STABLEBOY SELECTIONS

Source: Michael T. Kaufman

“Technically his position was that of an arbitragist, albeit junior grade. In those days, arbitrage meant buying in one market and selling in another, seeking to take advantage of generally small variations in price. As Soros explains it, the idea was to spot a trend and position yourself. “Let’s say you noticed that Brussels was accumulating one particular gold stock in South Africa, so you would try to buy it in South Africa and then sell it in Brussels later in the day, that sort of thing.” It was a highly technical and professional activity involving a good deal of risk and the need to make speedy decisions.

“Through the late spring and summer, Soros hit a hot streak at Singer & Friedlander. The Ford Motor Company had gone public through an international distribution of shares. George realized that the demand for the shares in America would be higher than in Europe. At his urging the firm bought up Ford shares in London and sold them in New York, scoring a significant success.

“F. M. Mayer was not a member of the New York Stock Exchange. It functioned as an over-the-counter trader, and Soros’s job was to handle arbitrage in foreign securities, basically trading the same gold shares and oil shares in England. It was not a big part of the firm’s business. But barely a month after his arrival, Soros again found luck when the Suez crisis erupted in violence. Earlier that summer, Egypt’s president Gamal Abdel Nasser had nationalized the canal, seizing control from the internationally owned private stock company that ran it. In August Nasser expelled British oil officials from Egypt. Then in late October, Israeli forces launched a lightning attack and seized the Gaza Strip and almost all of the Sinai. Taking advantage of Egypt’s losses, Britain and France attacked Egyptian positions by air and established their own control over the canal zone until pressure from the United States forced their withdrawal and led to the creation of a U.N. peacekeeping force.

“Even after diplomacy forced the European invaders to pull back, scuttled ships and damaged locks left the waterway impassable and forced shipping companies to set their tankers on longer and costlier courses to transport their oil. Given the upheavals, the market in oil shares became very active, and Soros, using connections he had established in England, rushed in. He would look for opportunities in Europe, obtain commitments, and publish his offerings on the so-called pink sheets that were distributed to brokerages as a sort of mimeographed and quite primitive antecedent of the NASDAQ. Brokerages would call on behalf of their customers while prices often fluctuated minute to minute. Professionally, it turned out to be a productive time for the newcomer, and except for walking to and from the subway he had no time to explore his new environment.

“Eventually the Middle East tensions eased and the feverish trading in oil shares subsided. At that point, with the help of Paul Cohn, an older man at the Mayer firm, Soros devised a new market. As he recalls, his first such venture involved a Canadian company, Northspan Uranium, that was seeking capital to develop a new mine. Their bonds had warrants attached to them. After a specified period the warrants could be used to acquire shares. Soros came up with a scheme for trading the bonds and the shares independently. ‘We employed due bills,’ he explained. ‘Let’s say you sold the bonds to a reputable broker. The broker would give you back a due bill declaring that they would deliver the shares when they became detachable. And then you made a market in the due bills.

“Soros had found an inconsistency in the market and was exploiting price differences between the already matured shares and the due bills, which were like embryonic shares. He called it internal arbitrage ‘because we were trading one related share against another, as opposed to trading the same unit in different markets as in international arbitrage.’

“One of the people he met in this period was Alan C. Greenburg, now the chief executive officer of Bear Stearns, who likes people to call him Ace. In 1957, when Greenberg was a twenty-eight-year-old hard charger heading the arbitrage department at Bear Stearns, Soros would regularly call him on the direct phone line that linked the small Mayer firm to Bear Stearns. ‘George was always full of ideas. He would discuss them and if I liked them we would buy them together with George’s firm,’ said Greenburg.

“‘I remember one very clearly. Sperry Rand was coming out with a bond issue with warrants. Warrants were a nasty thing in those days. George said that if we sell the bonds we can create the warrants and they’re going to be valuable. Nobody had ever done this. So we bought these bonds and we sold them. And the people who bought the bonds from us were strictly bond people; they didn’t know stocks and they certainly didn’t know warrants, and they couldn’t wait to get out of the warrants, which they were happy to let us have for chicken crap. And then we bought the warrants, and they became very valuable and we started trading due bills for them and it worked out fantastically.’

