The Man Who Made Too Much(portfolio.com)
portfolio.com
The Man Who Made Too Much
http://www.portfolio.com/executives/features/2009/01/07/John-Paulson-Profits-in-Downturn
8 comments
Left unexamined is the uncomfortable moral dimension of Paulson’s achievement. If he saw all of this coming, was it right for him to keep his own counsel, quietly trading while the financial system melted down?
Give me a break. He should have gone on Faux News to be shouted down and laughed at? Who would have listened to this guy?
This line is so indicative of bad journalism (practically a tautology, that phrase) that even though I want to read the rest of the article and am interested in the topic, I think I'll pass.
Give me a break. He should have gone on Faux News to be shouted down and laughed at? Who would have listened to this guy?
This line is so indicative of bad journalism (practically a tautology, that phrase) that even though I want to read the rest of the article and am interested in the topic, I think I'll pass.
I agree, arguably betting real money that the system was going to meltdown was the absolute best way to tell others he thought the system was fucked.
Its not like anyone would have listened to him if he played the whistle blower roll. The recent Madoff debacle is proof of that.
Its not like anyone would have listened to him if he played the whistle blower roll. The recent Madoff debacle is proof of that.
I don't see this person doing anything wrong. People are envious of someone else doing well.
I don't care that much, but I can see why people might. He didn't create value. Like, when PG creates something, it adds a certain value to society. Even when PG puts money behind a firm like Disqus, he enables value to be added. This guy didn't create any value or enable value creation. He just saw a situation he could take advantage of.
The banks had created value, but not as much as everyone had thought and he took advantage of that. It's part of our system and that's fine and all, but it certainly isn't something I'm going to be all, "that's the way to do it!" He didn't do anything wrong. He played by the rules from what I know.
However, he really took advantage of something in a way that raises moral questions. Remember the valentine's episode of Futurama? Bender is selling roses and when he knows that Fry is over a barrel he hikes the price incredibly saying that demand just skyrocketed. Yeah, it's how our system works and I don't really disagree with your sentiment, but it still leaves me feeling a little gross about him as a person. Capitalism allows you to act without regard for morality so long as it's within the law and that's fair game. Doesn't mean we need to like the people who do act that way.
The banks had created value, but not as much as everyone had thought and he took advantage of that. It's part of our system and that's fine and all, but it certainly isn't something I'm going to be all, "that's the way to do it!" He didn't do anything wrong. He played by the rules from what I know.
However, he really took advantage of something in a way that raises moral questions. Remember the valentine's episode of Futurama? Bender is selling roses and when he knows that Fry is over a barrel he hikes the price incredibly saying that demand just skyrocketed. Yeah, it's how our system works and I don't really disagree with your sentiment, but it still leaves me feeling a little gross about him as a person. Capitalism allows you to act without regard for morality so long as it's within the law and that's fair game. Doesn't mean we need to like the people who do act that way.
I'm not the trader type and I don't like the idea of such extreme income disparity, but to say that Paulson didn't create value is factually incorrect; he created it in the same way as the banks you mentioned did: by exposing and exploiting a market inefficiency and causing it to patch itself up.
The reasons behind his actions can make him a saint or an asshole, but the fact that people like him exist just reveal properties of an imperfect system. And he won't be the last.
The reasons behind his actions can make him a saint or an asshole, but the fact that people like him exist just reveal properties of an imperfect system. And he won't be the last.
Banks can make money by exploiting market inefficiency but banks also create real value. A loan to start a business creates value if the business works.
By the same logic he kept the market in check so that it wouldn't implode catastrophically, therefore allowing banks to exist and continue their business giving loans to start a business.
The market probably wouldn't have imploded one way or another; just that if it was more stable, the risky earnings would either be smaller, or take longer to materialize. (as before, I'm treading in a sea of assumptions)
But once the market does calm down again, there will be a new Paulson. Perhaps the day this is ever fully prevented is the day that humans become permanently immune to all possible diseases.
But once the market does calm down again, there will be a new Paulson. Perhaps the day this is ever fully prevented is the day that humans become permanently immune to all possible diseases.
