Friday, May 28, 2010

Stepping out

I had the opportunity to attend the 15th annual Ira Sohn Investment Research conference the other day. The conference, in NY, brought together many leading lights in the hedge fund segment of the private equity business; an area of the world where venture seldom treads. What attracted me was the combination of a great cause (proceeds for pediatric cancer research) and a line-up of all-star speakers including David Einhorn (known as the courageous guy who took on Lehman), Sam Zell, Steve Rattner, and David Tepper.

Unlike the venture business, where you often don't know if you placed the right bet for a few years, the hedge arena gives more immediate verification of your thesis and execution. Trades have two sides, and one is often, but not always wrong. This industry is full of colorful and polemic figures. I will concentrate the points shared below, along the lines of the extremists (which were roughly 2:1 over the rationalists). This does not make their views any more correct, but certainly makes for more interesting reading.

Here's the highlights:

Jonathan Jacobson of Highfields Capital Management

Expressed that the current Obama administration is "anti-business", therefore, he is factoring in adverse legislative risk into each of his investments. He reaches his conclusion about the administration when looking at the 'interference' in the Automotive industry, followed by the Health plan, into statements affecting the Energy and Cable markets. Not even Soft drinks are immune from the opening salvos in an escalating 'class warfare mentality'.

Sam Zell, legendary investor and Chair of Equity Group Investments feels the president was elected under a change mandate and is executing such a strategy. He feels the changes being put into motion are 'huge and extreme' and we are entering a time of great volatility due to it.

Daniel Arbess of Perella Weinberg sees an upcoming debt crisis predicated by massive government overspending and now duress in the credit markets. His opinion is that investors should short weak currencies (just about all Western currencies are weak) and go long on China. His thesis is that we are seeing a rebalancing of the world's economy between west and east. Consumption is increasing in the west, while productivity is declining. An activist and heavy handed government, referred to as "Government comes to a market near you" is interfering with market forces and we will see great negative ramifications when built up market forces overwhelm this interference. He noted that 70% of Wal-Mart's inventory is comes from China; he wants to invest in companies that sell things made by emerging market economies and sold to the west. To those long-time readers, another example of permacheap.

David Tepper of Appaloosa Management contrasted the previous comments with a perspective that people and markets do adjust to change. He's not prone to extremist perspectives, as evidenced by the successful investments he's made in distressed companies that have adopted and prospered.

David Einhorn of Greenlight Capital gave a wonderful presentation entitled "Good News for the Grandchildren". For full disclosure, I think he's a courageous investor whose a great, and sometimes highly contrarian investor (here's a copy of his Q4 '09 letter to investors). But, back to the presentation.

He is disappointed that the Administration has 'socialized' losses in the housing market. Now, there's an expectation that if many people live to excess, they will be bailed out by the government and this action was a bright line to cross. He really sees little political restraint or incentive for government to operate in a rational way. For example, last year studies by the Pew Institute noted that government salary scales, for the first time, exceeded that of comparable workers in the private sector. Despite enhanced job security and great benefits, the pay is higher. It only makes sense to him in an environment where, for example, one-time and shovel ready stimulus spending went towards preserving government jobs, while adding little to the private sector.

He sees the US Civil Service arrangement as galloping at a rapid pace towards that of Greece, where workers are paid 14 months salary for 12 months of work. The open question is 'how long will the credit markets fund this'..... insanity? The rating agencies have proven themselves to be both behind real-time events, conflicted, and guilty of shoddy research. Government numbers also can't be trusted. He cited the way the Government calculates inflation as a point to ponder. This calculation has changed numerous times in the past two decades, always to the advantage of the current administration who is able to boast of high(er) GNP. low inflation rates, and a rising stock market predicated on suspect numbers.

Today, we seem to have passed the worst of the financial crisis, but the Fed is holding interest at close to zero rates as a political, not an economic decision. Another market distortion; another moral hazard. All strangely similar to past failures of the government to intervene around LTCM,the S&L crisis,the '07 equity crunch and onward. The Government is now in the habit of saving people from their foibles (except for Lehman), and this distortion only encourages bad bets and irrational behavior.

We may reach the point by saving the Sovereign nations that are 'too weak to fail', we may be setting up the economies that are thought of as 'too strong to bail' as needing rescue, but by whom?

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