Supermoney

Adam Smith

• Publisher: Wiley
• Year: 2010
• ISBN:
  9781118040775
• Edition: 1
• Topic: Business
• Subtopic: Finanza
• Index: Business

"Adam Smith continues to dazzle and sparkle! With the passage of time, Supermoney has, if anything, added to its power to inspire, arouse, provoke, motivate, inform, illuminate, entertain, and guide a whole new generation of readers, while marvelously reprising the global money show for earlier fans."
-David M. Darst, author of The Art of Asset Allocation Managing Director and Chief Investment Strategist, Morgan Stanley Individual Investor Group

"Nobody has written about the craft of money management with more insight, humor, and understanding than Adam Smith. Over the years, he has consistently separated wisdom from whimsy, brilliance from bluster, and character from chicanery."
-Byron R. Wien, coauthor of Soros on Soros Chief Investment Strategist, Pequot Capital Management

Supermoney may be even more relevant today than when it was first published nearly twenty-five years ago. Written in the bright and funny style that became Adam Smith's trademark, this book gives a view inside institutions, professionals, and the nature of markets that has rarely been shown before or since. "Adam Smith" was the first to introduce an obscure fund manager in Omaha, Nebraska, named Warren Buffett. In this new edition, Smith provides a fresh perspective in an updated Preface that contextualizes the applicability of the markets of the 1960s and 1970s to today's markets. Things change, but sometimes the more they change, the more they stay the same.

III:

The Pros

1:

NOSTALGIA TIME: THE GREAT BUYING PANIC

JUST one term ago the President then incumbent said he did not choose to run. The response of the marketplace was unmitigated enthusiasm. The previous volume records had occurred in the great selling convulsions of 1929 and 1962. The I-do-not-choose-to-run speech triggered off a buying panic, and now there were new volume records.

With all the brouhaha about Vietnam and the cities recently, a Wall Street panic seems like very small potatoes, almost irrelevant beside the cosmic problems. But panic there was, and very interesting to a handful of students of mass psychology. The panic is interesting because it is a reverse panic, therefore requiring a new line in the dictionary. The old line in the Random House Dictionary reads:

pan-ic (pan’ik) n., adj., v. . . . 3. Finance, a sudden widespread fear concerning financial affairs leading to credit contraction and widespread sale of securities at depressed prices in an effort to acquire cash.

That is the dictionary definition. All the rest about panics you can ask Granddad about. The roar on the Floor increases. The phone lines jam. The volume of all the shares traded breaks new records.

Now you can see that we did indeed have a panic: sudden widespread fear and credit contraction. The difference in 1968 was that this time cash was sold at depressed prices to acquire stocks. The panic was so great that all the old 1929 volume records have gone out the window. The new 1968 records belong to the Great Buying Panic. It was, in general, a much happier panic, since it was only some of the professional money managers who bore the brunt of the malaise. Everybody else got to feel smart. The board-room watchers felt smart because the stocks they forgot to sell were going up. And downtown the brokers felt like absolute geniuses because they all met their 1975 profit projections eight years ahead of time, and any industry that far ahead of its projections must be populated by geniuses indeed. The President did not choose to run, and peace is bullish. Are the causal relationships that simple?

I happened to be having breakfast on April 1, the morning the panic began, with Poor Grenville. This epithet is at least partly ironic. Poor Grenville runs a swinging fund, and with his tall, blond, Establishment looks, Poor Grenville is a Hickey-Freeman model or an ad for the Racquet Club, not poor. One of Poor Grenville’s great-grandmothers had a duck farm, and part of the duck farm is still kicking around in the family. There aren’t very many live ducks on it any more, since the duck farm ran roughly from Madison Avenue east, bounded by, say, 59th Street and 80th Street, but then you never know how much the descendants get their fingers on, what with estate taxes and trusts and all. Poor Grenville was suddenly called poor because he had just gotten nicely into cash—$25 million of it—in 1966, when the market turned around and ran away. If you are a true performance-fund manager, you should be 100 percent invested when the market is moving up.

Now here it was only March of 1968, and Poor Grenville has just gotten himself back into cash—$42 million this time—and the President has just said he isn’t going to run and peace is in the air. Poor Grenville was very fidgety at breakfast because last year he had had to come up fast on the outside to stay in the performance-fund derby at all. Win, place and show in the derby means the salesmen can sell that record into hundreds of millions.

“I think it’s a whole new ball game,” Poor Grenville said that morning. “I have to lose all my cash, right away.”

So I stuck around after breakfast, just to see how Poor Grenville would spend $42 million. I asked Poor Grenville why he had sold so much in the preceding weeks.

“I wasn’t that unhappy with some of the stocks,” Poor Grenville said. “But I didn’t like the international monetary situation. I thought Washington had lost control. I thought it would take high interest rates to get the balance of payments back in line. And Johnson—who could believe Johnson? Confidence is an important factor.”