Surely; but suppose Paulson didn't do what he did. The capital that didn't go into his fund would have gone into other instruments that produce effects elsewhere (ultimately ending up in some conversion to value somewhere in the chain, big or small). The money made from these other instruments will be used for X purpose. The money lost is simply lost.
Paulson simply sped up the reaction. At the cost of the happiness of others, maybe, but it was still a market inefficiency. There could have been 1000 mini-Paulsons, each making 1000x less, but the net effect, as far as the market is concerned, is the same. It's just very indirect and detached from noble intent (but who knows).
Alas, they're all of the same mold.
Paulson simply sped up the reaction. At the cost of the happiness of others, maybe, but it was still a market inefficiency. There could have been 1000 mini-Paulsons, each making 1000x less, but the net effect, as far as the market is concerned, is the same. It's just very indirect and detached from noble intent (but who knows).
Alas, they're all of the same mold.
"At the cost of the happiness of others"
You cannot consider happiness as part of the equation. People were happy enough to sell financial instruments to Paulson at a profit. Now they are sad because they lost money in that transaction... Why all the complain? Everyone should just learn a lesson in investment from this situation.
You cannot consider happiness as part of the equation. People were happy enough to sell financial instruments to Paulson at a profit. Now they are sad because they lost money in that transaction... Why all the complain? Everyone should just learn a lesson in investment from this situation.
If the wealth gain was less sudden, i.e. if it was less conspicuous, people wouldn't complain as much. So the speed is definitely related to the happiness of others, because it's a relative, societal judgment. Furthermore, the one complaining here (the article) was, I believe, a bystander. It's more a reflection on income disparity than quality of life.
But I agree with you.
But I agree with you.
I agree that a lot of financial magic often adds no value what so ever.
But I've always thought that short sellers have at least one function beneficial to society.
They are the ones either whispering or yelling the king is naked.
The sooner and the louder they yell, the more contained the damage is from the nekkidness!
But I've always thought that short sellers have at least one function beneficial to society.
They are the ones either whispering or yelling the king is naked.
The sooner and the louder they yell, the more contained the damage is from the nekkidness!
>He didn't create value.
???
He created $15 billion of value for his shareholders.
>The banks had created value
The banks have destroyed their shareholders' and depositors' money by investing in junk and failing to prepare for a downturn.
Your 'moral' arguments are upside down.
???
He created $15 billion of value for his shareholders.
>The banks had created value
The banks have destroyed their shareholders' and depositors' money by investing in junk and failing to prepare for a downturn.
Your 'moral' arguments are upside down.
he created $15B of net worth for his investors, not value. It was a wealth transfer, no net creation.
It was a wealth transfer, no net creation.
He allocated resources correctly. That's what putting money in the stock market is fundamentally about. If you allocate resources correctly, you win. Allocate them incorrectly and you lose.
He made $15 billion by pushing down prices of assets that were overvalued (that's what short selling does.) i.e. He made the crisis slightly less terrible by driving down prices of junk securities (only slightly because 15 billion is a drop in the bucket compared to the size of the market as a whole.)
I agree he allocated resources by buying/selling assets, but nowhere in the purchase/sale of those assets is value created. Prices move, but value isn't created, the underlying assets don't generate anymore than they would have had he not purchased or sold them. GOOG trading at 700 vs 200 doesn't create value, GOOG will still earn the same amount in the future whether it trades at 200 or 700. Please take some time to think about this.
Suppose there's an economy where everyone is spending 80% of their energy building refrigerators. All day that's what people are doing. Nobody actually needs these refrigerators, so they just keep building them and stacking them up in the corner.
Then one day an intrepid young entrepreneur decides "hey, this whole refrigerator building thing is kind of silly. It's kind of a waste of resources. I think I'll start betting against refrigerator companies." Then he takes a whole bunch of money (that's not currently tied up in building refrigerators of course) and short sells the stocks of companies that make refrigerators. This causes their stock price to go down a bit (or rather, to go up more slowly) which drives money out of refrigerator building and into other things, like making televisions or something.
