Cuz the objective on, on that business particular is I want to make it easier for other entrepreneurs cuz I had to do it the hard.
And then we kind of figured out how to do it, but I don't wanna, I don't wish that upon my worst enemy. So how do we lower the barrier to entry where other entrepreneurs can enter our business and make it more competitive? That that's what the objective of that platform is.
Aaron Watson: Got it. So this has been fantastic west any I, I wanna.
Discuss the ETF market and stuff a little bit more, but you are calling in first guess we've ever had from Puerto Rico. And in, in our, our note before actually doing the interview, you said it's the biggest arbitrage I know of on planet earth. So I don't know. Yes. I don't know. That's about as, as good a hook as I can put into any kind of premise set.
Yeah, yeah, yeah.
Wesley Gray: take it away from there. sure. So so like going back to fees, right? Like, like you always wanna get as much as you possibly can and pay as little, as much as possible for it. Right. And so in our investment business, people are gonna haggle well, you're charging me 1%. This person's charging me like.
One 10th of a percent or whatever it is. Right. But people always forget that the biggest cost on your human capital or your actual capital is not the fees. It's the taxes. Right? Cause like, think about your own human capital. If you're, if you're making a lot of money, your marginal cost to the government is in many cases gonna be half of.
Goes to uncle Sam. So why are we arguing about like 10 basis points or 1% we're talking about 50 percentage points every year goes to this, this thing called the us government. Right. And in SIM similar, like on your capital, like in the form of capital gains and what have you, maybe it's not 50. But it's, you know, a good 25, 30%.
And so the Puerto Rico situation, and this is something I started thinking about pretty hard, cuz you know, like I mentioned, like I, I was the 10, 10 year overnight success where, where I'm basically eating ramen noodles and like taking massive, huge risk with my life. Like pissed it off my [00:29:00] wife and family and everything.
And then we finally make it where I'm like, holy cow. Like, this is actually what these entrepreneurs, you get, you get rich, we'll call it like, but wait a second. Now I got to give half of this back to the government. Like I finally made it. If that's the deal, that's a bad deal. I got to solve for this. Right.
And so Puerto Rico has this thing called act 60. We're we're essentially the, the country we'll call it even though it's not a country, it's party, United States, it's a colony, but you can just treat it like a country cuz they get to kind of run their own rules. They basically have a situation where, where a lot of people have been leaving the island for a long time cuz like hurricanes and some other stuff.
And so they're trying to incentivize people. To bring their human capital and bringing their talents down here and to make a long story short, it's called act 60 used to be called act 2022, but effectively. And it's more complicated than this, but you pay 0% on your capital gains and you basically pay 4%.
Income tax, right? There are, there are frictional costs. It's not that simple, but, but at a high level, it's [00:30:00] pretty close to that, right? So the reason I call it, the biggest arbitrage in the world is you might move from a, a marginal 50% tax income tax rate down to four. Which is, you know, life changing difference.
If you compound that over time, it it's, you know, it, it, I value my time. And so if you have some set like financial goal, you know, by ripping that much out, you're gonna cut your time needed to work by like a third. Or like more like 70%, sorry. Because you're just gonna get wealthier much quicker if you should have, and
Aaron Watson: it compounds, right?
Like that's investing 1 0 1. Yes. It's not just 50% one. And you get
Wesley Gray: a compound compounding effect. Yeah. So, so you save it and then you compound it at zero. So, so you're, if you just do any sort of spreadsheet modeling, let's say you have objective to hit X million in, in 20 years. We'll plug in the taxes.
It'll take you 20 years. Come down to Puerto Rico. It might take you five. Right? And so, and if you don't want to be a work and stiff your whole. And you could hit a certain financial objective, you know, in five years versus 20, I just literally bought 15 years of my life where I could do whatever the hell I want to me.
That's hugely valuable. Cause I value my time. Cause it's the only scarce resource that we all have. But of course then you got to ask. Okay, well, well that sounds amazing. And that would be an arbitrage if there's no cost, but you know, do I got to go live in Afghanistan or something or go, go live in Iraq, which I've actually been there.
You know, that sucks. And a lot of people think like, oh, well I got to go to Puerto Rico. Like, like aren't I gonna get like mugged and murdered every day and it must be terrible. And, and honestly, I think it's amazing. Like I have a place called PMA Delmar, like it's tropical weather. So it's like perfect weather every day.
Do we have hurricanes? Of course. Is it, is it, you know, issues? Of course, there's a huge community down here where I live in particular where it's everyone down here is like an entrepreneur. They got wife, kids. There's a. Sorry, community like security wise. I don't even worry about it. Like it's like anywhere, like, well, yeah, if you go out to the [00:32:00] city at two o'clock in your rolls Royce and you're throwing a hundred dollars bills around in the wrong neighborhood, you might get bugged, but that's not unique to Puerto Rico.