“And now the international monetary situation is okay, and you believe Johnson,” I said. “All from that one sentence last night, ‘I do not choose to run.’ ”

“I don’t believe anything he says,” Poor Grenville said. “It’s probably some trick. The international money situation is still fouled up. So what, it’s still a new ball game. It doesn’t matter what’s true; what matters is what everybody else thinks. Every fund you and I know is about to come piling in. Let’s get on the phone.”

So we got on the phone. Poor Grenville put in an order for 20,000 Burroughs at 170. That’s $3.4 million. Burroughs had been in Poor Grenville’s notebook to buy at 150, but this was a new ball game. Poor Grenville also tried for a block of Mohawk Data at 140, and bid for a block of Control Data. These were the stocks that helped Poor Grenville come up fast on the outside last year. The market opened and while we were waiting for the first $20 million to go to work we gossiped on the phone with some other managers around the country.

“Oh, we might nibble a little this morning,” said one West Coast denizen coolly. He was so cool he had been in his office since 5 A.M. practicing his buying. “Actually, we bought a lot last week.”

“I can see the history of this whole event shaping up,” I told Poor Grenville. “If the market goes up this week, it’s last week all the smart fellows will have bought.”

“Nibble, hell,” Poor Grenville said. “I hear he is loaded with cash. I bet he’s in there bidding for my Burroughs.”

Poor Grenville called the broker he had picked for the Burroughs. He was told Burroughs hadn’t opened yet. Nor had Control Data. Nor had Mohawk. Heavy buyers on the floor. No sellers. Temporarily, the great auction market had come to a halt. Poor Grenville began to nibble at a fingernail. He called the broker back again and raised the bid to 172.

“That’s an awful big order for the floor on a day like today,” the broker said. “Have you tried the block houses?”

Block houses are Wall Street firms who arrange large trades, blocks, like Poor Grenville’s 30,000 shares. We called two block houses. One of them thought he could get a nice block of 30,000 Burroughs for Grenville at 200. “Robbers, thieves,” said Grenville. “That’s one million dollars more than Friday. You think a million dollars grows on trees?”

The first figures on the market came in. The volume was setting new records. The market was up $17.

“Look at them all piling in, the greedy bastards,” Poor Grenville said.

The Burroughs broker called back. Burroughs was trading at 184. It had opened on a large gap, which is to say it did not go up a neat point or two at a time, but simply started a whole fifteen points or so higher than it had last closed. “Idiots,” Poor Grenville said. “Do they think peace comes overnight? Don’t they know the Korean War went on for two years after the talks started? Okay, I’ll take it at one eighty-four.” The broker said he would call back, and in a few minutes he did.

“How much did I get at one eighty-four?” Poor Grenville wanted to know.

“You didn’t get any,” the broker said. “Burroughs is one eighty-nine.”

“Madness,” Poor Grenville said. “See if you can get it at one eighty-eight.”

Poor Grenville had researched Burroughs, had worried over when the computer operation would become profitable, had even tried out one of the new electric accounting machines. He had carefully considered what he wanted to pay for it. Now, in two hours he had raised his bid on the Burroughs from 150 to 170 to 172 to 184 to 188, and he still didn’t have any. He called the broker back.

“How much Burroughs do I have now?” he asked.

“You don’t have any,” the broker said. “Burroughs is one ninety-one.”

It was lunchtime. We sent for sandwiches. The volume was setting records every minute. The lights on the phones flashed every thirty seconds. Poor Grenville’s Mohawk and Control Data were way over his bids, too.

“My God,” Poor Grenville said, “it’s twelve thirty, and I still have forty-two million in cash.” It was true; Poor Grenville had been chasing his favorites, but they had outrun him. He had yet to buy a share.

“This market has come too far, too fast,” Poor Grenville said. “We’ll pick some things up on the reaction. There’s bound to be some profit-taking.”

There was a reaction, about half past one. It lasted about three minutes. Poor Grenville missed it because he was eating his bacon, lettuce and tomato, and anyway, a three-minute sinking spell doesn’t do you much good when you have $42 million to spend. Now Poor Grenville was beginning to clutch.

“Every fund in the country is going to be up three percent today,” he said. “They’re going to be up eight percent for the week. Within two weeks they’ll be up fifteen percent, and I’ll still have this lousy damn forty-two million.” Poor Grenville wrote $42 million on a notepad and stared at it, hating it. “I’ve got it,” he said. “Let’s buy what the hedge funds are short.”

Hedge funds, as you may know, try both sides of the market. They increase their leverage by selling some stocks short while they buy others. In a big upswing, obviously they would have to buy back what they had sold. It took us about five phone calls to find out where there were some blocks short. Now we could make them suffer a bit by buying those stocks we knew they would have to be buying. We called up one hedge fund, just to chat.

The hedge fund was paranoid. It pulled up its drawbridge and poured boiling oil over the ramparts. It had troubles of its own. The volume was still setting new records.

“A friend of mine is buying a sheep farm,” Poor Grenville sighed. “That would be a much more peaceful and productive way to make a living.”

“With your timing,” I said, “you would sell all the sheep just as everybody was about to go long lambchops.”

“We have to buy something,” Poor Grenville said. “I can’t just sit here in cash. I’m going to look stupid. They’ll throw me out of the performance-fund union. Get on the phone and collect some stories. We’ll buy stories.”