A year or two pass and suddenly everyone has an epiphany. All these refrigerators everyone has been building and stacking neatly in the corner aren't actually worth $2000 apiece. In fact, since there's so damn many of them, they're only worth like $3.50! the economy crashes! all the refrigerator companies go out of business! all the investors in refrigerator companies lose their shirts! people are committing suicide left and right because their refrigerator stockpiles are suddenly worth nothing!
But our intrepid entrepreneur is doing quite well. You see, all that money he drove into making televisions was safe because the value of televisions was not inflated. TV's were actually worth $1000 apiece, and there was no oversupply of TVs so their price stayed at $1000.
So what was the value of the entrepreneur's work? well, he kept a whole bunch of energy from being expended on building stockpiles of refrigerators. He didn't himself go out and build televisions or anything. No, his labor was more abstract and more intellectual, but still quite valuable.
Resource allocation is everything.
Then one day an intrepid young entrepreneur decides "hey, this whole refrigerator building thing is kind of silly. It's kind of a waste of resources. I think I'll start betting against refrigerator companies." Then he takes a whole bunch of money (that's not currently tied up in building refrigerators of course) and short sells the stocks of companies that make refrigerators. This causes their stock price to go down a bit (or rather, to go up more slowly) which drives money out of refrigerator building and into other things, like making televisions or something.
A year or two pass and suddenly everyone has an epiphany. All these refrigerators everyone has been building and stacking neatly in the corner aren't actually worth $2000 apiece. In fact, since there's so damn many of them, they're only worth like $3.50! the economy crashes! all the refrigerator companies go out of business! all the investors in refrigerator companies lose their shirts! people are committing suicide left and right because their refrigerator stockpiles are suddenly worth nothing!
But our intrepid entrepreneur is doing quite well. You see, all that money he drove into making televisions was safe because the value of televisions was not inflated. TV's were actually worth $1000 apiece, and there was no oversupply of TVs so their price stayed at $1000.
So what was the value of the entrepreneur's work? well, he kept a whole bunch of energy from being expended on building stockpiles of refrigerators. He didn't himself go out and build televisions or anything. No, his labor was more abstract and more intellectual, but still quite valuable.
Resource allocation is everything.
Replace refrigerators with tractors and that's pretty much what happened in the USSR.
You are deeply mistaken in thinking that share prices have no influence on value creation. Let me explain using your example.
Imagine that GOOG has a few projects in the pipeline. A few bad ones, and a few brilliant ones.
When GOOG share price is at 700, GOOG can issue 100 shares and raise 70000. Plenty of money to throw at good and bad projects.
If GOOG share price was at 200 they would raise less than 1/3 of the money, and be very picky at what projects to fund. Only the best project would get funded.
Think about how much resources are wasted in the society though misallocation of capital due to inflated asset prices. You may look at short sellers in a completely new light.
Imagine that GOOG has a few projects in the pipeline. A few bad ones, and a few brilliant ones.
When GOOG share price is at 700, GOOG can issue 100 shares and raise 70000. Plenty of money to throw at good and bad projects.
If GOOG share price was at 200 they would raise less than 1/3 of the money, and be very picky at what projects to fund. Only the best project would get funded.
Think about how much resources are wasted in the society though misallocation of capital due to inflated asset prices. You may look at short sellers in a completely new light.
never said capital (or access to capital) doesn't influence value creation. it can negatively or positively affect value creation depending on how that capital is allocated. however the act of capital allocation does not create value. why is that so difficult to understand? im not saying capital allocation isn't important, however its one means to an end (value creation).
If GOOG could tell, with certainty, ahead of time what projects were brilliant and which ones were bad, they'd only fund the brilliant ones in the first place, right?
The notion that GOOG is knowingly chasing bad projects solely because their stock price is high seems absurd. I think it's more likely that they just don't, and can't, know ahead of times what's going to stick.
The notion that GOOG is knowingly chasing bad projects solely because their stock price is high seems absurd. I think it's more likely that they just don't, and can't, know ahead of times what's going to stick.
