Learn to Perch: WFC, BBB, TOPS

Summary

Money Stuff Podcast: Learn to Perch: WFC, BBB, TOPS

Release Date: June 6, 2025
Hosts: Matt Levine and Katie Greifeld
Source: Bloomberg

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1. Wells Fargo's Asset Cap Lifted

[02:24 - 10:57]

The episode opens with a significant update on Wells Fargo (WFC), marking the lifting of the asset cap imposed by the Federal Reserve in 2018. Host Matt Levine delves into the history and implications of this regulatory restraint.

• Background on the Asset Cap:
  Matt explains, “The asset cap was a direct limitation on Wells Fargo’s ability to grow its balance sheet, serving as a punishment for past scandals and mismanagement” (05:14). He highlights how the cap was intended to force the bank to stabilize its operations before expanding further.

• Leadership Transition:
  Katie Greifeld recalls the challenges faced by CEO Charlie Scharf, who was brought in under the cloud of the asset cap. “They couldn’t inform him about the bank’s progress in addressing the cap due to confidentiality,” she notes (03:57). This lack of transparency initially hampered his ability to steer the bank effectively.

• Market Reaction and Performance:
  The hosts compare Wells Fargo’s performance to peers like JP Morgan and Goldman Sachs. Katie observes, “Wells Fargo’s share price is up 43% since February 2018, while JP Morgan and Goldman soared by 178% and 160% respectively” (09:45). This underscores the restrictive impact of the asset cap on Wells Fargo’s growth compared to its competitors.

• Regulatory Implications:
  Matt emphasizes the rationale behind the asset cap, stating, “A balance sheet cap directly addresses the issue of managing a large institution, ensuring that Wells Fargo can run its business safely before scaling up” (07:58). He views the removal of the cap as a validation of improved risk management and governance within the bank.

2. Egan Jones Rating Company and Credit Ratings

[14:05 - 22:44]

The discussion shifts to the Egan Jones Rating Company, a key player in the private credit space operating out of King of Prussia, Pennsylvania.

• Business Model and Founding:
  Matt provides an overview of Egan Jones, founded by Sean Egan who criticized traditional rating agencies for their conflicts of interest during the financial crisis. “They get paid by consumers, not issuers, aiming to reduce bias in ratings” (14:44).

• Conflict of Interest and Rating Practices:
  Katie and Matt debate the legitimacy of Egan Jones’s model. Matt argues, “Ratings agencies ultimately serve the regulators more than the issuers or lenders, providing a baseline for investment decisions” (18:21). They discuss a controversial National Association of Insurance Commissioners report that suggested Egan Jones rated private investments three notches higher on average than traditional firms, though the report was rescinded due to backlash (20:14).

• Performance and Criticism:
  Katie highlights an example where Egan Jones maintained a BBB rating on Chicken Soup for the Soul until its bankruptcy in 2023, questioning the agency’s accuracy. Matt counters by explaining the inherent risks in credit ratings, noting, “A BBB rating is meant to be investment grade, but defaults are statistically inevitable” (24:25).

• Industry Impact:
  The hosts conclude that while Egan Jones aims to offer unbiased ratings, skepticism remains regarding their methodologies and the potential for rate-padding in the private credit sector. “There’s some evidence that they might be more generous, but it’s part of a larger debate within the insurance and credit industries” (20:51).

3. Marshall Waste Hedge Fund and Innovative Strategies

[27:26 - 36:43]

The podcast transitions to a fascinating profile of Marshall Waste, a hedge fund co-founded by Paul Marshall and Ian Wace, as featured in a recent Wall Street Journal article.

• Unique Investment Approach:
  Matt explains Marshall Waste’s strategy of monetizing sell-side research. “They aggregate and analyze stock recommendations from sell-side analysts, using quantitative models to extract actionable signals” (28:40).

• Operational Efficiency:
  Katie notes that Marshall Waste operates with significantly fewer employees compared to giants like Citadel, attributing their efficiency to outsourcing trade ideas and leveraging technology. Matt adds, “Their automated systems provide a better audit trail and reduce the risk of information leaks compared to traditional hedge funds” (31:06).

• Controversies and Skepticism:
  The hosts discuss industry skepticism surrounding Marshall Waste’s methods, particularly concerns about the legality and ethical implications of aggregating analyst recommendations. Matt reflects, “When this model started in the late ‘90s, there was considerable doubt about its viability, which persists today” (33:44).