That's just. The world, like that's common sense, but I actually find like Puerto Ricans to be incredibly considerate friendly and open, especially if you're willing to like put in time, like learn some Spanish, learn the culture. So I just see it as almost like, like there's not any cost, like you're gonna pay basically us.
Government's gonna pay me to go live in a tropical island, hang out with really cool people every day. Like it, that's why I say it's the biggest arbitrage of all. Because you get all these benefits. And at least from my perspective, there's very little cost. If anything, it's negative cost. So I like it.
Aaron Watson: So, and, and one of the other benefits is that it's also like east coast time zone, like you and I are literally like, we've setting this up, we're on the exact same time zone.
It's not as if I'm going to the other side of the globe and like asleep when other people are awake and trying to coordinate that or stay up all night. Yeah, but I wanna just, I wanna ask about the costs just, just to [00:33:00] make sure. That, like you said, like, and I'm not accusing you of doing this, but like the financial advisor would be like, it's, there's no cost.
There's no downside whatsoever. That's always like the alarm flag going off, so, oh yeah, yeah, yeah, sure. There, there is some infrastructure stuff and there is some hurricane stuff. Is that the, would that, would you call that like the two big costs associated with it? I would say.
Wesley Gray: Yeah. So, so there's upfront frictional costs to set it up, right?
Cause you got to hire some lawyers, accountants, and that can range the pen complexity situation from like 10 grand to a hundred grand or more But, but that's not really, if you're bringing any sort of scale down here where like, obviously you're, you're at a marginal rate of 50, this is Trump change, right?
That the real cost honestly is the, is the emotional and like family cost and like the frictional cost of you've literally got to have no kidding live down here and be a bonafide resident. So, and that's costing a sense from an emotional standpoint. I, if you're in a place, you have a lot of anchors. You have a lot of roots.
You, you literally, you literally, you cannot really not live in Puerto Rico and just hang [00:34:00] out down here. Like you got to literally live here. So I would say that's frankly, the biggest cost, the real cost that people got to think about. And
Aaron Watson: is that like one of those things where it's like 180 days out of the year, something like that, they're like,
Wesley Gray: you're verifying that.
So, so what it is is, is. My strong recommendation. So on the capital gains, it depends on sourcing, right? So capital gains are sourced where you reside. So wherever your bonafide residence is, that's where all your capital gains get attributed. So that requirement means you need to be a bonafide resident and put a hundred a three days.
In Puerto Rico. This is also the same role that applies to like a Florida, a California, Texas. What have you, same deal for capital gains in order to get the capital gains sourced to like a certain state, you have to put in the time income is sourced where you do the work. So for example, let's just say, you're like, oh, I'm gonna be smart.
I'm gonna move from California to Florida, but I'm, I'm, I'm gonna go live in Florida for six months, a year in a day and not in California. But I do live in California. I do work from California. So capital gains are good. A hundred percent of your capital gains is gonna be subject to Florida, state taxes, none to California.
However, your income, the 183 days that you're standing in Florida is gonna be subject to the zero state tax. But the other days that you're sitting in California doing work, those are gonna be subject to California, state tax, still same kind of concept in Puerto Rico. Right? If you do six months down here, You will get the 4% tax rate on your income.
If it, if it runs through like a, like a company and it's structure correctly, however, for the other days that you're in the states, like if you go live in New York and you work the other six months up there, those six months, you're just subject to good old fashioned. taxes you were paying beforehand. Be, be again, because the sourcing on different types of income are different just based on the tax rules.
So I always tell people, if you want to get the real deal, you really need to be down here like 80, [00:36:00] 90% of your days. And, and just live here as like a full-time resident. Got it. That's what I
Aaron Watson: do. Got it. Well, this has been incredibly educational west before we aim towards wrapping up and last asking our standard last questions.
Was there anything else you were hoping to share today that I didn't give you a chance to?
Wesley Gray: No. I, I would say I, if we're talking entrepreneurs out there, my, my biggest advice on that, cuz cuz a lot of people ask. Is is you just got to keep your internal operating costs down and you just gotta be willing to grind realistically for like five to 10 years on nothing.
And, and if you don't have that capability, it's why would you do it? Like, what's the point, it's just, it's too risky and too crazy. So any entrepreneur out there who, who wants to do this? It it's like anything in life. It's not a free lunch. And that includes being entrepreneur and it's not for every.
Aaron Watson: Totally. And, and I've talked with so many different entrepreneurs about this, and it sounds like you're kind of over that threshold where things are starting to really compound an exciting way because you're past the 10 years. Yeah. [00:37:00] But it, it's not just that, you know, the revenue of the business compounds or that the number of clients compounds it's that your skill and your capabilities.
