Dan Loeb: The Lost Art of Short Selling, and Why Stock Picking is Back

The lost art of short selling has come back and it's absolutely critical. Doesn't matter what you do, you have to be really selective. People talk about stock pickers market. This is a bond and credit pickers market.

Oh wow.

A lot of emotion brewing there.

Sure. I mean, there was this brand new technology that came out called the internet. And really shortly thereafter, long before Reddit or any of these other things, there were a series of chat boards. There was Yahoo, there was something called Silicon Investor, a few other ones. And people would congregate and kibitz. It was done mostly anonymously and it was an interesting place to exchange ideas. It was really the wild west. People could pretty much say or do anything, but there was a lot of substance there too. It's not actually that much different than from today.

Well, some people use the term OG. Sometimes I say I was the OT. The original troll.

Yeah. No, I did. I mean, it was fun. You know, I didn't know I was one day going to run institutional money and have a big fund and, you know, I was just having fun and blowing off steam and yeah, it was fun. I mean, investing is fun and particularly on the short side. I mean, there's so much humor in it when you detect these companies, especially in the '90s. I mean, it was really unsupervised. There were some incredibly fraudulent companies out there and it was just fun to uncover them and kind of taunt the management teams and ultimately prevail.

There were a bunch. There was a company called Actrade that I remember run by a guy who was like a repeat fraudster and we uncovered it and I know we really got under this person's skin and ultimately it was really just a factoring company trading at five, six, I don't remember what, some large multiple of book value and they had created a new technology called TADS. I don't remember what TAD stood for, but they were basically repackaging factory securities and saying that they had some special technology. They were financing refrigerators and things like that.

Well, I started really fascinated by investing and wanting to do it. I think when I was 10 years old, my dad took me. My dad was a notoriously bad investor himself. So, he didn't give me any good examples. He was a great lawyer, not a great investor. But he took me to meet a broker and I started investing. And then in high school in the 11th grade, I got a job at the branch office of Payne Weber working for a guy named Allan Crown who let me post his books and make cold calls. And I think we broke certain securities laws, but I think the statute of limitations has passed. I would trade options on Occidental Petroleum and Teladine. There was a lot of volatility and I think I had flurries of making money and lost all of it a couple of different times but it was a good lesson. I continued doing it in college and then my learning started really formally at Wertheim Schroeder where I really learned to value enterprises as my first job, kind of across the spectrum of private equity and venture capital. I worked at a risk arb firm which was really invaluable. And then skipping forward, I had way too many jobs in my 20s. But I got really serious at Jefferies. I had an amazing opportunity to work on the distressed debt desk there. I started out as a research analyst and I was just like drinking out of a fire hose. There was so much activity. The securities were so cheap coming out of distressed and it was, you know, the 10,000 hours, 10,000 reps. We would write up different things every day. There were big blocks of debt to move and I really got that. That was my real learning point. And you know, I stress this to people that everyone kind of sees mentorship as this sort of hierarchical thing where you learn from some wise older person but I learned a ton from my colleagues, from my own cohort, and I learned a ton from my customers. You know, like Eric Mindich was a boy wonder at Goldman. He was the youngest partner.

Yeah. Ran the ARB desk there and he had this triumvirate or quadrumbate, whatever, the four people. I don't want to leave them out, but Amos Hostetter and some other guys. Anyway, they were great and they really kind of brought me into their thought process thinking about event-driven investing and then, you know, I covered some of the smartest people in the business, including David Tepper. I got to watch their thought process and I was like a Chinese corporation that was like copying and reverse engineering and taking everything in and creating my database of knowledge and my own operating system. Kind of taking the best out of what all these different people did.

That was, well, I think that we call it event-driven investing. It was really less focused on the quality of business, more focused on very complex transactions: takeovers, spin-offs, risk arbitrage, bankruptcies, privatizations, demutualizations. And these transactions created unbelievable opportunities for alpha because of the confluence of dislocation, opacity, kind of time, but also this goes and nothing changes. I always quote this Jesse Livermore line, there's nothing new under the sun. A real focus on management incentives. So in all these different kinds of transactions, management was incentivized to sandbag their numbers during a time when there was an excess supply of securities where their options were being set. And we as co-investors got to come in with these depressed projections and ride along not just the, well, we got to ride along a few different things that would happen. Greater transparency and understanding of the business, companies that delivered a topline and margins and ROE and everything else better than expectations. So it was really a golden era for that type of investment.

Yeah. So stylistically that event approach, it's still something we think about, it's in our framework. But I think what happened really when technology became a bigger force, but really everything changed is a greater focus on business quality and innovation and disruption and more thematic on the one hand, understanding of consumer trends, what's going on in financial services, what's the economic macro backdrop that's supporting all this. And of course the big topic of this event, you know, AI is sort of the culmination of that, but all these major technological innovations that have really happened since.