• Team Dynamics and Success:
  Katie highlights the strong partnership between Marshall and Wace, contrasting it with other high-profile hedge fund partnerships. “Their 30-year collaboration exemplifies a stable and effective professional relationship, unlike the recent discord seen at firms like Two Sigma” (36:17).

• Future Prospects:
  The episode wraps up with reflections on the sustainability of Marshall Waste’s model in the evolving financial landscape. Matt suggests that their blend of quantitative analysis and efficient operations positions them well for continued success, despite ongoing industry debates (35:31).

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Notable Quotes

• Matt Levine:
  “A balance sheet cap directly addresses the issue of managing a large institution, ensuring that Wells Fargo can run its business safely before scaling up.” (07:58)

• Katie Greifeld:
  “Wells Fargo’s share price is up 43% since February 2018, while JP Morgan and Goldman soared by 178% and 160% respectively.” (09:45)

• Matt Levine:
  “Ratings agencies ultimately serve the regulators more than the issuers or lenders, providing a baseline for investment decisions.” (18:21)

• Katie Greifeld:
  “There’s some evidence that they might be more generous, but it’s part of a larger debate within the insurance and credit industries.” (20:51)

• Matt Levine:
  “Their automated systems provide a better audit trail and reduce the risk of information leaks compared to traditional hedge funds.” (31:06)

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Conclusion

In this episode of "Money Stuff: The Podcast," Matt Levine and Katie Greifeld provide an in-depth analysis of significant developments in the banking and financial services sectors. From the strategic lifting of Wells Fargo’s asset cap to scrutinizing the practices of emerging rating agencies like Egan Jones, and exploring innovative hedge fund strategies exemplified by Marshall Waste, the hosts offer listeners a comprehensive understanding of the intricate dynamics shaping Wall Street and beyond. Their balanced discussion, enriched with insightful quotes and timely analysis, makes complex financial topics accessible and engaging for both seasoned investors and curious newcomers.

Transcript

[Katie Greifeld]

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[Matt Levine]

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Bloomberg Audio Studios podcasts Radio.

[Katie Greifeld]

News There was a comment on Spotify on our most recent podcast. Last week's Let me just find it. I thought it was fun.

[Unnamed Speaker]

Get a lot of bird feedback hello.

[Katie Greifeld]

And welcome to the Bird Stuff Podcast, your weekly podcast where we talk about stuff related to birds and the European starling. He's doing quite well. He's perching. He started to feed himself.

[Unnamed Speaker]

Oh great.

[Katie Greifeld]

2 out of 3 exactly. He's stopped screaming quite as loudly at my parents to feed him like a baby. The flying we need to work on though. He's really good at flapping, but you know he's lacking some confidence when it comes to flight.

[Unnamed Speaker]

Do you have a training program ready for working on the flying?

[Katie Greifeld]

I think we just need to let him out of the cage, similar to Wells Fargo, which we'll talk about.

[Unnamed Speaker]

Oh, what a transition. Hello and welcome to the Bird Stuff Podcast, your weekly podcast where we talk about stuff related to birds. I'm Matt Levine and I wrote the Money Stuff column for Bloomberg Opinion.

[Katie Greifeld]

And I'm Katie Greifeld, a reporter for Bloomberg News and an anchor for Bloomberg Television and a bird owner.

[Unnamed Speaker]

It's actually the Money Stuff Podcast in case anyone has any doubts. It's gonna be weird if this is Your first episode. Speaking of being let out of your cage, Wells Fargo let out of its cage.

[Katie Greifeld]

Charlie Sharp learn playing offense. This was expected, but I think it was still somewhat surprising to get this news this past week that the asset cap the Fed had imposed on Wells Fargo back in 2018 has been lifted.

[Unnamed Speaker]

So the Bloomberg article about this reported that when Charlie Scharf, the CEO of Wells Fargo, he joined the bank like a year after the asset cap was imposed. And when he was like interviewing, he was aware of the asset cap because it was a pretty high profile thing. But according to the article, they couldn't tell him exactly how they were doing with progressing to fix it because that was confidential supervisory information and it would be illegal to leak it to anyone, including the CEO candidate. So basically he was like, so how's it going with the Fed? And they're like, eh, can't tell you. And then they hired him and he came in, he's like, okay, so how's it going with the Fed? And they're like, really bad. Sorry we didn't tell you earlier.