Here we go again... like it or not he used his time and abilities to minimise loss and generate net worth for his investors, and that is valuable.
It is valuable because I would pay a fee to him in order for him to manage my money. Indeed you do not need to have created something to be of value.
The financial markets are a place to trade value, it can be viewed as a game, with given rules, rules which are accepted by ALL market participants who are exposed to RISK whether they know it or not. He played the game better, whether out of luck or skill he won. Just like sports stars they play by the rules and are valuable without the need to create, because its just that entertaining to see peak human performance.
It is valuable because I would pay a fee to him in order for him to manage my money. Indeed you do not need to have created something to be of value.
The financial markets are a place to trade value, it can be viewed as a game, with given rules, rules which are accepted by ALL market participants who are exposed to RISK whether they know it or not. He played the game better, whether out of luck or skill he won. Just like sports stars they play by the rules and are valuable without the need to create, because its just that entertaining to see peak human performance.
He offered the service of buying financial assets from people who wanted to increase their gains by amplifying risk. Whenever you offer a service you expect a reward.
not disagreeing or saying he didn't 'earn' the money, i think he did. but he did it as an agent of efficiency vs. innovation/creation.
Operations can be innovated too.
E.g. Dell creates no new technology in their products, but they did a whole lot of value-creating innovation in their supply chain.
E.g. Dell creates no new technology in their products, but they did a whole lot of value-creating innovation in their supply chain.
Why are we downvoting this comment? It's not offensive, and it contributes a different viewpoint to the conversation. Is it going down because the opinion the poster presents is unpopular?
I'm not a big fan of capitalism, but if it's OK to borrow money¹ and buy stocks with the hope of profiting on their sale, then it's just as OK to borrow stock and sell it with the hope of profiting when you buy it back again. If there's a problem with short-sellers trash-talking perfectly sound companies, there's at least as much of a problem with investors overhyping unsound companies.
Remember the valentine's episode of Futurama? Bender is selling roses and when he knows that Fry is over a barrel he hikes the price incredibly saying that demand just skyrocketed.
I haven't seen the episode but from your summary it sounds like Bender is doing what economists call "rent-seeking", profiting from his monopoly power (if Bender didn't enjoy any monopoly power then Fry could have just bought roses from someone else). I don't see where Paulson was rent-seeking; he was buying and selling in a market where there were lots of other people going after the same securities.
¹...and of course with our fractional-reserve currency system, in a sense, the vast majority of money is borrowed money.
Remember the valentine's episode of Futurama? Bender is selling roses and when he knows that Fry is over a barrel he hikes the price incredibly saying that demand just skyrocketed.
I haven't seen the episode but from your summary it sounds like Bender is doing what economists call "rent-seeking", profiting from his monopoly power (if Bender didn't enjoy any monopoly power then Fry could have just bought roses from someone else). I don't see where Paulson was rent-seeking; he was buying and selling in a market where there were lots of other people going after the same securities.
¹...and of course with our fractional-reserve currency system, in a sense, the vast majority of money is borrowed money.
"The banks had created value, but not as much as everyone had thought and he took advantage of that."
He didn't 'take advantage' of anything. He did his homework and reached an accurate and objective conclusion about the state of the financial system. He then provided this information to the markets by betting on what his research predicted.
The real people who were taking advantage of the situation were the counterparties on his trades who were recklessly speculating on an unsustainable bubble (with other people's money).
He was so successful doing this because at that point there were so few other dissenting voices to compete against. I don't know how you can say that it provides no value to be right when everybody else is wrong.
He didn't 'take advantage' of anything. He did his homework and reached an accurate and objective conclusion about the state of the financial system. He then provided this information to the markets by betting on what his research predicted.
The real people who were taking advantage of the situation were the counterparties on his trades who were recklessly speculating on an unsustainable bubble (with other people's money).
He was so successful doing this because at that point there were so few other dissenting voices to compete against. I don't know how you can say that it provides no value to be right when everybody else is wrong.
Of course he created value. The value of markets is to reduce the risk of individual transactions (or to amplify it, if you want to increase your risk and improve your gains).