“Greenburg said that after this he would regularly discuss things with Soros, mostly by phone or over an occasional lunch. ‘He was always working and I knew right away that he was a different kind of cat. He had all these incredible ideas. Back then there was no such thing as a researcher or an analyst; we called these guys statisticians–at Bear Stearns we had just one–and the research they generated was stuff that came mostly from the newspapers. George would share his ideas with me because for a young man I had a considerable amount of buying power and I don’t think F. M. Mayer let him have too much of a line. After Sperry Rand he came up with another warrant deal on Trans-Canada Pipeline. That turned out to be huge.’

“Greenburg said that in those days, Soros did not have the assets to involve himself in risk arbitrage, where the goal is to speculate in securities whose price might benefit from future corporate mergers. ‘Back then, his ideas never involved mergers, where things can fall through. He was discovering anomalies, and in his ideas there was no risk of the deal falling through. It was just right or wrong. When he came to me with the Trans-Canada Pipeline, I’m not sure I knew anything about Canada, but you didn’t need to know.’

“As Soros remembers this period, after Northspan he focused on warrants and due bills for other uranium issues and applied the approach to natural gas companies, which for a while became the core of his business. ‘As I said, it was not exactly my idea. Paul Cohn deserves the credit, the due bill was his invention, but he was too old to trade, so to speak; he didn’t have the stomach for it. So I traded.’ In addition to laying off warrants and due bills with Bear Stearns, Soros found a particularly big buyer for the Trans-Canada due bills in S. G. Warburg in London, where he had a connection.

“He had no trouble landing a new position with Wertheim & Co., a company larger and richer than F. M. Mayer. It had been founded in 1917, and, unlike Mayer, it was a member of the New York Stock Exchange, which meant that George no longer had to go through outside brokers to trade. He felt he was moving in the right direction. At the age of twenty-nine he would be the assistant to the head of the foreign trading department. The European Coal and Steel Community had been formed seven years earlier and notions of a United States of Europe were in the air. However wispy and premature such ideas proved to be, they were then generating a growing interest in European securities that went beyond the international markets of oil and gold shares. This gave George another opportunity, and he seized it. He was no longer simply a trader: his business card now bore the designation ‘analyst,’ a move that in his eyes was definitely a step up. ‘It was more interesting. I would become an expert in European securities.’

“‘What I was doing,’ says Soros, ‘was looking at European companies and trying to establish their values.’ Throughout Europe, companies were under no obligation to disclose the kind of information that under law companies had to make available in the United States. ‘It was all very opaque. You had to use your imagination to guess what the true value of a company might be.’ Sometimes he would work backwards from tax returns to establish that a company had far more assets than were being cited in perfunctory annual reports. He also began to visit the companies, a practice that was then unusual. ‘I was often the first one to interview the management.’ He spoke good German and good French, and while Hungarian is hardly and international language, those who speak it feel an almost conspiratorial solidarity with each other and therefore are more prone to share information or gossip.

“One of the first bargains he spotted involved Dresdner Bank. He learned that the bank had a huge portfolio of German industrial shares. ‘What I showed was the the value of this portfolio far exceeded the market value of Dresdner stock. These were hidden values because nobody paid attention to them. You could, of course, buy shares in, say, Siemens or Bayer and various other companies, but you could buy a large portfolio of Siemens and Bayer and these other companies at a discount if you bought Dresdner.

“This represented a major coup. He followed it up in 1960 by investigating German insurance companies and discovering an even greater hoard of camouflaged assets. Soros calculated that the shares in the portfolio of a company like Allianz were worth three times the market price of Allianz’s own stock. In fact, only some 30 percent of the stock was floating, because, a Soros also learned, the rest was reserved for an interlocking group of German companies. ‘The banks owned 30 percent of the insurance companies and the insurance companies owned 30 percent of the banks, and some insurance companies had shares in other insurance companies; it was all pretty incestuous.’

“With his report on Allianz and the other insurance companies, Soros scored yet another triumph. As with Dresdner Bank, he had not simply written up his findings; he had also taken them to powerful clients to get their orders. He was spreading his wings and working simultaneously as analyst, salesman, and trader. Within a year of coming to Wertheim he had gained access to very large amounts of money and very important players; Morgan Guaranty and Dreyfus were his two biggest clients. Making such contacts had not turned out to be very difficult. The reports he presented, based on his travels, were well-researched, well-written, and impressive, at least by the standards of the time, though years later Soros would look back on them as primitive. Still he claims to have been one of perhaps three people in America who were systematically analyzing European securities; like the one-eyed man in the country of the blind, he says, he was something of a king.