[Katie Greifeld]

Surprise.

[Unnamed Speaker]

I think he sort of came in expecting it to be a one year process after he joined, and it turned out to be like a five year process after he joined, but now it's all better.

[Katie Greifeld]

Yeah, our reporting on the matter suggested the same. Well, Fast forward to 2025 and we're finally here. It's again somewhat interesting that it happened this week. There had been a lot of anticipation about this. If you just look at the share price, for example, since President Trump's election in November, I think Wells Fargo heading into this week was up like 20% on a total return basis. And the KBW bank index as a whole was only up about 7% in that time. So there was. The anticipation was there. But also, according to our reporting, it took some senior executives by surprise.

[Unnamed Speaker]

Oh yeah, one of them was like doing an intern visit or something.

[Katie Greifeld]

I think the chairman was celebrating his 73rd birthday. So this is a nice surprise. Before we talk about, like, what this means for Wells Fargo, the future of Wells Fargo. Matt, I wasn't really paying that close attention to Wells Fargo when this cap went into Place in 2018. I'd love to hear your thoughts on the lead up there and how unprecedented this was.

[Unnamed Speaker]

I feel like in 2018 everyone was paying attention to Wells Fargo.

[Katie Greifeld]

I was worried about currencies.

[Unnamed Speaker]

I have rarely seen a bank scandal get people so angry as the Wells Fargo fake account scandal, which I'm not sure is like the direct precipitator of this but it was like one of the big things they pointed to to be like, you can never grow again. Wells Fargo opened millions of fake accounts because they had like a culture of cross selling and also not a culture of supervising people very closely, I guess. And so they told thousands of bankers, your job is to open eight new financial products a day. And so they were like, okay, fine, everyone who signs up for a checking account, we're going to give them a credit card too, and didn't tell the customers. And so people got all these credit cards they didn't sign up for. And that got Wells Fargo in trouble and also made people really mad because it just sounds. I think it sounded a little worse than it was, but it was pretty bad. And I thought it was an interesting scandal because people disagreed with me about this. But it didn't help Wells Fargo to open these fake accounts. There were a few accounts where you open a credit card and you charge a credit card fee. So Wells Fargo made a little bit of money from the fake accounts, but it's negligible. Almost all of these fake accounts were like, nothing happened in them. It was truly just the employees gaming the. The management. The employees were told, you got to open eight accounts a day. And they're like, fine, we'll do this. But it was just these meaningless accounts that didn't help Wells Fargo, but that met quotas. And that is not a problem of a bank with evil intent at the top. That is the problem of a bank that has management troubles and trouble supervising its thousands of employees and trouble designing incentives and designing programs to make sure that people are operating in the best interests of the bank. And you always used to read people talking about banks being too big to manage. And you look at that scandal and you're like, yeah, this is maybe a bank that doesn't have a handle on all of its employees and all of what it's doing. This is a bank that has not figured out how to manage its bigness. I always thought that there was a poetic justice to the punishment for some of these scandals being bank regulators saying, you can't grow your balance sheet anymore because that's like a direct cap on bigness. It's not a cap on employee numbers, but it's a cap on size. And it sort of focuses the mind on like, okay, we got to be able to manage the bank at the size that it is before we grow any bigger. The punishment is like an asset cap and then like, stays in place basically until they convince their regulators that they have improved their risk. Management and board processes such that, you know, they can run their business in a safe way. And I don't know, that seemed like sort of a reasonable punishment.

[Katie Greifeld]

I have two thoughts. One, I have a Wells Fargo account, which is funny. So, you know, the extent of me thinking about this in 2018 was I wonder if they gave me a credit card, too.

[Unnamed Speaker]

I don't have a Wells Fargo backing out. I do have a Wells Fargo credit card, and I use it almost never. It's just like a spare credit card. And like, once every, like, two years, I get a letter from them being like, we're going to close your credit card unless you tell us not to, or use it, and I'll go to the store and buy a pack of gum so that I keep the credit card open.

[Katie Greifeld]

Oh, you want it?

[Unnamed Speaker]

I don't care. It's like sitting at my desk. It doesn't bother me. Right. I wonder if I get those letters because they're like, you know, they're looking at my account and they're like, oh, no, what if this is a fake account? So they're making sure that my credit card is not fake.