This guy was taking a lot of risk while accumulating positions against the global market. He could lose all his investment if things were different. This allowed others players in the market to "hedge" their risk -- clearly, they didn't think this meltdown would happen.
The value of what he did comes in liquidity to the market as well as the returns his customers received.
"Capitalism allows you to act without regard for morality so long as it's within the law and that's fair game. Doesn't mean we need to like the people who do act that way."
It's easy to be "noble" when you don't have the chance to be "evil". Don't get me wrong, but I find it very, VERY hard to believe that if you were on Paulson's shoes and had the chance to make some $3.7 billion, you would still be so moralistic.
Paulson made money within the law (though "unethical" his trade may have been). Seems to me that people who bash him are just jealous.
Paulson can now invest some money in new businesses and create some value. He took money from the idiot banks and those who invest in them. I won't shed a tear.
It's easy to be "noble" when you don't have the chance to be "evil". Don't get me wrong, but I find it very, VERY hard to believe that if you were on Paulson's shoes and had the chance to make some $3.7 billion, you would still be so moralistic.
Paulson made money within the law (though "unethical" his trade may have been). Seems to me that people who bash him are just jealous.
Paulson can now invest some money in new businesses and create some value. He took money from the idiot banks and those who invest in them. I won't shed a tear.
How was his trade unethical? Shortsellers are not evil. Financial speculation is amoral.
"Unethical" was tongue-in-cheek. I whole-heartedly agree with you. Short-sellers are necessary. Speculation is amoral. Trading is war. If one does not want to get shot, then one should not go to war, period.
It's soooo amusing to see the big banks who professed "free markets" and "deregulation" now advocating that short-selling is evil. It's the "heads I win, tails you lose" kind of thing. "Free markets" are only good just as long as they're winning...
It's soooo amusing to see the big banks who professed "free markets" and "deregulation" now advocating that short-selling is evil. It's the "heads I win, tails you lose" kind of thing. "Free markets" are only good just as long as they're winning...
On a related note, I'm kicking myself for not holding on to my HBC puts I bought yesterday. Guess I was feeling a little too ethical.
And short sellers are the defense of capitalism against bubbles. (Not always working --- but at least they have an incentive to pop bubbles.)
Exactly. Some comments on this:
http://www.automatedtrader.net/announcements-1748.xhtm
http://www.automatedtrader.net/announcements-1748.xhtm
What a whiny tone in the article... the man made money on people's downfall; why doesn't he repent? He must be punished!
Agreed strongly:
One reason for this is that Paulson was able to recognize and act on the unimaginable—that the banks, which took on most of the subprime risk, had no clue what they were holding or how much it was worth.
More Paulsons and maybe the banks might have 'imagined' this possibility. How is it possible to be morally outraged with the irresponsible banks and Paulson.
One reason for this is that Paulson was able to recognize and act on the unimaginable—that the banks, which took on most of the subprime risk, had no clue what they were holding or how much it was worth.
More Paulsons and maybe the banks might have 'imagined' this possibility. How is it possible to be morally outraged with the irresponsible banks and Paulson.
You agree strongly that it's whiny then quote something not in the least whiny?
You're right -- the part quoted is not whiny in tone, but it is whiny when taken into the larger context of the article. I find the blame game that has come with the financial collapse to largely be "whiny". I hear the following complaints repeatedly:
* The greedy banks were giving out loans to people they knew couldn't afford them.
* The greedy people were taking loans on homes they couldn't afford.
* (Now) Paulson was greedy to profit on the system collapsing.
Of course everybody was acting greedy! That is the idea behind capitalism. Complaining about greed in a system based on greed is unproductive and whiny.
* The greedy banks were giving out loans to people they knew couldn't afford them.
* The greedy people were taking loans on homes they couldn't afford.
* (Now) Paulson was greedy to profit on the system collapsing.
Of course everybody was acting greedy! That is the idea behind capitalism. Complaining about greed in a system based on greed is unproductive and whiny.
You clearly have no clue about trading.
