Yesterday was the Ira W. Sohn Research Investment Conference, the annual hedge-fund conference where just last year David Einhorn of Greenlight Capital held forth with his now-famous takedown of Lehman Brothers, laying the foundation for the firm’s collapse. Earlier this week, Daily Intel supposed that this year Einhorn and his brethren would again take aim at the financial firms (which have gotten only softer and more vulnerable during the past year) and maybe even at Warren Buffett, who’s been crowing about Wells Fargo like it’s gold.
In fact, we were wrong. This year, Einhorn picked a much bigger target.
Einhorn, the headline speaker, was the eleventh in a series that gave odd, sometimes conflicting advice: Steve Mandel presented an argument in favor of a for-profit education company, only to be shot down by the next speaker, Jim Chanos, who argued that the historically fat margins of for-profit schools will be in for a squeeze when the federal government inevitably stops its reckless spending. Clarium Capital’s Peter Thiel, looking like the kind of overly tanned, informally attired San Francisco financier we would like to make a voodoo doll of, said that we could forget about biomedical and technological advancements because “1969 was the year progress died and the hippies took over,” and Euro Pacific’s Peter Schiff, one of the world’s leading catastrophists, seeing an empty microphone, used it to unleash the apocalypse, railing about how debt destroyed America’s productive economy. Only one of the first ten presenters said anything specific about the financials: Mark Kingdon of Kingdon Capital Management recommended that investors buy Bank of America, reminding us of Rich Pzena’s recommendation last year, wherein he rated Citigroup a buy for its “classic value.”
And then Einhorn took the stage, looking, as always, like the star member of the high-school debate team, with his coiled hair and slightly too-large clothes. “Hope is a nice, human emotion,” he said after addressing the fate of Lehman, which he did not approve of, in his introductory remarks, “but does not make for good public policy.” He then launched a multipronged attack on the Obama administration’s rescue efforts, reading quickly from a paper in front of him. “The Obama administration disappointingly seems to be following the same path as the Bush administration,” he said. “The basic strategy appears to be to try to bring us back to 2006 by propping up asset prices and reflating the popped credit bubble, subsidizing bank creditors and shareholders, and delaying needed bank recapitalizations, while hoping for an economic recovery.”
The official attitude appears to be that what is good for the banks is good for the economy. I question this view because the best interest of the banks is to buy time so that future earnings can outrun embedded losses, while the best hope for a rapid economic recovery rests on insolvent borrowers resolving bad debts as quickly as possible. A corporation, homeowner, or consumer that has more than a manageable amount of debt is not going to hire people, invest, or spend. For the economy to recover, underwater entities need to restructure their debts. Banks must be able to negotiate with their borrowers, but they can only do so after they have written down the loans as aggressively as possible. What is good for the economy is, in this sense, bad for the banks.
What should happen, sooner rather than later, Einhorn said, is that bank losses should be written down, with capital raised by converting bank debt to equity and wiping out common stock. The short-term stock-market effect of this will be severe, but possibly quite brief, as the recent rally has suggested investors’ strong desire to believe in a new beginning.
“This is what should have been done with Lehman,” he said.
“Here was a price where conversions, rather than bankruptcy and liquidation, would have been in everyone’s interest. Legislation to create conservatorships for holding companies to enable this to be conducted promptly, but not necessarily over a weekend, is a good idea.”
He concluded his analysis of the government bank bailout on a somewhat conciliatory note.
“I am optimistic because even though I believe that Secretary Geithner is leading us down the wrong path, President Obama has demonstrated an ability to change his mind in other areas. To me, this reflects the work of an intelligent pragmatist acting upon fresh understanding. I am optimistic that President Obama is capable of making similar reassessments of the economic rescue plan, and changing direction there as well.”
And that’s where the politics ended and the moneymaking started. In offering the crowd what they came for, Einhorn got in a little dig at Buffett after all. “We are short Moody’s Investor Service,” he said. “Imagine yourself the head of Moody’s a decade ago. If your goal was to destroy the brand, would you have done anything differently?” Ha-ha-ha-ha . . . ouch.