You could be technologically illiterate or just say I don't do it and you could also be even more or less, you know, up until the GFC I think you could be more or less economically illiterate and make a lot of money.

You wouldn't want to be either one of those things. I mean, given how much more important.

Even if you're like Blue Owl and you're trading, I mean, Blue Owl obviously is very sophisticated in tech now but any pool of capital that used to not be correlated is effectively correlated.

Rob Schwarz, who's my partner, and we took Kempo Karate together when we were 10 years old. He was a purple belt. I think I never made it past yellow belt, but we reconnected at our 20-year reunion in, I'm aging both of us, sorry to give up your secret, Rob, in 1999. It was our 20-year reunion, and he was working as a sales rep for wireless RF components. And I said, 'Wow, this guy'd be great to do channel checks for us.' And then I asked him a couple years later, say, 'Hey, you meet some smart people. If you ever come across a really savvy engineer, we should invest.' We didn't know what we were doing. We weren't venture capitalists, but we were getting behind a person. There was a guy named Dave Fischer started a company called Radio Communications. They made chips. He made chips that were, I still remember, 802.11 compatible for Wi-Fi base stations. And ultimately the company was sold to Texas Instruments. And you know, I won't go deep into our venture business, but that we started to do within the fund. We've done a couple of dedicated funds. So we have that strand of activity. We can talk about a little bit more about what we're thinking and how we're seeing this. But I think what ultimately what I want you to get to is that all these things are interconnected and come together under the platform that we have today because we have the main hedge fund which does credit, equity, long short. Credit is both structured credit and high yield. We have a CLO business that we acquired. We started a private credit business. It does traditional private credit, direct sponsor financing, direct lending and workouts which is very important. So credit solutions as they call it. A lot to do there. And then we started an insurance company a few years ago. It's not the first insurance company we did. We did a P&C company, but this one was wholly owned. Now we own half of it. And the insurance company captures basically the investment grade part of what we do. So private credit through structured vehicles, structured credit, whole loans, investment grade both private and public, but we also can use our surplus capital in very interesting ways.

So first of all, investing now, like first of all, my time is spent primarily on managing the hedge fund which for now is the biggest capital pool and most important business that we're in. The human element. I think this is true for everyone you have here, like the element of the social component, that the human network of knowing people, being able to capture opportunities, work with people, interact, like that's never going away. Like you're never going to, maybe you can theorize that there will be agents that will sit at Andreessen Horowitz and whoever else, your funds, but I think the human will always have to be there because people like to, you know.

Yeah. There is a thing that I think the agents of the AI will never really be able to look in your eye and assess all the things that.

Yeah, obviously that's everything right now. Chamath talks about the time-bounded value of companies and I think that's essential. What are the companies that are going to be around seven to 10 to 20, like what are the real moats that exist out there? And it is harder now. I don't think we can, I don't know that we can really go out, you know, 10 or 20 years ago. By the way, I think we deluded ourselves earlier because I think if you ask people about the moat around, you know, IBM or some of the other companies.

AOL, well, Yahoo, you know, you say the same thing. I mean, look, we're investing outside of tech into companies that have, you know, some great, well, first of all, it also comes back to the management because we can't really just look at a product or a technology and say, 'Oh, this is going to be it forever.' So we really look for a management team that we think will be adaptable and just like you guys were saying last night, you don't want to be on boards of companies. These are things that they should be doing. So I think that's a huge part of it, like finding management teams that you really believe in that have a proven ability to stay ahead of.

Sorry, is what?

No, it's still very subjective, qualitative. I think it's one of those things after 30 years there's like a pattern recognition and you.

Yeah, there's no one approach to it. I think one thing that we've avoided is kind of a solely valuation-based approach. I've just seen too many people get run over by shorts that have dumb valuations, but they get captured on, you know, Reddit or one of these other things and they just get their, you know, or like some of these space companies right now that there's no rhyme or reason. We had a really strong view on homebuilders from last year that there were two things going on. It wasn't just rates, mortgage spreads that were depressing housing prices. That the home building industry was first structurally impaired because of the way that they were all pretending to be NVR, which is to say all pretending to be asset light but they had massive commitments to these land pools which in things that they said were options but they were really very committed in the capital and that value was going on. But that the home building industry was really the last industry that had this post-COVID hangover of inventory disruptions and pricing that really made no sense. You know, all those prices went up to unsustainable levels, but so did building costs went up and buyers are no longer able to pay those prices at the current financing environment. But they have also gotten squeezed by inflation and costs. So that's been something, so we've been short on things related to that.

Yeah, absolutely. On earnings over the next two or three years.

I think that and the narrative that, well, first of all technically there's all this other stuff that's growing faster and going up more. People are, and the long short pods are structured such that they have to be short something. So Nvidia feels like a safe short. By the way, Google was a safe short, Amazon was a safe short. So I mean this just happens and sometimes they'll languish at a valuation then they break out. I think that'll eventually happen with Nvidia.

