← Slate Money
Slate Money
The Worse Than Marxism Edition
00:37:49
Slate Money on why we should be outraged by the makers of EpiPen, passive investing, and hedge funds.
Loading summary
Transcript159 lines
- [00:00]
A
The following podcast contains explicit language.
- [00:08]
B
Hello, and welcome to the Worse Than Marxism edition of Slate Money, your guide to the business and finance news of the week. I'm Felix Salmon of Fusion. I'm joined, as ever, by Jordan Weissman of Slate magazine.
- [00:30]
A
Hello.
- [00:31]
B
I'm in bed. Berlin, of all places. He is in the Slate headquarters with our stand in.
- [00:40]
A
Oh, my gosh, it's me.
- [00:43]
B
So we have the most awesome stand in for Kathy o'. Neill. Stand in. Would you please introduce yourself?
- [00:48]
C
Hi, I'm Lynette Lopez. I'm the senior finance correspondent at Business Insider. Sometimes I talk to Felix and so he invited me. It's. It was all very casual.
- [01:01]
B
All very casual, long standing casual acquaintance. But we also. Lynette, you want to plug your podcast. That's what you do.
- [01:07]
C
Oh, yes. When you get on other podcasts, you plug your podcast. My podcast is called Hard Pass. It's with a young man named Joshua Barrow who you might see on msnbc. He also writes for Business Insider. And our podcast is much shorter than this one. It's only six to eight minutes. And it's called Hard Pass. As I said, rejecting the business of everyday life, we talk about, you know, business, finance, markets, money.
- [01:34]
B
Not so different in that case from state money, except for in much more bite sized digestible chunks. We have three bite sized digestible chunks for you. As ever this week we are going to talk about hedge funds and why they seem to be losing their luster. We are going to talk about active management or passive investing rather, and whether it is worse than Marxism, as a research report says. But mostly, or at least first we are going to talk about the crazy drug price scandal of the week. We have a new Martin Shkreli this week, do we not, Lynette Lopez?
- [02:13]
C
Yes. And the new Martin is a lady. Her name is Heather Brash.
- [02:17]
B
This is equal opportunity evil. Yeah.
- [02:20]
C
Anybody can Martin Shkreli. Anybody can Martin Shkreli.
- [02:23]
A
I don't know if they can do it the same verb as Martin Shkreli, though. That's the question.
- [02:27]
C
I don't know. But ever since this political campaign started, do you know what I keep asking myself? Remember when we thought Martin Shkreli was the worst America had to offer?
- [02:35]
A
Yeah.
- [02:36]
C
Ugh. Things are just so dark. And now we have another.
- [02:39]
B
Have you found someone worse than Martin Shkreli?
- [02:41]
C
This woman might be worse than Martin Shkreli.
- [02:44]
B
Okay, okay. So who is this woman and what is her name?
- [02:46]
C
Her name is Heather Bresh. She's the CEO of Mylan. Myelin. What is Myelin Myelin is the pharmaceutical company that owns, distributes, sells EpiPen, which is the drug that stops people from having allergic reactions from their throat closing up. You know, you know, an apupen, you accidentally eat a peanut, stick it in your skin, you don't die, you get to the hospital, you get treated, you're good to go. It's a life saving thing. And Mylan bought the drug in 2007 and since then the price of the drug has increased by about 500%. So now it's gone up from like.
- [03:24]
B
What, 50 bucks to 600 bucks, something like that?
- [03:26]
C
Yeah. Now the retail price of the drug is 608. Most people pay out of pocket around $300 for the drug. And that's where this outrage is coming from. You know, kids are going back to school and Mylan has really spent a ton of money, like a shit ton of Money on getting EpiPen into schools, into parents hands, encouraging everyone that they need to have it, like dentist's office need to have it in their emergency pack, like all this stuff. They're doing a deal with Disney World to make sure that all the hotels and resorts have EpiPen on, on deck. This is a huge outreach for them. They haven't really innovated the product very much.
- [04:05]
B
The product hasn't improved. The product has also not become any more expensive to manufacture.
- [04:10]
C
No, it's still about $3 to manufacture an EpiPen.