As an entrepreneur compound as well. And I'm, you know, my business is approaching five years, so I'm halfway to that overnight success story, but I'm like realizing things now that it's, it's painful. I'm like, man, if I could have just figured this out, like two years ago, holy hell, there'd be a completely different place.
And I know that there's 18 more of those waiting for me here over the next couple years that I just have to try to accelerate my, my rate to getting to. But that's, that is exactly, you know, what I've experienced and is affirming to hear from you is that, that compounding isn't just for investors, it's for entrepreneurs
Wesley Gray: as well.
Yes. And, and the 90% stat or whatever it is about like 90% of businesses fail it, it's kind of like a PhD, right? They always say like, if you get a PhD, it it's 1% brains, 99% perspiration. And, and it's very easy to identify. Who's gonna finish PhD. Not based [00:38:00] on their IQ, but just their ability to grind and same thing with entrepreneurship.
Like, I don't need to know your brains. I don't need to know anything if I have a sense for like your, your culture of discipline and ability to grind. I, you know, it's not the 90% odds that you're gonna have. You're probably odds are probably more like inverse. There's probably 90% chance you will. If, if you could do it.
So I'd say if you're someone who's got that discipline, you've got that passion, and this is something you want to do. You know, even though we're talking about how hard it is, I wouldn't dissuade you cuz I think your probability of success is actually more like 90%. You're gonna win. It's the 90% stat is, is the, is the, you know, the, the, the total population of everyone who tries.
And as you know, just based on how many fat people there are in America, like it's really easy to lose weight and get skinny, like eat less or work out more. But the problem is how many people can actually do that. Right? So if they entrepreneur it's really easy, like we just said, you got to be willing to work for 10 years and hate, you know, work really hard and not.[00:39:00]
Get a lot of benefits and that's just a hard thing to do so that that's where those stats come from. But you should stick with it if you, if you really think you got the discipline. Yeah. And I
Aaron Watson: just love the way that, you know, you approach thinking about investing and how you, you are evidence based, but you're also, you know, part of that from a statistical perspective is what are the base rates?
And so I saw the same statistics when I got started and my whole thing was okay. If 90% of people fail, what percent fail. Don't work just 40 hours that work 50, 60, 70 hours. And then what percent fail if they read more than 10 books a year and what percent fail if they, you know, commit to a content publishing schedule and never break it, like, and then you start to shift the base rates in your favor, if you can play those different games, but inspiring stuff happy for you and all the success and compounding that you've already experienced.
And the fact that you're getting 15 years back is certainly something that plenty of people are gonna be jealous of. If they wanna learn more about you. About alpha architect, where in the digital world, can we point people
Wesley Gray: that wanna learn more best place is Twitter at alpha architect and then on LinkedIn, I'm pretty active as well.
Also like slash alpha architect. So, but Twitter's the main place where, where I reside.
Aaron Watson: Perfect. We're gonna link that and all the other relevant links in the show notes to this episode. So you can connect with Wes going deep there.com/podcast is the place for every episode of the show to find that, or in the app, we're probably listening to this right now, but Wes, before we let you go, I would like to give you the mic one final time to issue an actionable personal challenge to the audience.
Wesley Gray: All right. So I run this event called March for the fallen. We're eight years running now, and it is a 28 mile R March, but I always tell people, Hey, everyone's got a personal summit where it's not a charity, cuz the charity is actually showing up. To this event and conducting the event in remembrance of people that obviously fell in the service, cuz there's a lot of what they call gold star families out there.
And so in order to do this, it's very easy. Go to a architect.com/mf TF and sign up [00:41:00] register. We actually cover logistics and chow. You just got to pay the 40 bucks to the base. It's out in the middle of Pennsylvania, bunch of finance geeks out there that I bring lot of movers and shakers in our business.
And that's something you could literally do right now. Sign up and in two months, I'll see you in the flesh should be
Aaron Watson: fun. Awesome. Where is that in Pennsylvania? Cuz that's not, not too far from me.
Wesley Gray: Yeah. Yeah. It's in for Indian town gap, just, just near Harrisburg. It's around like 40 minutes. It's at the national guard training.
Awesome.
Aaron Watson: Well, we are going to share that link, encourage people to do it. We've got Pittsburgh listeners, so hopefully, maybe we can get a, a caravan of folks coming out your way there for that.
Wesley Gray: That'd be awesome. Yeah, that'd be awesome. We'd appreciate it. And so, so obviously with gold star families, beautiful, good
Aaron Watson: stuff.
Well, west, this has been fantastic. I've learned a lot. I'm feeling inspired. I'm gonna go, I don't know, maybe, maybe not March that many miles, but I'm gonna go go for a walk or a run or something after this. Cause I'm fired up. Thank you so much for taking the time to be on the.
Wesley Gray: Yeah, appreciate you having
Aaron Watson: it's been an honor.

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