Sebastian Mallaby

An excellent history of hedge funds that combines narrative with more technical analysis. It combine the detailed luck and idiosyncratics of history with clear examples explaining concepts such as crowding, balance sheet effect, leverage, shorting, currency trades and survivorship bias. It's to be expected from someone who wrote for the Economist. The book is denser than I thought, but it was thoroughly enjoyable.

The book's protagonists are hedge funds and their founders. Sometimes for a show more book this length, the descriptions of their idiosyncrasies drags on, and their features tend to blend anyways but the book is generally excellent.

There's a few themes that the author returns to, which are explored in depth. The main theme is the tension between efficient markets theory and the success of hedge funds. The author makes several interesting observations. Some of the hedge funds' success can be attributed to exploiting well known problems with efficient markets hypothesis, such as currency bets against stubborn central banks/governments, Steinhardt's block trading, and institutional needs that are not driven by economic rationale. Other successes are more difficult to explain within the theory, and the author seems to believe that there exist trends that can be exploited. This part of the author's hypothesis seems more vulnerable to attack. For one, the strategies of quantitative firms like the Renaissance fund are highly secretive (the author has the good grace to admit so), so it's difficult to evaluate trend surfing claims. Other themes are the difficulty of hedge funds keeping their edge (typically their competitive advantage is learned by others or changes in the market moot them), or how many times hedge funds had pre-empted academia. In particular AW Jones's measurement of volatility of stocks to hedge, (years before CAPM) and his use of shorting and longing to hedge (years before portfolio theory) seems to demonstrate Taleb's complaints against academia to be based on some truth. Another background theme is the question of whether hedge funds act as correctional forces to the market, bringing prices in line with their fundamental value (allocating capital correctly) or just make the gyrations of the market more extreme. The author brings up the societal good that hedge funds have done by providing liquidity, bringing exchange rates to the proper rate, increasing the endowments of universities, and leading the charge of investments into emerging markets.

The book really does an excellent job (as far as I can tell) explaining Soros's breaking of the pound and the collapse of LTCM in detail (both giving and detracting credit where deserved). I was impressed by the detail of the book. In particular that it referred to Mandelbrot's power law observations and the fact that the 20% performance fee comes from AW Jones's contention that it was the fee of phoenician merchants. I wish the book spent more time on Paulson's bet, and the book does not even mention Bridgewater, but the breadth of the book was still impressive.

The book has an interesting conclusion, even though it seems a bit disjointed from the rest of the book. The author contrasts hedge funds with investment banks and commercial banks during the crisis. He argues that hedge funds, with their paranoid culture, and performance fee incentives generally fared better than banks. Additionally, hedge funds rarely became too big to fail, when they did they did not disrupt the broader market generally. He recommends that the government not regulate hedge funds unless they become too large. It's a long read generally, but enlightening and does not disrespect the intelligence of the reader. show less

Outsiders of the tech/startup world have a skewed view of VCs.

VCs are villains for the media. Some entrepreneurs view them as saviors. Many young folks want to become VCs to make a dent or “change the world.”

When I took a plunge into startups a decade ago, I wore all the above lenses to view the VCs. But the truth is somewhere in the middle.

This book does an excellent job of compiling the history of VCs. Doesn’t valorize or villainize or victimize VCs. It paints a good picture of what show more VCs do and why they do it. It also rightfully criticizes the lack of diversity and other follies. It also contains some damn good company founding stories.

Highly recommend it for business history enthusiasts. show less

“Why is it, particularly in the financial industry, we see such limitless greed? You have to look at the nature of money. Money is not like a commodity, commodities need inputs, money doesn’t need any inputs, so from the supply-side there is no constraint whatsoever, you can produce it in limitless quantities, technically speaking. Now from the demand side, the demand for money is equally limitless. So you have limitless demand and supply, in principle constrained only by regulation. So show more people operating in such a system if you de-regulate it, you automatically get limitless behavior.” – Dirk Bezemer

In the useful part of the book, Sebastian Mallaby takes us through a brief history of hedge funds. Hedge funds are defined by their 20% performance fees, their ability to go long and short, and their obscene use of leverage. Mallaby focuses on the heads of the most successful funds and describes some of the great financial booms and busts as seen from their eyes.