- [04:14]
B
They caught the cost of manufacturer is 3 dol. Cost to the consumer is $608. And what's also fascinating to me is now you and I and everyone else knows what happens to emergency kits wherever they are, whether they're in schools or bathrooms or at Disney Worlds or whatever is. They just sit there gathering dust most of the time. And once in a while someone will try and get a band aid from it. But the one thing which you're very unlikely to do in any given year is actually use the EpiPen in any given emergency kit. And most of the time when you're dealing with emergency kits, that's no big deal. You know, the medicine, the bandages, the band aids and everything else in the emergency kit just sit there.
- [04:56]
C
But EpiPen expires after a year, so you gotta replace it if you're gonna be up to code. I think that's what our Felix Salmon is trying to get at here.
- [05:04]
A
Yeah.
- [05:04]
B
And that's what makes it so uniquely evil, that they're trying to spread it around the world in a way that forces people to throw out $600 worth of EpiPens every year and replace them with a new EpiPen which they're equally unlikely to use.
- [05:19]
C
So, and here's the deal. So yesterday, Heather Brash got on CNBC to try to explain herself. No, nobody really bought this shit. But okay, she tried. She said, hey, you know, the, the medicine is just too much regulation. It goes through three or four hands before, you know, it gets to the consumer. That's too much. Our health system is broken. Which she has a point. It's broken, just not for that. She's insisting.
- [05:43]
B
She's the person breaking it.
- [05:44]
C
She's breaking it. And she says, you know, we have a system that incentivizes us to raise prices. No, no, no, no, honey, it incentivizes you to make money like any business. But no one told you to raise the price of an EpiPen 500%. Nobody told you.
- [05:57]
A
I thought that interview was really interesting because in the course of saying some incredibly tone deaf things and making a generally invalid, not very convincing point, she did actually point to some. She did actually gesture towards some real issues. And that is that, you know, there are multiple villains here. She was trying to argue that Milan itself is not really a villain in this case, that it's not doing anything wrong. I don't think she managed to say anything convincing there.
- [06:21]
C
No.
- [06:21]
A
But what she did actually, and what Mylan has maybe kind of, in a way it's almost, it's, you know, pulling away the curtain from all the other players in this industry and saying, look, look at all these other people who are, who are taking a cut of this $600 that you're paying. You know, one of them, for instance, is this group of companies called Pharmacy Benefit Managers. Right, right, of course. And this is a group of companies that there are companies like Express Scripts, CVS actually is one. Now there's one from UnitedHealth that most consumers don't really think much about.
- [06:53]
C
I think of them as the gatekeepers between the drug companies and the insurers. The insurers ultimately have to pay the bill for these drugs. And the PBM say, yes, this passes. No, they're like the Gandalf.
- [07:06]
A
Well, they're the middlemen. And the thing about their business model is, I don't want to get too ornate here, but basically it's taking a cut of the. It's, in the end, it's basically taking a cut of the drug as it passes from the manufacturer to the patient. That's really, you know, it's something called spread pricing where there's a difference between the amount they pay the manufacturer and what then gets passed on to the insurer or the company that insures its employees. But the point being is there are these middlemen who are, in some ways probably driving up drug prices. You know, PBMs will say, well, our job is actually to drive down the prices.
- [07:38]
C
Right.
- [07:38]
A
They make sure that discounts.
- [07:39]
C
They make sure that you get the lowest price.
- [07:41]
A
But because there's so much little transparency.
- [07:43]
C
Yeah. We have no idea what's going on.
- [07:45]
A
We don't really know what's going on. And so my.
- [07:48]
B
Wait, hang on, Jordan. Before we disappear completely down this PBM rabbit hole.
- [07:52]
C
Oh, my God. It's such a whole.
- [07:54]
A
Yeah, well, so the big picture here is that on the one hand, you have this company, Mylan, that is profiting by jacking up drug prices, right. And suddenly. And they did a very bad job hiding it. You know, what they're doing now is giving everyone this coupon for $300 so they won't have to pay as much out of pocket.
- [08:09]
C
And we need to talk about that, because that is some thievery.
- [08:12]
A
If they were being smart, they would have done that early because it would have hidden the whole. The whole game they play in for the pharmaceutical industry is hiding the actual cost of the drugs from the patients. They make their money off of insurers, for the most part. And so the goal is to make sure people don't realize how much money is getting passed, how much is getting charged to the system. They didn't do that. So now there's this outrage. However, in their kind of flailing attempts to save their own image, they're kind of exposing that there are all these other systemic problems. And I think that's fascinating.