[Katie Greifeld]

I will say I decided to specifically open a Wells Fargo account right before I went to college, because I was going to Haverford College, which we'll actually get to in a little bit, but it was very close to campus. And they had horses on the car, the Stagecoach, which is one of the things that Charlie Sharp did away with. He did away with the logo to.

[Unnamed Speaker]

Keep them under the asset cap. They fired the horses.

[Katie Greifeld]

They actually. They fired the horses. They also fired tens of thousands of employees. The other thought that I had was that it's interesting that it feels pretty binary. Like the cap was on and now it's off. There wasn't any step like, oh, you can grow the balance sheet by half a trillion, one trillion, because you're doing such a good job.

[Unnamed Speaker]

Yeah. It's a super weird regulatory move. It's not a common punishment. It would not be normal to say, okay, you can grow by $100 billion. It'd be weird, right? They're just like. They've put this very Draconian punishment on, and now it's been fixed, and they're like, okay, fine, grow again. So it'd be funny if they doubled in size next month, but I assume that they won't.

[Katie Greifeld]

If you think about the last seven years for Wells Fargo, I was obviously fiddling with the charts. JP Morgan's balance sheet, one of our reporters told me, has grown by an entire Wells Fargo since this cap went into place. You take a look at Wells Fargo shares since the start of February in 2018, they're up 43% in total return terms since that time. You Compare that to JP Morgan up 178%, Goldman up 160%. This has been crippling for the performance of this company.

[Unnamed Speaker]

Yeah, I mean, like the Bloomberg reporting suggests that there is some amount of, like, if you can't grow, you have to focus on the businesses that you really like.

But.

But yes, that only does so much for you in a environment of tailwinds for banks.

[Katie Greifeld]

Yeah, also this one was kind of funny. I was looking at its valuation as well. It's price to book. Wells Fargo trades at a price to book of 1.5. You compare that to JP Morgan's. JP Morgan trades at like 2.2. Citi. Citi trades at 0.7, which I think says more about Citi than it does about Wells Fargo, but that was kind of fun.

[Unnamed Speaker]

Okay, Citi catching a stray here.

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[Katie Greifeld]

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[Unnamed Speaker]

Speaking of Haverford, Pennsylvania, you know what else is there besides KB's College?

[Katie Greifeld]

The Egan Jones Rating Company.

[Unnamed Speaker]

No, it was the branch of Wells Fargo that you banked out in college. But yes, the Egan Jones Rating Company operates out of a house in Haverford, Pennsylvania, where they rate thousands of private credit deals.

[Katie Greifeld]

They actually have since relocated to King of Prussia, which is also in the suburbs of Philadelphia. But we'll get to that. Yeah, this ratings company, which calls itself the biggest rating company in the private credit space, operated out of a four bedroom colon in Haverford, Pennsylvania, on Haverford Station Road, literally across the street from my college. And it's a pretty interesting business model. Pretty scrappy.

[Unnamed Speaker]

