From the Trenches: Defending Against Attack on Private Enterprise

In its entirety below, an open letter from a hedge fund manager:

Unafraid In Greenwich Connecticut
Clifford S. Asness
Managing and Founding Principal
AQR Capital Management, LLC

The President has just harshly castigated hedge fund managers for being unwilling to take his administration’s bid for their Chrysler bonds. He called them “speculators” who were “refusing to sacrifice like everyone else” and who wanted “to hold out for the prospect of an unjustified taxpayer-funded bailout.”

The responses of hedge fund managers have been, appropriately, outrage, but generally have been anonymous for fear of going on the record against a powerful President (an exception, though still in the form of a “group letter”, was the superb note from “The Committee of Chrysler Non-TARP Lenders” some of the points of which I echo here, and a relatively few firms, like Oppenheimer, that have publicly defended themselves). Furthermore, one by one the managers and banks are said to be caving to the President’s wishes out of justifiable fear.

I run an approximately twenty billion dollar money management firm that offers hedge funds as well as public mutual funds and unhedged traditional investments. My company is not involved in the Chrysler situation, but I am still aghast at the President's comments (of course these are my own views not those of my company). Furthermore, for some reason I was not born with the common sense to keep it to myself, though my title should more accurately be called "Not Afraid Enough" as I am indeed fearful writing this... It’s really a bad idea to speak out. Angering the President is a mistake and, my views will annoy half my clients. I hope my clients will understand that I’m entitled to my voice and to speak it loudly, just as they are in this great country. I hope they will also like that I do not think I have the right to intentionally “sacrifice” their money without their permission.

Here's a shock. When hedge funds, pension funds, mutual funds, and individuals, including very sweet grandmothers, lend their money they expect to get it back. However, they know, or should know, they take the risk of not being paid back. But if such a bad event happens it usually does not result in a complete loss. A firm in bankruptcy still has assets. It’s not always a pretty process. Bankruptcy court is about figuring out how to most fairly divvy up the remaining assets based on who is owed what and whose contracts come first. The process already has built-in partial protections for employees and pensions, and can set lenders' contracts aside in order to help the company survive, all of which are the rules of the game lenders know before they lend. But, without this recovery process nobody would lend to risky borrowers. Essentially, lenders accept less than shareholders (means bonds return less than stocks) in good times only because they get more than shareholders in bad times.

The above is how it works in America, or how it’s supposed to work. The President and his team sought to avoid having Chrysler go through this process, proposing their own plan for re-organizing the company and partially paying off Chrysler’s creditors. Some bond holders thought this plan unfair. Specifically, they thought it unfairly favored the United Auto Workers, and unfairly paid bondholders less than they would get in bankruptcy court. So, they said no to the plan and decided, as is their right, to take their chances in the bankruptcy process. But, as his quotes above show, the President thought they were being unpatriotic or worse.

Let’s be clear, it is the job and obligation of all investment managers, including hedge fund managers, to get their clients the most return they can. They are allowed to be charitable with their own money, and many are spectacularly so, but if they give away their clients’ money to share in the “sacrifice”, they are stealing. Clients of hedge funds include, among others, pension funds of all kinds of workers, unionized and not. The managers have a fiduciary obligation to look after their clients’ money as best they can, not to support the President, nor to oppose him, nor otherwise advance their personal political views. That’s how the system works. If you hired an investment professional and he could preserve more of your money in a financial disaster, but instead he decided to spend it on the UAW so you could “share in the sacrifice”, you would not be happy.

Let’s quickly review a few side issues.

The President's attempted diktat takes money from bondholders and gives it to a labor union that delivers money and votes for him. Why is he not calling on his party to "sacrifice" some campaign contributions, and votes, for the greater good? Shaking down lenders for the benefit of political donors is recycled corruption and abuse of power.

Let’s also mention only in passing the irony of this same President begging hedge funds to borrow more to purchase other troubled securities. That he expects them to do so when he has already shown what happens if they ask for their money to be repaid fairly would be amusing if not so dangerous. That hedge funds might not participate in these programs because of fear of getting sucked into some toxic demagoguery that ends in arbitrary punishment for trying to work with the Treasury is distressing. Some useful programs, like those designed to help finance consumer loans, won't work because of this irresponsible hectoring.

Last but not least, the President screaming that the hedge funds are looking for an unjustified taxpayer-funded bailout is the big lie writ large. Find me a hedge fund that has been bailed out. Find me a hedge fund, even a failed one, that has asked for one. In fact, it was only because hedge funds have not taken government funds that they could stand up to this bullying. The TARP recipients had no choice but to go along. The hedge funds were singled out only because they are unpopular, not because they behaved any differently from any other ethical manager of other people's money. The President’s comments here are backwards and libelous. Yet, somehow I don’t think the hedge funds will be following ACORN’s lead and trucking in a bunch of paid professional protestors soon. Hedge funds really need a community organizer.

This is America. We have a free enterprise system that has worked spectacularly for us for two hundred plus years. When it fails it fixes itself. Most importantly, it is not an owned lackey of the oval office to be scolded for disobedience by the President.

I am ready for my “personalized” tax rate now.