- [08:43]
C
And what I.
- [08:44]
B
Hang on a second. I just wanted. Because I still don't quite understand what Jordan said here. Are you saying that there's a systemic problem with pharmacy benefit managers?
- [08:52]
A
Yeah, I think there probably is.
- [08:53]
C
There's a systemic problem with the relationship between pharmacy benefit managers, insurers, and drug companies. There's a lot of collusion, opacity, and things that Elizabeth Warren referred to in an April congressional hearing as kickbacks. I mean, you can't play this game with government insurers. You can only do it with private insurers. And there's a reason for that, as Warren pointed out, and that's because it would be illegal. Now, here's the thing about these patient assistance programs, coupons, whatever that.
- [09:23]
B
And I want you to refer to this while using the phrase as A mom?
- [09:29]
C
As a mom.
- [09:30]
A
Oh, yeah, we have to, like, talk about that.
- [09:31]
C
Yeah, that's the one that hit my gag reflex Yesterday, was on CNBC. As a mom, I know how important EpiPen is.
- [09:39]
A
Well, she also said.
- [09:39]
C
And then I gagged.
- [09:40]
A
She said, nobody was more frustrated about this than me.
- [09:43]
C
Nobody. But then at the end of the interview, when she was asked point blank, are you going to raise the price of EpiPen? She was like, I, you know, we're just going to work with Congress. It's like, just say you're going to raise the price. Just say it. Because you know what I know? Here's what we know. Here's what we know about Heather Brush's compensation. We know that about over 80% of it is tied to incentives to stock or to earnings per share incentives. And there's a big payday for her on March, in March of 2018 if she can get her company's earnings per share, where it sits at a little below $5 in 2015, up to $6 now or $6 in 2018, 2017, 2018. So she has a huge incentive here to really, like, blow the business out of the water, really hit a home run here. And the issue is the rest of the portfolio is not that interesting. Most of the gains that Milan has made have been by jacking up the price of EpiPen.
- [10:40]
B
So what we have to appreciate is that right now, the poor woman is scraping by on a mere $18 million a year. And if she wants to actually make a respectable amount of money, she's going to have to raise the price of EpiPen even more than she's raised it already, because, I mean, it's not easy getting by on 18 mil a year.
- [10:57]
C
Exactly. And she stands to gain about like, $75,000, 75,000 shares or something in the company if she hits that $6 mark. Like, you know, it's quite an incentive to really, you know, blow this out of the water. And what's really gonna help her do that are these patient assistance programs that she's touting as help for the consumer. What they really do is allow drug companies to maintain price. The consumer's like, you know what? I'm not paying anything, so I'm not going to complain about this. But the insurers are still footing the bill on the other side, and the American people have to deal with higher, higher insurance premiums across the board because of how expensive the drugs that we don't know that we are taking are. Does that make sense? Because I'm confused.
- [11:45]
B
That makes perfect sense to me. And then the other thing is that EpiPen is like, with exactly what I was talking about with this idea that most of the time it just sits in boxes and gathers dust and then gets thrown away because it's expired. EpiPen is a classic example of us writing prescriptions or just simply buying way more drugs than we really need. There's been a huge increase in the amount of EpiPens sold over the past few years. Mylar has been good at that. And there has been no particular decrease in the amount of deaths associated associated with anaphylactic shock.
- [12:23]
A
Well, they're so rare to begin with. It's a really low base. But that's. I will. So I want to push back on that a tiny bit. As someone who's gone through anaphylactic shock who does carry an EpiPen, it ain't fun. You know, I've been there, you know, on the hospital bed getting the IVs and stuff and trying to deal with it like it's a scary experience. And the, you know, you don't even. The threat of it. If a parent knows there is something that could prevent their kid from even potentially maybe going to that experience, I don't think it's a bad thing to have these things widely available, you know, and distributed. The problem is, Again, in the US we pay $600, where you go to Canada and you get it for 11 bucks. This is crazy talk. The idea of distributing these things en masse is not a bad idea. It's just the price of this.
- [13:12]
C
And are you ready to be outraged?
- [13:13]
B
Capitalism. And this is why we're calling this. I'll be outraged in a second. But this is why we're calling it the worst and Marxism edition is because under capitalism, normally, if you produce a lot more of something, the price goes down. It's only in this weird kind of pharma world where you can produce a lot more of something and the price goes up. But, yes. Lynette, wrap us up here.