I love the ratings business model. Right. So Egan Jones is founded by Sean Egan, who kind of made a name for himself in the financial crisis, criticizing the big three ratings agencies for their conflicts of interest. Right. People think of ratings agencies as organizations that write reports saying whether an issuer is a good credit risk. I mean, this came up a lot recently when Moody's was the last agency to downgrade the U.S. government. And I was like, ooh, what does it mean? Right? Because these agencies are sort of seen as the arbiter of credit risk. And his criticism in 2008 was these agencies are paid by the issuers of the bonds, and therefore the issuers want to have high ratings. And, and so if a ratings agency gives them a low rating, the issuers say, we won't pay you anymore if you don't give us a high rating. And the agencies say, fine, fine, fine, we'll give you a high rating. And this is like the sort of conflict of interest model. And it's particularly a concern in the structured product rating where you have a bank that gets ratings on Hundreds of products. And if it isn't satisfied with the ratings it gets, it can take its enormous book of business to another ratings agency. And the Egan Jones model was, I think this is not 100% true now, but the general idea of the model was they would get paid by consumers, they'd get paid by people who wanted to buy the debt, and therefore they would have fewer conflicts of interest because they would be looking out for the interests of the investors, the lenders, rather than the interests of the issuers. When they told you this is a good credit risk, you would know they mean it because you were paying them. And I don't think that's the right way to understand a ratings agency. I think that if you're a buyer of credit, if you're a lender and you're getting a rating, you're not doing it for you. You're not doing it to figure out if the company is a good risk or not. Because you're a lender, you're in the business of knowing whether it's a good risk or not. You might be interested in the credit ratings. It might give you some sort of baseline understanding of what the credit is like. But you can probably do your own credit analysis. The reason you're getting a rating is you have some constraint on, on who you're allowed to lend to or like what your book is supposed to look like. So if you're an insurance company and you make investment grade loans, you buy investment grade bonds, then you don't have to hold very much capital against them. And if you make non investment grade loans, you have to hold a lot of capital. You know, you get the rating to satisfy your capital regulators that you are running your business prudently. And so you have the same incentives as an issuer, right? You want a high rating. You don't care. Like, if the world worked in such a way that like every bond could be rated aaa, you'd be like, great, I can buy every bond I want. You wouldn't buy like the worst bonds. You do your own credit analysis, but you wouldn't have to worry about regulation anymore because regulators don't like that, right? And so the ratings agency ultimately is not really working on behalf of the issuer and it's not really working on behalf of the lender. It's working on behalf of like the lender's regulator or the lender's ultimate customer, right? Like the insurance company customer or the bank customer or whatever. And so you read Egan Jones, there's a big Bloomberg article About their process and they're being run out of a four bedroom house and also about there's a couple of deals that they rated that kind of went bad and there's some criticism of them. And there's some people are like other ratings firms issue 20 page ratings reports and they issue one page rating reports. It's like no one cares. No one reads that the goal is like a regulatory goal and they are providing a product that consumers in the market want. But like, you know, you might not like why they want the product.

[Katie Greifeld]

Yeah, so basically what you're saying is that it just transfers the risk. That is conflict of interest. And the heavy insinuation in this article which you alluded to is that they're basically just rubber stamping these ratings on private investments.

[Unnamed Speaker]

I don't think that that's right. I don't think that there's much implication.

[Katie Greifeld]

Of the rubber stuff.

[Unnamed Speaker]

I don't know.

[Katie Greifeld]

One of the things the article describes is that, I mean you mentioned that they have a small staff and they have one page reports. Bloomberg News colleagues also write that they offer their initial workups within 24 hours, a formal verdict in less than five days. Whereas you compare that to an S and P or a Fitch and those rating decisions can take months at a time. So. So they're working with a much smaller staff and in very compressed timeframes.

[Unnamed Speaker]

Yeah, right. They say their ratings generally perform well. Right. I mean you can always like find someones that aren't very good. The default rate on like a BBB company is not supposed to be zero. So you can always find some BBB company that defaults and then it's like, you know, oh, that was wrong. Right. But it's like statistically you have to have some of those. But if you ran a ratings agency that gave everything in aaa, like there would be demand for that, but you wouldn't last long. There wouldn't really be demand for that. It would be great to get everything rated aaa, but it wouldn't really satisfy your regulators. It wouldn't really satisfy anyone. So I don't think that they're a rubber stamp. I think that they're doing genuine credit work. But I think there is some insinuation that they have a tendency to rate stuff higher than other people would rate it. And particularly they're working in the private credit space where the ratings are not for broad public consumption because it's a handful of lenders making the loans and those lenders can kind of pick their own rating agency. And yeah, they're Going to want the one that works with them nicely and is maybe a little bit generous.

[Katie Greifeld]

Well, to the point on generosity. There is a description in this article about the kerfuffle that was raised by this report from the national association of Insurance Commissioners. Apparently they rescinded this report, but it showed that smaller outfits such as Egan Jones tended to rate private investments three notches higher on average than the association's in house valuation office. This report was rescinded, but it was heard around the industry. Apparently it was rescinded according to people familiar because of backlash from insurers as well as some of the ratings firms. But kind of, I mean, there's some evidence there.