In the less useful PR part of the book, Mallaby gets an opportunity to indulge in his worship of money, incessantly reminding us of a fund’s size and rate of return. And more troublingly he engages in an apologia for the hedge funds and their operators.
First you have to understand that Mallaby is about establishment as you can get---son of the UK ambassador to France, Eton, Oxford, Washington Post editorial board, Council of Foreign Relations. His goal as dutiful public relations flak to his class is to convince us (basically the 99%) that hedge funds are on balance good (or at least no worse than any other institutional investment vehicle) and would do an even better job if…wait for it…they were less regulated.

For example, he defends a particularly noxious fund manager---used insider knowledge to make trades, controlled shadow “third markets”, cornered a Treasury auction and then applied a short squeeze on investors---with the vapid defense that such sociopathic behavior was good for the economy. That is, we should accept the crimes (never proven!) because on balance the fund manager helped the economy. Astonishing.

Another way Mallaby defends hedge fund managers is to tell us that hedge funds actually do something for the real economy---provide liquidity or risk insurance, or allocate capital to those who can best use it, or something. But in actuality they make computer-automated trades in millionths of a second, not knowing or caring what it is they are trading.

The history shows hedge funds can be destructive to ordinary men and women. Soros’s attack on the English pound and Thai bhat are discussed in the book but it’s mitigated in Mallaby’s eyes because Soros wasn’t completely predatory in bringing about the collapse of all the East Asian economies. Today, great reserves of dollars must be held by foreign governments to stave off speculative attacks from hedge funds. When it comes to choosing between funding an inoculation program or buying Treasury Bills, the governments, for their own safety, have to choose T-bills. And in so doing reinforce the US-dominated global financial system. This bigger picture seems lost on Mallaby.

Written in the wake of the global financial crisis, Mallaby offers hedge funds as an alternative to banks to manage risk. Although he puts in a plug for progressive taxation, the main message of the book is that hedge funds have it all handled, get out of their way. Here I take Bezemer’s side and say that’s asking for trouble. show less

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THROWING money at a problem to solve it is pretty much like giving alms to beggars to lift them out of poverty: it doesn’t really produce intended results, except to create publicity stunts and assuage guilty consciences.

Without addressing the root causes of global and local economic crises and poverty, any entity, however wealthy, well-connected, or
well-intentioned, will be rendered ineffective.

While this may sound trite, obvious, and old-hat, it show more bears repetition, especially in Asia.

Fortunately, Sebastian Mallaby, Washington Post columnist, has taken it upon himself to emphasize this point more than once while writing about the triumphs and tribulations of Australian-born James Wolfenson, the first non-American to become president of the World Bank.

In The World’s Banker, Mallaby has dished out a dramatic narrative combined with substantial research to illustrate what even non-economists presumably know all along: that good politics is inextricably linked with economic development and that poor governance can introduce or exacerbate a crisis.

In 1996, just a year before the Asian crisis struck, the World Bank and its Bretton Woods sister, the International Monetary Fund, pumped in billions of dollars to strengthen the balance sheets of Indonesia’s state-owned banks.

Unfortunately, most of these funds went to undeserving borrowers,
including those close to the Suharto regime.

As a result, when the contagion hit, the banks remained on the verge of collapse, the very situation that the Bank and the IMF wanted to avoid which is why they released the funds in the first place.

The banks, in the end, barely had anything to show for except bad
assets, soured loans, and poor corporate governance.

In turn, the volatile mix of financial instability and the effects of a
regional crisis culminated in the resignation of president Mohamed Suharto in May 1998.