- [13:33]
C
So what this. So what Brash said on CNBC yesterday was that the thing is, America's high drug prices are subsidized. Subsidizing drug. Lower drug prices for the rest of the world.
- [13:44]
A
Which is true, but to some extent.
- [13:48]
C
But what the heck. No, we're not. Yes, our high drug prices for R and D. If we're awarding companies for innovation, yes, we should. We are subsidizing those. But if your only innovation that you're bringing to a drug is to market it and put it in the hands of dentists and inside of like pharma pharmaceutical kit or emergency kits at Disney World. No, that is bullshit.
- [14:13]
A
I think that there is some exaggeration there, but I do agree.
- [14:17]
C
There's no exaggeration there.
- [14:18]
A
No, no, no, no, I'm not kidding. No, on her part saying like, oh, well, we're doing this, you know, the US people are doing this great benevolent thing for the rest of the world. That's it. I think there is some, A lot of agreement that if the US were to significantly lower its own drug prices, prices in the rest of the world probably would come up to meet ours a bit. Just there would be.
- [14:35]
B
No, I mean, that's not. I think EpiPen is a classic counterexample to that and that the prices in the rest of the world are much closer to the kind of prices that we would have in the US if, for instance, the government was allowed to negotiate drug prices, which they're not allowed to negotiate because Republicans and Democrats too. And there's no real evidence that. I mean, there's two very different statements. One is American drug prices are higher than in the rest of the world. And then the other one is that there's a subsidy there. And the first is true, but the second one just is not.
- [15:11]
C
I mean, I've been covering Valiant for the last two and a half years and those inflated prices that Americans are paying for a stupid toe fungus drug that Valiant was selling, those don't subsidize shit for the rest of the world.
- [15:26]
A
That is, yes, that is absolutely true.
- [15:28]
C
Like, what are you talking about?
- [15:29]
A
That is absolutely true. When you're in that. Yes.
- [15:33]
B
So the next topic. We talk about hedge funds a lot on Slate Money, but Jordan, what is the asset class as a whole up to these days? And is everyone finally waking up to the fact that they're a miserable place to put your money?
- [15:49]
A
Rip off, Felix. I thought we agreed that. In fact, I'm certain that we agreed on this show that hedge funds are a compensation scheme that have pass themselves off.
- [15:59]
B
That is an asset class compensate. Well, it's not. I mean, it's not unique to hedge funds.
- [16:03]
C
Oh, I've never been on this.
- [16:04]
B
They have the same compensation scheme.
- [16:06]
C
Wait, wait, wait. I've never been on this show, but yes, absolutely.
- [16:12]
A
In any event, yes, that's the most enthusiastic.
- [16:14]
C
So true. The 2 in 20 is. Is. They shouldn't be called hedge funds. They should be called 2 in 20.
- [16:20]
A
Yeah. So it's a. It's a not. It's A not very good year for hedge funds. Bloomberg is reporting that there is the largest withdrawal from hedge funds since. In July, since 2008 and 2009. It's about $25 billion getting pulled out of them. And they are currently, if current trends continue on pace to have the first net withdrawals from hedge funds as a whole since. Since the financial crisis and the immediate aftermath thereof. And why is it happening? It's because they're tending to lose money this year a lot. Hedge funds are not performing especially well. And Lynette, I know you've been writing about this idea that it appears hedge fund managers as sort of a group are just out of ideas. It's like they kind of. They've resorted to investing in Microsoft.
- [17:08]
C
They've resorted to investing in Morgan Stanley.
- [17:11]
A
Yeah.
- [17:12]
C
How much money can you squeeze out of flailing Morgan Stanley okay, so here's the thing. When I was traveling around the United States in May for what is conference season on Wall street, the first, my first stop was the Milken Global Conference where Steve Cohen, formerly The founder of SAC Capital, now known as Point72, sat on a panel with a bunch of his peers. And there was some self flagellation going on. You know, these guys were like, you know, there are too many guys in the market. We can't make money. February was really scary. Mom, help. Like, it was very disturbing to watch as masters of the universe say, you know, this market is just too tough for us. It's just too challenging. But one of the things that they've been blaming all of this on is the fact that there more hedge funds in this country than there are Taco Bells. And they want, they want all the, all the old school guys. What they want is just the younger guys to get the fuck out. Like, do not pass go. Do not collect $200. See yourself to jail.