[Unnamed Speaker]

Yeah, I never fully understood it. Like there's. There's some real controversy going on at the national association of Insurance Commissioners. Like, yeah, there are a lot of insurers who really like private credit. Let's say really like alternative asset managers. Some of these insurers are big customers of those alternative asset managers. Some of them are owned by those big asset managers. And so all those insurers are like, basically like, we would like to chuck a lot of our money into private credit. We think we're getting paid for illiquidity and like it's a good investment and we should be doing this and it's professionally managed and like, you know, we're doing a good job. There are a lot of other insurance companies who do more traditional bond investing and are really mad at the private credit insurance companies and think that they are taking wild risks with customer money. They think the asset manager owned insurance companies are making too much money. There is controversy within the insurance world where some insurers are trying to basically stop people from investing in private credit and other insurers are saying we want to back up the truck for private credit. And so some of that controversy has played out in the issuing and resending of reports. But it's a point of contention and the report about ratings is, I think, part of that.

[Katie Greifeld]

I don't have it in front of me, but there is a professor quoted in the piece, I believe, that was talking about the performance of their rated companies. And the professor made the point that the public investments that they rated tended to do okay. It's just that it kind of deteriorated as it got into more private sort of investments. I guess kind of the whole point of their business though is to rate private investments. And you can cherry pick examples and any rating agencies will have that. But there were some great examples in this piece as well, and most of them were Triple B rated. It seems like before they blew up.

[Unnamed Speaker]

When I was a banker, we did this analysis for companies that was like, what is the optimal credit rating to have? And I never fully understood there was some complicated model that told you what the optimal credit rating to have was based on your unique facts and circumstances. But the answer was always triple B minus. Which makes total intuitive sense because basically there's a breakpoint where investors can buy anything rated triple B minus or above and they can't buy anything graded BBB plus or below. And so you get access to the investment grade buyers, which lowers your cost of debt if you're triple B minus or above. But anything better than that, you're leaving money on the table. You're like under levered, right? Like you want to be as levered as possible and still have access to investment grade credit. And you know, like in the private credit world, same story, right? Like you want to lend money to the most exciting, riskiest companies that will pay you the most, consistent with getting a BBB rating. And so if you can push out the boundaries of risk on BBB a little bit more, then that's a better deal for you. Similarly, you wouldn't get a lot of A ratings because if a company doing a private credit deal would get an A rating, then you're just like, well, let's borrow more then until we can get down to bbb. But below BBB is bad. So there's a reason it's all bbb. But yeah, there's a couple of examples in the story of which the funniest is probably Chicken Soup for the Soul, which I think I wrote about back in the day. Like Chicken Soup for the Soul had a weird slide into bankruptcy, but it was BBB rated at Egan Jones until through like 2023.

[Katie Greifeld]

Yeah. 14 months after Egan Jones reiterated its BBB rating for the company, it filed for bankruptcy. And its lawyer said at the time it only had 25 grand left in the bank. So that one was pretty funny. Can I tell you what the most surprising thing in this article was, though?

[Unnamed Speaker]

Yeah.

[Katie Greifeld]

Okay. Bringing it back to Haverford, I knew.

[Unnamed Speaker]

It was going to go back to.

[Katie Greifeld]

Haverford, a beautiful Philadelphia suburb on the Main Line. Apparently they sold the four bedroom colonial on Haverford Station Road in late 2024 for $865,000, which seems pretty cheap.

[Unnamed Speaker]

You know, it's funny when you said, can I tell you the most surprising thing? I was like, it's probably going to have a preferred real estate thing. Yeah, it does seem cheap on the Main line.

[Katie Greifeld]

Yeah, four bedrooms. I wish I had bought it. I guess it was zoned for commercial use, though, because apparently a psychotherapy practice took over the space. Egan Jones is now legally headquartered in King of Prussia, so there you go, but very close to Haverford College. Beautiful, great nature trail, which I've run hundreds of miles on.

[Matt Levine]

Foreign.

[Unnamed Speaker]

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Near you the data that matters for your investments.

[Katie Greifeld]

The entire auto sector is higher today.

[Unnamed Speaker]

And analysis on the companies making this news.

On Wall Street, Tesla's been a stock.

That'S been in focus.

[Katie Greifeld]

Shares have really been all over the map this morning.

[Unnamed Speaker]

Listen to the Stock Movers Report from Bloomberg.

Let's talk about some other decliners.

It's your short audio report on the day's winners and losers in the stock market, second biggest driver in terms of points for the S&P 500. Subscribe to the Stock Movers report on Apple podcasts, Spotify or wherever you list.

[Katie Greifeld]

I have to go in nine minutes, Matt.