“The [World] Bank has been engaged for years in Indonesia but its
economists’ worldview had left no room for the idea that if you don’t get
the politics roughly right a lot of development progress may be wiped out in a few weeks,” Mallaby says in a chapter about Indonesia, the Bank’s poster country for its poverty reduction strategies (or at least before 1997).

Mallaby’s assertion could very well apply to the Philippines, a heretofore willing subject of IMF-inflicted structural adjustment programs.

With a yawning fiscal deficit, the current administration has ignored calls for an independent, no-nonsense audit of the power purchase agreements made between the government-owned National Power Corporation (Napocor) and independent power plants (IPPs).

While the justice, finance, and energy departments have said that most of the contracts are on the level, various independent studies indicate exactly the opposite.

Like the huge, fraudulent debt incurred from the construction of the Bataan Nuclear Power Plant, the government continues to honor these deals, which binds Napocor and consumers to pay the IPPs for unused and even ungenerated power, which, incidentally, is the reason for the country’s current fiscal mess.

Although the administration remains optimistic that the new value added tax as well as a slew of other measures will address the fiscal deficit, it nevertheless remains politically fragile, especially with unresolved allegations of election fraud.

How then is development ever going to proceed when it appears that the country can’t even get its politics right?

Despite its reputation for swallowing every bitter economic pill that
both the IMF and the Bank have prescribed, the Philippines in the 21st
century is a stark contrast to Uganda five years before the millennium.

Burdened by a series of dictatorships and erstwhile anti-free-market policies, Uganda significantly reduced poverty incidence with the help of the hard-hitting yet sensible Emmanuel Tumusiime-Mutebile, a technocrat whom Mallaby refers to as a “hammer.”

As overall financial adviser to President Yoweri Musuveni, Tumusiime made it possible for the former British protectorate to hold its poverty conference in its very own territory, perhaps the very first country in Africa to do so.

Combined with the efforts of Wolfenson and Jim Adams, then the Bank’s director for East Africa, Uganda’s poverty reduction initiatives — previously held in Paris — were discussed by donor country representatives, nongovernment organizations, and Bank officials right at the heart of Kampala, the country’s capital.

But it was more than a change of venue.

It was also a paradigm shift, the very instance when the World Bank — or at least under Wolfenson’s term — began to re-examine its ideas about development.

Nowhere was this transformation more dramatic than in the Bank’s engagement with Uganda.

The Bank, for instance, gave Musuveni money to build more roads even though it believed that these funds could be best used for education.

But then again, Wolfenson’s Bank — as Mallaby sometimes called it — was now more open to other ideas.

“There was a good case to be made for rural road building, which would link poor farmers to markets, boosting their incomes and therefore their ability to pay for school fees,” Mallaby writes. “If the Ugandans did not want money for education, was it wise to jam it down their throats?”

As Mallaby shows, this kind of pragmatism could only have happened under Wolfenson’s term, whose early years were marked by swift, decisive, and positive action, especially when its dedicated executives intervened in Bosnia.

Although brash and impulsive, Wolfenson was able to transform the World Bank from a centralized and stodgy institution into a flexible agency which, more or less, willingly worked with nongovernment organizations to help lift millions out of poverty.

However, Wolfenson was not always on target, a fact well-documented by Mallaby who took the extra effort to ensure that the portrait he has painted is accurate and balanced.

Aside from firing old hands or forcing their resignations, Wolfenson, for better or for worse, created unnecessary tension in the Bank’s board by deliberately withholding discussions about policy shifts.

Due to Wolfenson’s single-mindedness and a mania for doing things his way, one G7 country representative recited a poem during a meeting, comparing him to Narcissus.

These anecdotes, peppered with policy framework documents and strategy papers, only underscores that The World’s Banker remains a compelling read.

Its quick narrative pace, together with its intention to avoid development jargon, has made the book accessible, especially to regular readers, giving them an inside look at the workings of what may well be the only bank in history directly participating in programs which help the
world’s poor. show less