- [18:16]
A
Is that such a unreasonable.
- [18:19]
C
So hilarious.
- [18:20]
A
Well, I feel like. But you know, isn't kind of the proliferation of hedge funds actually part of the problem? That what might have, you know, was essentially the idea is you would have these small investment shops that really did have some sort of edge, are now giving. Now when it becomes trendy, it's, you know, like.
- [18:34]
C
And they're all sharing their ideas together. They all go to the same conferences. I mean, some of them are all in the same buildings. It's like, then you have situations like Valiant Pharmaceuticals where a stock is a hedge fund parking lot. And when it loses 90% because nobody did their homework, because no one has any ideas anymore, they're just cribbing off everyone else. Well then everybody else hits the floor. Everybody hits the floor.
- [18:55]
A
So that's interesting. Is it possible that we're actually seeing like more correlation between hedge funds now? Because they're all sitting in a room talking to each other.
- [19:01]
C
Absolutely. And so it is becoming an asset class. And when you talk to the old school guys about comp, I know some of the, you know, great. The best top guys in this industry, they're still charging one in 21 and a quarter and 20. And these are the older school guys. It was about 2005, 2006 where you haven't had another wave of hedge funds starting. These guys were the ones who are like, you know what? 2, 2 and 20. How is that enough? Let's do 3 and 25. Fuck it, why not YOLO just like do it.
- [19:36]
B
I mean Jim Simons is 5 and 45, right?
- [19:38]
C
Sometimes he's insane. That's insane. And you know, I would say I think Einhorn is one and a quarter and 20 Chano's.
- [19:49]
B
So the question which I have is, is this a function, Lynette, of just so much like the once upon a time, as Jordan was saying, hedge funds were small and now they're big. And that once upon a time, you know, you would run a billion dollars and be like, oh my God, I have a billion dollars. And now there are these huge companies with names like Ox Ziff, where no one really knows who they.
- [20:11]
C
Oh my God.
- [20:12]
B
And they're running like $100 billion. And it's just so much money that you can't put it all to work in the opportunities. There's just not that much opportunity out there.
- [20:23]
C
One of my favorite hedge fund managers, I was talking to him after Brexit and he has his fund, I think 15 billion or something. And he was like, you know Lynette, he tracks like a 25 year old drug dealer. He was like, lynette, I just got too much paper. I can't move all this paper right now. I don't know what to do with it. And I was like, that's hilarious. But this seems like a very a problem I'll never understand. What I do understand though, what I do understand is that hedge fund at some point stopped being an investment scheme or even a compensation scheme. It's now it became a brand. And so you would say I'm running a hedge fund. And people would say, you know what? No questions asked, here's my money, please double it. Thank you very much. I'm gonna go over here now. And when I read your investor letter, I'll check in. That is how guys like value act, who were some of the big losers in the nasty Valiant takedown that happened, has been happening since October. That's how they get away with having no benchmark. They don't have to compare their returns to anything or anyone. And that's how they get away with then telling their investors, you know, what's our really smart idea? Do you know what's our alpha play? Do you know what we think is going to beat the market? Handing Morgan Stanley a billion dollars. Like, what are you talking about? Why don't I just.
- [21:46]
B
It's working at. They're not even handing Morgan Stanley a billion dollars. And we're going to come to this in the next segment, but what they're doing is they're handing someone with $1 billion worth of Morgan Stanley stock $1 billion and saying, we're just going to buy this stock off you. And how that helps anyone or how that like, has any salutary effects on anyone or anything is, is beyond me.
- [22:07]
C
Why don't you just get into your E Trade account, dictate that it log in and buy some fricking Morgan Stanley stock. How about that?
- [22:15]
A
I have a question. Are hedge funds to some degree suffering from some of the same problems that maybe Wall street did a few years ago, where you just, eventually you become institutionalized, you become sort of a stop on the path for Ivy League graduates and business school graduates?
- [22:30]
C
No, I don't think that's what's happening here.
- [22:31]
A
That's not at all.