[Unnamed Speaker]

Well, then let's talk about whatever the third thing was.

[Katie Greifeld]

Let's talk about Paul Marshall and Ian Wace. Yes, the billionaire odd couple, as the Wall Street Journal called them in a recent profile. This was so well written. I really enjoyed reading this by Caitlin McCabe over at the Wall Street Journal.

[Unnamed Speaker]

Right. There's a great anecdote at the end about any hedge fund. They give job applicants puzzles and challenges and stuff. As you know from our discussion at.

[Katie Greifeld]

Puzzle Hunts, still recovering from that episode.

[Unnamed Speaker]

And Wace once challenged a group of hires to visit the most countries in Europe within 24 hours. And one guy went to every embassy in London. So he won on a technicality and they hired him. Weis says it was a bit too cute. I was really thinking about like, you know, it's not like everyone at a hedge fund needs to be like a person who can find a game to, you know, get around the stated rules of a problem. But like, you want some of those people at your hedge fund. That's a useful skill. And like, you know, if you like give someone a challenge like that and they come back and they're like, ah, I cheated. Gotcha. You're like, okay, fine, you got a.

[Katie Greifeld]

Job, come on in.

[Unnamed Speaker]

Yeah, right. That amused me. I mean, the main thing that is so interesting about Marshall Waste is they have found this way, they call it tops to monetize sell side research and sell side stock tips. You run a hedge fund, people are calling you all day from banks saying, yeah, you should buy this stock conventionally. The response is, well, I run a hedge fund and you don't. So if you're telling me to buy this stock, clearly I'm better at this than you are, so why would I listen to you? Marshall Mace is like, we're going to write them all down and we're going to see if any of them provide useful signals. And now they have this very complicated quantitative system that extracts signals from what their cell side coverage tells them. And that is endlessly fascinating because one thing that is happening here is they can understand the sell side analysts better than those people understand themselves because they're putting it into a quantitative model. And the sell side guys are just like calling clients all day and so like, you know, they have the anecdote of like, you know, a research analyst who has really good ideas but tells you to take them off too soon, he cuts his winners too soon. And they will analyze that and see that he always cuts his winners too soon. So they'll just ignore him when he cuts his winners. And like they will do better with his recommendations than he will do with his recommendations. And so there's a lot of stuff like that where like, you know, if you know that someone is really good in the morning and really bad in the afternoon, then you only trade on her ideas in the morning and, and you make more money than if you just naively took her ideas. There's sort of two skills at a hedge fund, right? There's being an analyst, which is understanding companies and coming up with ideas. And there's being a portfolio manager which is making the last step of turning it into a trade and taking off the trade and figuring out how much risk to take. And they are being the portfolio manager with thousands of analysts who work for their sell side coverage. And they are taking the raw information of the analysts and turning it into useful trades that make money for them. Or that's like the basic idea.

[Katie Greifeld]

Yeah. It very loosely reminded me as I was reading this profile of something we've talked about before, which is you have short sellers who write research reports and then they sell them to hedge funds to actually do the trades.

[Unnamed Speaker]

Yeah, and they do some of that too. They do that. Like there are some other hedge funds who are like, we can't do this trade for whatever reason, but you run a giant multi strategy fund, you could put this trade into your portfolio. And so they do it.

[Katie Greifeld]

Yeah. I also thought it was funny. I mean, the, the article in the Wall Street Journal spent some time talking about how they have many fewer employees than a citadel. For example, I think they have 750 employees versus Citadel's hedge fund has somewhere in the ballpark of 3,000. But it feels like, you know, they've outsourced for a lot of their trade ideas. So that potentially lightens the headcount needs.

[Unnamed Speaker]

