Friday, November 14, 2008

Confirmation Hearings

Congressional Committee hearings, like the one Rep. Henry Waxman held yesterday to survey five hedge fund managers on the current and future state of the financial industry, can be fascinating theater. With few exceptions, however, yesterday's proceedings turned out to be a disappointingly anodyne love fest, with grizzled populists and battle-scarred demagogues alike practically jumping over the dais to flatter and genuflect before the most concentrated source of potential campaign contributions ever assembled on Capitol Hill.1

Such hearings can also offer interesting insights into the character and capabilities of those under the klieg lights. Not only do we get to see how the persons in question react under pressure, but we also get to read how they would like to present themselves, in the form of their prepared testimony. As is common with all such exercises in autoeroticism, one can often learn far more about a person from these voluntary revelations than that person ever expected or intended to reveal.

Among the advance remarks presented to the Waxman Committee, your Dedicated Correspondent was particularly struck by those submitted by Mr. John Paulson, renowned far and wide as a modern-day St. George, slayer of the fearsome Dragon of Subprime Mortgage Securities. Since I am sensitive to criticism that I am often unkind to persons whose pecuniary plenitude varies in inverse relation to their physical stature or the intrinsic interest of their personality, I thought it might be a useful exercise to share with you, my Faithful Readers, some of Mr. Paulson's own words (and, I must admit, a few more of my own).

* * *

With that in mind, let us see what kind of insights about Mr. Paulson can we glean from his prepared testimony.

First, we discover that he is not merely an obscenely rich financier in a tasteful suit. He is also a gentleman and a scholar:

Prior to founding the firm, I was a Managing Director in Mergers & Acquisitions at Bear Stearns. I am a summa cum laude graduate from New York University and graduated with high distinction, as a Baker Scholar, from Harvard Business School in 1980.

Modest, too.

Notwithstanding his documented brilliance, however, I get the sense he's a bit muddled as to the true reasons for his success:

We believe that our ability to protect our investors’ capital and generate positive absolute returns with low volatility over the long term is the reason we have grown to be one of the largest hedge funds in the world.

Actually, Paulson & Co. started in 1994 as an event-driven investment fund betting on M&A transactions and other corporate "events." This is a reasonably uncomplicated, well-understood strategy with a long pedigree and relatively low volatility, assuming you can handicap merger deals with any degree of success. Mr. Paulson enjoyed consistent but distinctly modest returns with this strategy for most of the early life of his fund. As late as July 2003, for example, his fund employed only nine people and controlled assets under management totaling a mere $700 million.

This is nothing to sniff at, mind you, but long-term, low volatility returns is not the primary reason current investors have entrusted 37 bajillion smackeroos to his care. No, I tend to think it has much more to do with the fact that Paulson made approximately 32% more money than God last year by betting on the complete collapse of the securitized subprime housing market.

Perhaps all those fresh billions bulging out of his safe deposit box have addled Mr. Paulson's memory. Or perhaps he thinks, secretly, that the Congressmen and women in the room—and the millions reading and watching at home—wouldn't respect him if they discovered he was just some washed-up, ex-Bear Stearns ambulance chaser who had a brain wave one morning in 2006 and won the investment lottery. They wouldn't respect his impressive college and business school degrees, or defer to his authoritative proposals on how to fix the current financial crisis, if they thought he was just some lucky schmuck from Queens.

Don't sell yourself short, John: You were right, and your timing was almost spot-on (if a little early). Rejoice in it, man! America loves a plucky, lucky bastard, and you were about the luckiest bastard in that committee room yesterday. Just ask Ken Griffin.

* * *

Most importantly, I think, we learn that Mr. Paulson is clever enough to wrap himself in the American flag when he is testifying before a Congressional Committee that is looking for someone to blame for the ongoing clusterfuck that is our economy and financial system. This shows some nicety of judgment, given that he and co-grillee Philip Falcone are two of the most prominent members of that tiny fraternity of investors who have profited personally and directly from the nuclear meltdown of the American Dream.

Either that, or he is a true patriot:

As Americans, we are proud of the leadership position the United States occupies in this industry, the jobs our industry has created, the export earnings we have produced for our country and the taxes we generate for the Treasury. For example, over the last five years, our firm has increased our employee count by 10x, creating numerous high-paying jobs for Americans.

Wow, John. You're a fuckin' force of nature, you are. That would be increasing your employee count to what, approximately 70 warriors for truth, justice, and the American Way? I guess we can all stop worrying about General Motors going bankrupt with that kind of job creation going on.

(As an aside, I always find it amusing to hear poobahs from hedge funds or private equity nattering on about their oh-so important "industries." They always seem to omit the critical modifier "cottage" in front of the word "industry." Christ, Citigroup fires more people in a week than work in hedge funds and private equity combined.)

* * *

But patriot or not, dissembling scoundrel or not, I think we can all agree that Mr. Paulson does not have a promising career awaiting him in international economics should he ever decide to hang up his investing spurs:

In addition, eighty percent of our assets under management come from foreign investors. The revenues we receive from foreign investors allow us to contribute to the U.S. economy like an exporter of goods, bringing in money from abroad.

What, exactly, does Mr. Paulson think his firm "exports" to all these eager foreign consumers in exchange for their foreign "revenues?" Why, last time I checked, that would be money. Hmm.

And where does this money come from? Why, from all those investors and institutions who were on the opposite, losing sides of Mr. Paulson's short trades in mortgage securities.2 Of which, I presume, the vast majority were American investors and institutions.

So, let's say for each dollar of investment Mr. Paulson took in, he earned around ten dollars in trading profit last year. After taking his cut of $2, he shipped $8 back to his limited partners, $6.40 of which went to foreign investors. Eighty cents of cash into the US; $6.40 out. That doesn't sound like a very favorable input to the current account deficit to me. In fact, it sounds much more like a massive offshore wealth transfer from American investors, institutions, and pension funds into the pockets of foreign investors. It's a good thing for Mr. Paulson that the Congressmen and women he testified before yesterday didn't have a fucking clue the sense to press him on this issue.

Of course, looking at the situation more broadly, re-exporting American wealth may be the fair thing to do anyway, considering how many of those toxic subprime securities we sold to German banks, Norwegian municipalities, and other furriners in the first place. In fact, it may be a small price to pay to maintain international peace and cooperation in today's uncertain, multipolar world. Americans and foreigners alike should be grateful for Mr. Paulson's strenuous efforts on behalf of the United States in this regard.

Some people have gone so far as to propose John Paulson for Treasury Secretary.

I recommend him for Secretary of State instead.

1 It always amazes me how the mere sight of a billionaire can turn Americans from practically every walk of life into cringing, tail-wagging puppies. Warren Buffett is Exhibit A in this respect. Rugged American individualism, my ass.
2 Given that such trading is a zero sum game, naturally.

© 2008 The Epicurean Dealmaker. All rights reserved.