- [22:32]
C
I think what's happening here is, as one of my favorite hedges from Chicago said, this guy, James Latinsky, there's about to be Venezuela for asset classes. Which is like, I was like, okay, that is the most rich people problem I've ever heard. And Venezuela doesn't deserve that. But what he's talking about is just things that are actually worth anything are very, very rare. Things that are actually priced correctly are very rare because we're in this low interest rate environment where the actual value of asset classes is incredibly distorted. So these guys who are actually looking for alpha, looking for value, are seeing stocks whose earnings are declining, businesses that don't seem to be, don't seem to be generating that much revenue, and yet their stocks are going up and up and up. Nobody knows when this is going to stop. Things are looking expensive. And so when people find something that they think might actually be worth something, it's like a rush towards that. And that has really impacted Hedge funds.
- [23:31]
A
So in a way, information is. Travels too fast. It's hard. It's too efficient.
- [23:35]
C
No, there's not enough good stuff out there.
- [23:37]
A
But also it means that what you're saying also is that essentially hedge funds used to be secretive.
- [23:42]
B
Right.
- [23:42]
A
And now there is no more secret, so this market has become more efficient.
- [23:46]
B
It's partly that, but it's mainly just that there's no. It used to be that you'd look at the market and there would be a bunch of different companies and assets which all had differing sort of value propositions. And you'd be like, which one has the best value proposition? That's the one I want to go into. And now you look at the market and no one has an decent value proposition. And you're like, you're all overpriced. And it kind of makes sense. It's intuitive that in that kind of a market, it's harder to generate alpha.
- [24:15]
C
Yeah. And. And these guys are all feeling it, even the most brilliant of them. And, you know, it sucks because, you know, America used to think you guys were smart, but now you look like a bunch of dummies.
- [24:25]
B
So talking about a bunch of dummies, I need to talk, just to wrap this thing up, about this wonderful Sanford Bernstein report that came out this week, which everyone has had a field day with, which I'm sure was the intent, which said that passive investing is worse than Marxism. And passive investing, of course, is kind of the opposite of hedge funds. And how much would we love this report on a scale of like 1 to 10, Lynette?
- [24:50]
C
A gajillion trillion?
- [24:52]
A
I'm so on. I'm so at 11 on this. I'm actually. And I'm going to sort of try and defend it. I'm going to. I'm going to give it my best shot. No, A little bit, A little bit.
- [25:01]
C
I just met someone has to do this to me.
- [25:04]
A
Step up to the plate. Okay, so let's. So, Phyllis, you want to first, like, lay out their theory a little bit.
- [25:10]
C
Yeah.
- [25:10]
B
Okay. So the theory is that, as regular Slate Money listeners will know, passive investing is basically the gospel according to sensible people, which is that there's no way you are going to be able to go in there and be smarter than the market as a whole. Even professional money managers, as we've just heard, can't outperform the market. So the chances that you're going to be able to are about zero. So given that the market is over the long term, a sensible place to invest, rather than just Putting your money under the mattress. What you should do is just buy the market as a whole. Buy the index and set it and forget it, and then wake up 40 years later with a pension fund that is great, except for, according to Sanford Bernstein, the problem is that they've taken this to this extreme, sort of reductio ad absurdum. What if everybody did this? Then there would be no one driving one stock up or down relative to another stock. Companies could come out with monster earnings and the share price wouldn't move because passive investors don't react to earnings reports. Theoretically, a company could declare bankruptcy and the stock price wouldn't move because passive investors don't react to bankruptcy declarations and that you just have a bunch of massive mispricings in the market and nothing would react to anything. And the market wouldn't do its job of capital allocation.
- [26:39]
C
And then he swooned and we all got him his smelling salts and he was like, oh, vapors.
- [26:45]
A
And then we picked him off as Devon. Yeah, exactly. So, okay, here's the defense I'm going to try to mount because someone ought to.
- [26:56]
B
First.
- [26:56]
A
Yes, this is a thought experiment just to give people a sense. We're nowhere near the entire stock market being under passive management. I think the last I saw is like a third of assets or something.
- [27:05]
C
Which is a lot, though assets are flowing toward passive management because of things.