Let me take a step back and just talk about my framework for philanthropy, which is I think not unlike Brad Gerstner and many people in the room here, is that I care, I would say everybody up here, I care deeply about income inequality. I care deeply about making sure that as many people have opportunities to the incredible things that we've all had here. So, my interest in criminal justice reform really started earlier with an interest in education and education reform. And I was very lucky to get on the board and ultimately be chairman of Success Academy which is a charter school network in New York. And I do think nobody talks about it, but the thing that's hiding out in plain sight for everybody is that the problems with income inequality isn't that, you know, Jeff Bezos is going to be a trillionaire or all these other people are gaining wealth. It's that we're not equipping children and particularly the most vulnerable children with the intellectual tools that they need to succeed and compete. And it's not because poverty is this intractable thing that can't be overcome. We've proven that it can be. The problem is that the unions and the basic principles that we all use in business, which is accountability and merit and cultivating talent is set aside for the benefit of adults who are part of these unions. And it's a systemic thing. It's not a lack of money. It's really a lack of, it's just a broken structure.

Yeah. So, I spent a lot of time on that. Just leave it at that. I then became aware and it was interesting. I was looking for issues that conservatives, you know, it's great to see Fetterman and McCormack up here, like what are issues that conservatives and liberals, progressives can agree on. Hopefully, they can agree that we want young people to be better educated. I think we can also agree that whenever you put the government in charge of something, they'll mess it up one way or another. I want to give you guys a shout out though for noting this private-public partnership with the investments in the private sector because I think this administration has done an enormously good job at backing companies. But let's put that aside. It's one of the rare instances where I've seen that.

We have a company in our portfolio called Atom Computing that with many other quantum companies has gotten money from the government and we were just super impressed that they, how they contracted with us to engage with them in cryptography and to meet the government's needs but also in the financial component. They drove a really tough bargain. The government, the taxpayers are going to make a ton of money on this and their involvement also will contribute meaningfully to the value of this business. It's just like a win all.

Right. And they are capturing part of that value as a customer for the American people which I think everybody deserves.

So criminal justice reform, first of all, there's a lot of bad people in jail. I'm not one of, you know, I think the criminal justice movement has been undermined by folks who see it as an opportunity to not prosecute, not deal with bad people that are out there. But there's also a lot of people that are rehabilitated. Well, there's really three different categories. There's people who are falsely convicted. There are people who have shown contrition and rehabilitation. And then there are those who just had a really disproportionate sentence relative to what they did. There's a case right now of a guy named John Grubman who dealt in gray market diapers and formula. He got an 18-year sentence for dealing these goods. In the case of Ross Ulbricht, I was approached by someone and this just seemed, Ross as people may know, probably this room knows, he was sort of a folk hero because he had this sort of cat-and-mouse game with the government. He ran Silk Road. Silk Road was one of the first crypto-based exchanges. He acknowledges that he did things that were illegal that he should have done. He regrets it. Drugs were dealt on the exchange. But that's what he was accused of. The government later said that there were murder-for-hire incidents. That was never, that wasn't in, he was never prosecuted for that and he denies that that ever happened. But in any case, he was sentenced to a double life, double life plus 40 years. Who knows how he got the extra 40 years on there and how he would spend that after he'd been there for two lifetimes. And there's a woman I met through Intel named Rivetz who alerted me to this, friends with Olaf Carlson-Wee and sort of the crypto insiders. And I thought about this like this guy's got no way out. There's no recourse through the system to get someone with a life sentence out of jail. This will only work with a presidential pardon. And we worked on it. We had some familiarity with the pardon process. Worked on it. Then I approached Charlie Kirk about this. And Charlie really embraced this and embraced this individual as someone who had been unfairly sentenced. He took it to the president. Charlie had also an attorney named David Warrington who's currently the White House counsel. I just found out a couple days ago because I was talking to him that he was his lawyer for a decade. So I'm not taking credit for this. I'm not saying Charlie does it. It takes a village. But David had been working on it. And on the last day of Trump's 45th term, we were certain that he was going to get out. And the Justice Department, for whatever reason, said, 'If you commute his sentence, we're going to go after you to the president.' So he, as I understand, he withdrew the commutation. So four years went by and really Charlie took the lead on this. This was his only ask of the president and the president, to libertarians and to the crypto community, promised to deal with this and not only was the sentence commuted but is pardoned and today Ross is married, is having a child, and living a free life after spending a decade, which is probably argue whether that was the right amount or not.

No, I continue to work on cases. There's an organization called FAMM and we work constantly on different people and I think it's, you know, look, I feel like as philanthropists it's great to work with organizations and there's a lot of great organizations I work with. I do a lot fighting anti-Semitism and supporting Jewish identity also but I also think that we can help people one at a time. I think it just really nurtures the soul and I think it's just a good thing to do.