Sanity Under Pressure

German chancellor Merkel rejects new stimlus programs as ecnomic data worsens.

"Chancellor Angela Merkel stood firm in rejecting any new German economic stimulus program even as the International Monetary Fund said the recession is worse than previously thought and called for measures to spur demand."

Merkel shrugged off calls for more spending despite a report by Germany’s leading economic institutes which will show tomorrow that Europe’s biggest economy may shrink as much as 6 percent this year -- almost three times the contraction of 2.25 percent forecast by the government in January.

The coalition won’t expand its 82 billion euro ($107 billion) stimulus agreed under two separate programs, Merkel told reporters in Berlin today after a meeting with business leaders and economists. “We shouldn’t talk about a third stimulus package,” Merkel said. “Instead we’ll let current measures take effect.”

While I don't agree with the reasoning behind rejecting more stimulus, I do agree with the action itself. What the IMF and Keynesian economists fail to realize is that there is infinite demand. The problem is not that there isn't any demand, but rather that there aren't the resources to fulfil that demand.

I have demand for a Ferrari, but the lack of financial resources prevent me from making such a purchase. If the government wants me to fulfill my demand for a Ferrari in order to 'grow' the economy by stimulating jobs associated with Ferrari production, the stimulus money that it uses to fulfill these demands must come from somewhere, or more specifically, someone. That someone is a group of people called wage earners who will subsequently be taxed to pay for my new Ferrari. And if there's not enough money coming in from taxes, the rest can be procured by inflating the money supply.

The opportunity costs that arise from distribution of wealth and manipulation of currency, as well as the distortions created to natural supply and demand of goods and services, will, at best, act as a road block to an economic recovery.

Surge in Taxpayer Delinquency

Apparently, more Americans are wary of the U.S. tax man this year.

"Our calls are up 280 percent," said Richard Boggs, founder and chief executive of Los Angeles-based Nationwide Tax Relief, a firm that helps delinquent taxpayers resolve tax issues.

With household balance sheets under pressure, more U.S. households are having trouble keeping up with their day-to-day bills and struggling to pay their taxes.

"Folks are not paying their taxes because they are spending it on necessary living expenses," said Kristin Lavieri, an accountant with Weinstein & Anastasio, PC in Hamden, Connecticut.

Many withdrew funds from 401k and IRA retirement savings accounts before the permitted time, unaware of the punitive taxes and penalties this would generate, said Larry Walker Jr, president of the financial and tax services firm 4-Serenity Inc in Snellville, Georgia.

"Folks are not paying their taxes because they are spending it on necessary living expenses," said Kristin Lavieri, an accountant with Weinstein & Anastasio, PC in Hamden, Connecticut."

These tax burdens will only serve to hinder an economic recovery. Meanwhile, law makers are up to more tax shenanigans - 20% tax on cell phones?!

On a positive note, the Anti-Tax Tea Party movement is gaining traction.

Communities Printing Their Own Cash

From an article in USA Today,

"The systems generally work like this: Businesses and individuals form a network to print currency. Shoppers buy it at a discount — say, 95 cents for $1 value — and spend the full value at stores that accept the currency.

Workers with dwindling wages are paying for groceries, yoga classes and fuel with Detroit Cheers, Ithaca Hours in New York, Plenty in North Carolina or BerkShares in Massachusetts."

You read that correctly, they are printing money. They assign it an abritrary value and then they print it. This system is far worse than our national currency, which at least at one point in time was pegged to a real asset.

"Ed Collom, a University of Southern Maine sociologist who has studied local currencies, says they encourage people to buy locally. Merchants, hurting because customers have cut back on spending, benefit as consumers spend the local cash."

But is Mr. Collom aware as to why people are encouraged to spend? Local currencies are doomed from the start. Since local currency is worthless everywhere else, there is no incentive in holding on to it. Whoever is a recipient of a local currency would want to convert it to something that has value everywhere. Thus, no one would really want to hold a local currency. Hyperinflation of that currency will be the only outcome.

"Pittsboro, N.C., is reviving the Plenty, a defunct local currency created in 2002. It is being printed in denominations of $1, $5, $20 and $50. A local bank will exchange $9 for $10 worth of Plenty."We're a wiped-out small town in America," says Lyle Estill, president of Piedmont Biofuels, which accepts the Plenty. "This will strengthen the local economy. ... The nice thing about the Plenty is that it can't leave here." "

Apparently they did not learn their lesson the first time. On the bright side, local currencies will hyperinflate out of existence before they can cause real damage like our current currency is doing. How long will that $0.95 cents on the dollar last? My guess is not long, after all, there will be 'Plenty' more where they came from.

Timothy Geitner: "Don't Believe Us!"

On a speech given at 11:10am on April 6, 2008, Timothy Geitner advised Americans to

"...be wary of any organization that claims to guarantee success and demands upfront fees."

The only organizations that I can think of that fit that description is Bernie Madoff's Hedge Fund and the Federal Government. In fact, when testifying before Congress, Tim Geitner repeatedly stressed two facts: 1) That his plan will work. 2) That it requires upfront funds provided for by the tax payer.