- [27:10]
A
As they should be. However, one thing people worry about is that as more people just buy, index stocks are just going to move together and they're going to be correlated with one another. Right. So there is some research out there that does, like, you know, academic research suggesting that this actually might not be that great for the way markets allocate capital. This is not a crazy idea they've come up with. There's a paper I found, for instance, from the Journal of Financial Economics from around, I think it's 2000, a Yale professor named Jeffrey Wargler, he looked at this. He looked at 65 countries, and what he found was that countries where there was less synchronicity between stocks, where stocks reflected the information about individual companies, supposedly more so the investors did a better job, by his measure of allocating capital. And the measure he used was basically how much money was flowing to industries where value added was rising, which is, I think it's basically, you know, who's innovating the most.
- [28:04]
B
So can I jump in here?
- [28:06]
C
Can I jump in?
- [28:07]
B
2,000? No, I'm going to let you jump in in a second, Lynette.
- [28:10]
C
Okay.
- [28:10]
B
Because I just want to do this thing first, which is this idea which is absolutely central to the Sanford Bernstein report and to this particular argument, that the main or even a primary job of the markets is capital allocation. And that did definitely used to be true. But now, as we've seen, when hedge funds give a billion dollars to a company, they don't actually give a billion dollars cut to the company. They just give a billion dollars to someone else who owned the shares before them. And the main way that companies are raising capital these days is actually in the private markets more than it is in the public markets. You don't see that many stock offerings. The number of IPOs is down, the number of secondary offerings is down. And while the number of bond offerings is up, the stock market is just not a way where it's not a place anymore that companies compete to see who has the highest share price so that they can raise money the cheapest.
- [29:07]
A
I, you know, and you and I have had this conversation before, and I fundamentally agree with a lot of that. I do think that the stock market and prices also, you know, what's happening in the stock market and the sectors that are thriving there do probably filter down to some extent to the rest of the economy and to the sorts of businesses that are getting private funding. You know, I haven't seen anyone formally look at that, but that is my feeling about things. It's not like tech. It's not like the venture capital world is booming and tech stock prices aren't.
- [29:38]
B
There is a connection, but that's exactly, no, but that's exactly what we saw. I mean, just a couple of years ago, we saw exactly that. The venture capital world booming and tech stocks trading on their lowest multiples of all time. But yes, Lynette, I think what we.
- [29:51]
C
Really need to pay attention to here is the fact that one, it's ridiculous, the idea that there will never be any active management. There will always be people who want to pay a premium for Alpha. There will probably just be fewer of them and they'll probably get paid less, which means that they'll have less money to have this clown write a paper about, about the Marxism and passive investing. I mean, what we're looking at here is not what talking about indexing, taking over the market is so extreme. But I think that we're also forgetting one of the greatest old man fights in financial television here over passive and active investing between Larry Fink and Carl Carl Icahn on national television, who screamed at each other basically at a conference. I believe it was last year or two years Ago in cnbc, the Delivering Alpha conference, Carl Icahn told Larry Fink that he was taking basically passive investing was taking the world into hell. Larry Fink clutched his pearls and said, you are a knave. And Carl Icahn was like, so what? And it was really awkward and very uncomfortable. But you're talking about two very different sides of Wall street here. Car Icahn is known as this corporate raider, you know, legendary 1980s hedge fund figure, very aggressive trader, tells people they're crybabies on tv. And then Larry Fink is this like, I wanna be treasury secretary. I run $6 trillion. How much is in?
- [31:27]
B
It's insane. And a large chunk of that was when he bought Barclays iShares out of the financial crisis. And that's where about half of his AUM assets under management comes from. And that's why he's now having to defend passive management, because iShares are all of these index ETFs which, which are passive management. I think I just want to tie this conversation up though by asking, you know, let's say that about a third of the market is passive right now. My question is what proportion of the market would need to be passive in order for the influence of passive investing to start being felt in stock prices? My personal answer would be north of 99%. But maybe I'm way too sanguine.
- [32:13]
C
I have no idea. But what I do know is that we're talking about active investing and we're talking the way Stanford talks about active investing is as if it's efficiently allocates capital. Like people aren't idiots. And I think that with the last two massive stock meltdowns, we saw Valeant and we saw SunEdison, which went bankrupt, the largest solar company in the world. Both of them had genius active as investors piled into the stocks. It was a bad allocation of capital. Sometimes people are dumb. So that's something that we need to keep in mind here.