Yeah, those headcount comparisons are always like, I never understand them because conventionally you need less headcount to do quantity things. There are different kinds of businesses in a hedge fund and some of them require more headcount than others. But yeah, intuitively, if instead of employing a lot of analysts to find ideas, you just employ your sell side coverage to find the ideas, then you need fewer analysts. I will say that when I write about this, I get a lot of emails from people who are cynical and the cynical take on this system and other funds have done this. And blackrock ages ago got in trouble for doing something. Not this, but a somewhat related thing, which is sending out an analyst survey. People don't like this because they worry about fairness. If you send out a survey of analysts and you say, what do you think about this stock? Some of the analysts might say, oh, I think it's bad. While they still have a buy recommendation on because they're going to later change their buy recommendation, you might get a more updated view than the published sell side research analysis. Similarly, if you're surveying your salespeople and you say, what's a good trade idea? One worry that a lot of people have is that your salespeople will say to you not the idea they just thought of, but rather something that is predictive of client flows. The salespeople know a lot about what other people are doing, and if you ask them for their best trade ideas, they might be leaking information to you. This is a worry that people have. I don't know if it's true. And in this journal article, they point out that because of the way that Marshall Waste does it, which is like with this automated system that has lots of timestamps and a lot of data, they have a better audit trail than the conventional hedge fund approach of calling up your salesperson and saying, hey, what are other people doing? Right. It's arguably a more transparent and less risky thing than the normal fundamental manager model. But it is a thing that a lot of people worry about, that you're leaking other institutional flows because your salesperson is trying to compete to give Marshall Waste the best ideas.

[Katie Greifeld]

Yeah. And the article does mention that when this started in the late 90s, there was some skepticism, some suspicion that. Is this even legal?

[Unnamed Speaker]

I can report from my email that that skepticism remains.

[Katie Greifeld]

It remains. Yeah. Well, something I always think about when I read that is, you know, I try to imagine a hedge fund like this launching in 2025 and what the reception would be like. It's easy to read this and be like, oh, well, it's been around for 30 years, so it must be okay. But I imagine something like this launching now, you know, there would be endless ink spilled about that.

[Unnamed Speaker]

Yeah, I mean, you really do need scale to do this because like, you need people to fill out your little form. Like, like when, you know, like the company that got in trouble for doing this was 10 years ago, they settled with New York. It was Blackrock, because, yeah, Blackrock, they can do whatever they want. If they ask analysts to fill out forms, they'll fill out the forms. If you started a new hedge fund today and you asked every research analyst to fill out a form, they wouldn't do it. But yeah, there was also. I forget what it was called, but there was this startup hedge fund in the last year or two that was like their business model was, we're going to have analysts and we're not going to have portfolio managers. We're going to have an algorithmic thing that will aggregate the analyst recommendations into a portfolio. Basically, we were going to keep having human analysts because they're valuable, but we're going to automate the portfolio manager job. That's not exactly this, but it's related. This one, they do the portfolio manager job, but it's very quantity. They're using algorithms to aggregate the investment ideas that they get from the sell side and also doing other stuff. I don't mean to suggest that's all they do, but that's the thing they're kind of famous for. But the no PM thing was a Little similar idea.

[Katie Greifeld]

There's a quote from either Marshall or Weissen there talking about how we're not just taking Joe Schmo's stock ideas, we do more than that. They do have, in addition to this, tops is about 40 billion of their 70 billion in assets. They do have a fundamental stock picking side of the business as well.

[Unnamed Speaker]

Yeah, I assume that by the way, like this is not in the article and I don't, I don't actually know how true this is, but like, certainly if you run a business that rigorously analyzes the investment ideas of hundreds of sell side people, if you notice that one of them is really good, you should probably hire that person. You should probably move them over to your fundamental stock picking site rather than just let them give their ideas to everyone.

[Katie Greifeld]

This Wall Street Journal article spends a lot of time talking about how different these two guys are. And it was a lot of fun to read this, but it's unique to see this hedge fund works so well. They founded in 1997 or something. And we have the very recent example of Two Sigma, for example, its co founders getting in such a brawl that they had to be separated.

[Unnamed Speaker]

Two Sigma's also worked quite well.

[Katie Greifeld]

Yeah, I know, but just in terms of the relationship there at the very top, you know, there was some intervention. So that was a charming factor in this article.

[Unnamed Speaker]

I find it refreshing when two people are like, yes, we've worked together for 30 years. It's a really good professional partnership. We don't socialize, it's just the job. I don't know, that's kind of cool. It's like us.

[Katie Greifeld]

Yeah, exactly.

[Unnamed Speaker]

It's like our podcast.

[Katie Greifeld]

It's all for the camera. You guys can't see, but it's all I'm looking at is myself in the return. Okay, I have to go now.

[Unnamed Speaker]

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[Katie Greifeld]

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[Unnamed Speaker]

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[Katie Greifeld]

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[Unnamed Speaker]

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[Katie Greifeld]

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