Though short-sellers are hated, they are necessary. For every trader who goes short, there's a trader who goes long. No one is forcing them to enter this trade. They do so because they want to. Banning short-selling would be a disaster because prices would stop reflecting reality.
Paulson may have made money in an "unethical" way, but he played by the rules. I didn't hear any investment banks complaining about short-selling when they were making money. They were dumb. They lost. They won't be missed.
Though short-sellers are hated, they are necessary. For every trader who goes short, there's a trader who goes long. No one is forcing them to enter this trade. They do so because they want to. Banning short-selling would be a disaster because prices would stop reflecting reality.
Paulson may have made money in an "unethical" way, but he played by the rules. I didn't hear any investment banks complaining about short-selling when they were making money. They were dumb. They lost. They won't be missed.
Quite. If the downturn hadn't happened, people would have been happy enough to take his (and his investor's!) money.
"Left unexamined is the uncomfortable moral dimension of Paulson’s achievement. If he saw all of this coming, was it right for him to keep his own counsel, quietly trading while the financial system melted down? Do traders who figure out a way to profit from our misery deserve our contempt or our admiration, however grudging?"
Please. There were thousands of people, and hundreds of very prominent bloggers shouting as loud as they could that this was going to happen, and no one listened. No one wanted to listen. So, now, instead of blaming the people that caused the problem, they demonize the sensical people, who should have been listened to all the time.
Seriously, how big of an explosion do we need before we start listening to the people that predict the explosions accurately. This world is starting to get surreal.....in the past (maybe a year or two ago), one could pass this off as ignorance, but what we are seeing lately just can't be ignorance. Is this writer for portfolio.com really this uninformed? Has the entire financial commentary industry been poisoned by deliberate hiring of clueless people? They seem to only read each other and watch CNBC rather than reading bloggers who have had this all figured out with very high levels of accuraqcy for literally years.
Please. There were thousands of people, and hundreds of very prominent bloggers shouting as loud as they could that this was going to happen, and no one listened. No one wanted to listen. So, now, instead of blaming the people that caused the problem, they demonize the sensical people, who should have been listened to all the time.
Seriously, how big of an explosion do we need before we start listening to the people that predict the explosions accurately. This world is starting to get surreal.....in the past (maybe a year or two ago), one could pass this off as ignorance, but what we are seeing lately just can't be ignorance. Is this writer for portfolio.com really this uninformed? Has the entire financial commentary industry been poisoned by deliberate hiring of clueless people? They seem to only read each other and watch CNBC rather than reading bloggers who have had this all figured out with very high levels of accuraqcy for literally years.
The article was interesting but I really didn't like the tone, it was almost as if the author was sneering at the man. He tried to make him seem all sheepish and quiet, then try to lay guilt on him for doing his job well, and then mocking him for making a bad housing investment.
Ironic that he of all people ended up buying a house at the height of the bubble.
When you make 15 Billion, you probably don't care too much about the price of the house you bought last year was. Especially since you most likely don't have a mortgage.
I would question his financial acumen if he doesn't have a mortgage. Houses (specially the expensive ones) are a bad place to have money parked. Although, it doesn't make any difference in his fortune, anyway.
You're still viewing the house as an investment and not a purchase.
You're not parking money, you're buying a house, the same way you don't worry about the resale value of your TV, you won't worry about the resale value of your home. If you manage to sell the TV at a gain, wonderful, if not, no worries.
You're not parking money, you're buying a house, the same way you don't worry about the resale value of your TV, you won't worry about the resale value of your home. If you manage to sell the TV at a gain, wonderful, if not, no worries.
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If he was trading with real money, he was giving quite enough of a signal to the market. Plenty of people were writing about the possibility of the housing bubble popping, and about derivatives being "financial weapons of mass destruction." The people trading as if those warnings weren't important threw caution to the winds, and have no one but themselves to blame if they didn't learn from the behavior of the counterparties to their trades.
From farther down in the linked article: "By 2005, the amount of money he could make on the riskiest securities was not enough to justify the risk he was taking. Pricing, in his view, made no sense. Paulson concluded that he could do better on the short side--wagering that prices of risky securities would fall."