- [32:49]
A
I also just one last thing to kind of contradict myself from before because I might as well. There is one half of this whole asset or this whole capital allocation thing that we're kind of not even talking about, which is the debt markets, that is capital allocation bonds and lending people money. But who wants to talk about bonds? Yeah. In the same paper I was just citing to try and maybe feebly support the Sanford Bernstein thing, it actually finds that the size of bond markets and debt markets actually have more to do with the efficiency of capital. Or it suggests that anyway. So we might actually be able to move to a 100% passive, worse than Marxism world and still have decent capital allocation because of the debt markets.
- [33:31]
C
So maybe let's just start. So maybe let's just start a Kickstarter for the guy who wrote that report and maybe you won't have to do things like that anymore.
- [33:40]
B
Okay, so, people, it's time for the numbers round. Lynette, did you bring a number?
- [33:46]
C
I got it. Crap. I mentioned. I mentioned my number accidentally in the Mylan thing. It's like, oh, no, I know, actually. Okay, so my number is 2014.
- [34:00]
A
Okay?
- [34:01]
C
Because since 2014, EpiPen has made over a billion dollars for Mylan. And that's like, the fuck are you raising the price for?
- [34:08]
B
A lot of money because they get to make a billion dollars. This is capitalism, baby.
- [34:13]
A
My number is $0.05. It's a very small number. It's a task. The state of Massachusetts is now going to tax every ride hailing ride, like Uber, Lyft ride, essentially, it's slapping a 20 cent tax on it overall, some of which is just going to be going to municipalities and the state. But 5 cents of that, every ride is going to be going to the taxi industry to subsidize it and help it move on to a brave new technological future. And a lot of people have been up in arms about this, like, oh, you're trying to subsidize a dying industry. But to me, this is more, you know, it's only supposed to last for five years. And to me, this is more just kind of political horse trading to kind of like get the rest of this tax on and kind of normalize and regulate Uber and Lyft.
- [34:59]
C
Totally.
- [34:59]
A
And the 5 cents is just kind of a bone, it seems to me, that they're throwing to the taxi industry so they don't get too angry about the stuff they didn't get in the bill. Things like fingerprinting Uber drivers that they really wanted. So it's a kind of silly sounding text, but I think in political economy terms, it's not the worst.
- [35:17]
B
Okay, My number is $10 billion. And this is my capital allocation number. Apropos the last segment, $10 billion is the amount of money that Apple is going to spend on R and D in 2016. That is bigger than the $7.7 billion budget of the National Science foundation, and it is also bigger than the entire VC investment into every single Silicon Valley and San Francisco.
- [35:45]
C
But how much is that as a percentage of their revenue that compare to Google? How does that stack up? Because I bet you it's not as much.
- [35:52]
B
It's about, it's about 4% of revenue. That's lower than other tech companies, but it's doubled over Tim Cook's five years at Apple. It's interesting that Apple under Steve Jobs actually invested a surprisingly low amount in R and D and was still incredibly innovative. Apple under Tim Cook has invested a lot more and hasn't been quite as obviously innovative, although we don't know what they are.
- [36:19]
C
Buying ideas is more expensive. It's about buying ideas.
- [36:22]
A
At this point, I imagine some of this just has to be the car, right? I mean, like, because cars are so R and D. I mean, when I hear 10 billion R& D, that just sounds like, you know, auto industry kind of numbers possibly.
- [36:33]
C
I don't know. We should ask Elon Musk when he's not sleeping on the floor of the gigafactory or writing love notes to Amber Heard.
- [36:39]
B
So. Oh, yeah. And for those of us who need a refresher on jargon, R and D is research and development, which is basically the amount of money you spend on all those lost science, all those lost centers known as scientists and researchers and people who make the world a more intelligent place.
- [36:58]
A
They don't put. They should put words for a living.
- [37:01]
C
Yeah.
- [37:02]
A
Really make some difference.
- [37:04]
C
Yeah, that's exactly, exactly. They should deal with a comment section. That's how they should spend their time.
- [37:10]
B
Okay, that is it for us this week. Thank you for listening to Slate Money. Do subscribe to the show. You can find it by searching for money in the itunes store. If you want to look at all of the other Panoply podcasts in the itunes store, you can go to itunes.com panoply write to us. The email address is always slatemoneylate.com Many thanks to Virlin Williams, the producer, and also to the executive producers Steve Lichti and Andy Bowers. And we will talk to you next week on Slate Money.