It doesn’t take long to collect stories. A story goes, “I hear XYZ is going to earn four dollars, but the Street doesn’t realize it yet.” Never mind why. Tomorrow there will be no more stocks for sale.

So we bought, and we bought, and we bought. The phones rang and the hold buttons were pushed and there was general tumult. At the end of the day I was helping Poor Grenville go through some of the tickets in the snowstorm on the floor. There were tickets for stocks Poor Grenville had never thought of. The only ones missing were the ones he had been chasing, his friendly highfliers, Burroughs, Control Data and Mohawk.

“What the hell’s this?” he said. “Union Carbide? An old granddaddy company? Are you out of your mind? A hundred thousand shares of Union Carbide?”

A hundred thousand shares of Union Carbide is a nice block, about $4 million.

“I didn’t buy any Union Carbide,” I said. “I put that guy on the hold button. I thought you talked to him. There were four phones ringing.”

“I never bought any Carbide,” Poor Grenville said. “I would never buy a tired old mother like Carbide.”

“Well, I didn’t buy it either,” I said. We stared at each other, and then at a smudged, penciled slip.

“It followed us home,” Poor Grenville said. “What the hell. Just go out and get it some warm milk and a blanket.”

The next day a New York Times reporter called Poor Grenville to check on the block. Poor Grenville learns fast, and he was ready. “Our fund,” he said, “did not follow the mass panic into such highfliers as Burroughs and Control Data. In these times of turmoil, we are seeking value. Union Carbide, for example, whose additions to net plant make it attractive. We believe, after exhaustive research, that the chemicals are ready to turn.” Next thing you know, Newsweek was about to quote Poor Grenville on value in these troubled times. Four more funds bought Carbide. Grenville the Statesman.

The headlines make causal relationships: market spurred by peace hopes, market rises on booming economy. But the real impulse behind the buying panic was not in the headlines. It was in a statistic. On March 22, eight days before the beginning of the Great Buying Panic, the mutual funds had Grenvilled themselves into $3.4 billion in cash, just because things looked so gloomy. That’s $1 billion more than “normal,” and the $3.4 billion didn’t count all the pension funds and colleges and foundations that were beginning to play the aggressive performance game. The object of the aggressive performance game is to be first, to have the stocks that go up the most; to buy stocks at the bottom, you have to sell them first, so you have the cash when you want to buy. Naturally, not everybody gets to be first back in, and when you have dramatic moves in war and politics, the swings can be of panic proportions, either way. Only the triggers are missing.

“Performance” is a new word among the funds, but a taste for quick gains is not new. In 1935 Our Lord Keynes wrote:

The social object of skilled investment should be to defeat the dark forces of time and ignorance which envelop our future. The actual, private object of the most skilled investment today is ‘to beat the gun,’ as the Americans so well express it, to outwit the crowd, to pass the bad, or depreciating, half-crown to the other fellow.

This battle of wits to anticipate the basis of conventional valuation a few months hence . . . does not even require gulls amongst the public to feed the maws of the professional; it can be played by the professionals amongst themselves. Nor is it necessary that anyone should keep his simple faith in the conventional basis of valuation having any genuine long-term validity. For it is, so to speak, a game of Snap, of Old Maid, of Musical Chairs—a pastime in which he is victor who says Snap neither too soon nor too late, who passes the Old Maid to his neighbor before the game is over, who secures a chair for himself when the music stops. The game can be played with zest and enjoyment, though all the players know that it is the Old Maid which is circulating, or that when the music stops some of the players will find themselves unseated.

Sometimes I wonder whether those paragraphs from The General Theory of Employment, Interest and Money will ever lose their validity. The games were—and are—indeed played with zest and enjoyment; the swings get shorter and more violent. It is not news but atmosphere, climate and psychology that set this up. Some market Copernicus might say that the news does not change; it is our perception of it that moves.

2:

AN UNSUCCESSFUL GROUP THERAPY SESSION FOR FIFTEEN HUNDRED INVESTMENT PROFESSIONALS STARRING THE AVENGING ANGEL

THE swings did get bigger, and the living was easy for seven or eight months after President Johnson’s speech. Brokerage firms that dealt with the general public opened new branch offices and scoured the countryside for salesmen. All kinds of stocks went from five to fifty. Flocks of them had the word “computer” in the title, or had names that suggested data processing. Still others franchised some sort of fast food, hamburgers or chicken. There were chains of nursing homes, for we had suddenly discovered geriatrics as a boom industry. Sideburned young men in Meladandri shirts were running five thousand into half a million by talking to other sideburned young men. Age was a great handicap. No one over thirty could understand the market. And everyone knew it would come to an end.

A mass-circulation magazine asked me to explain to its readers what was going on. I had this Fellini scene:

We are all at a wonderful ball where the champagne sparkles in every glass and soft laughter falls upon the summer air. We know, by the rules, that at some moment the Black Horsemen will come shattering through the great terrace doors, wreaking vengeance and scattering the survivors. Those who leave early are saved, but the ball is so splendid no one wants to le...