“Shortly before Christmas of 1961 he went to see Jack Cath, a Dutchman who was an important figure at Morgan. Soros admits to having been impressed by Cath’s debonair style in business as well as his flamboyantly sybaritic private life. In the summer he had visited Cath at his beach home in Southampton, a retreat he called the Cathhouse. Cath’s wife was a model, and Soros remembers that there were always many strikingly beautiful women around. But that winter, when he dropped in on Cath, he was preparing a report about the Aachen-Munchen group, a German insurance company that was another repository of intricately enmeshed holdings. He told Cath he had already determined that the stocks sold at a small fraction of the group’s total worth and added that he would complete the analysis when he returned from a Christmas holiday. Cath said: ‘Why should we wait until you do the study? Why don’t we just buy it?’

“The response delighted Soros. ‘He bought it, effectively blind. He bought it on my say-so. That was, in a way, the pinnacle of my power up to that time, that just on my say-so I had an unlimited order to buy. I was moving markets with houses like Morgan Guaranty behind me. You know for a young guy this can go to your head, and I certainly thought of myself as the cat’s whiskers.’

“He was adding to an unbroken string of successes that had begun four years earlier with his arrival in America. Each spike in the streak compounded his confidence and projected him further along on an upward spiral. ‘What I was doing was to some extent intuitive. I would look at the figures and I would feel things. I never actually learned to analyze a company. I mean I did not have the analytical skills that a normal analyst has. In fact there came a point when they introduced a certificate for security analysts, a sort of personal qualification. After avoiding it for a while I sat for the exam and I failed in every conceivable topic. At that point I told my assistant that he had to take it and pass it. As I understood it, the importance of the certificate would not start to matter for another six or seven years and by that time I would either be so far ahead that I wouldn’t need it, or I would be a failure, in which case, I wouldn’t need it.’

“His failure on the exam did not dent his self-esteem. ‘There was this European boom and I was right out front. I was the first to discover Dresdner Bank, the first to find Allianz. I discovered some pharmaceutical companies. I was a pathbreaker. I was a brash young man and I had a sense of my own power.’

“Having started in arbitrage with limited funds, he had been conditioned to operate quickly and seek immediate advantages. In years to come he would sometimes be compared with Warren Buffett, mostly for the huge amounts of money both men made during roughly the same time period. In fact, the two were entirely different in their basic approaches. Buffett has looked for undervalued companies and stayed with them over decades, steering them to prosperous growth. Soros has no interest in running companies or staying the course. He agreed with Lord Keynes’s observation that in the long run, we’ll all be dead. He moved in and out of markets abruptly, forming no sentimental attachments to companies, neither loving the stocks that brought him gains nor hating those that cost him. And he adapted a dynamic sense of time. ‘Investigate first and investigate later,’ he would tell his proteges years later, urging them not to hesitate but rather to act quickly when preliminary research pointed to some potential advantage. A decision that was right at ten o’clock in the morning could well be less right fifteen minutes later and quite wrong within an hour. Operating within such a framework encouraged both decisiveness and constant self-criticism. As in tennis he would review the play after the fact, trying to identify his errors. The idea was to find his mistakes early and correct them quickly so as to keep the losses as low as possible. Many years later, when Soros was asked what accounted for his extraordinary record, he would claim that self-criticism was the decisive factor. ‘I’ve probably made as many mistakes as any investor,’ he said, ‘but I have tended to discover them quicker and was usually able to correct them before they caused too much harm.’

“In 1962, he hit rough water. He had put a sizable portion of his savings into Studebaker shares. The Indiana carmaker, which once produced the covered wagons used by western settlers, was then desperately trying to survive the competition with the three big auto companies, Ford, General Motors, and Chrysler. The year before, Studebaker had introduced a sporty model called the Avanti. The company was also quietly trying to diversify beyond cars and trucks.

“In addition to normal Studebaker stock, the company was issuing so-called ‘A’ shares, which would not be activated as full shares until a specified date a year or so in the future. These securities, which were available at a discount from the regularly traded Studebaker stocks, were similar to the due bills Soros had traded so successfully while at Mayer. There was a discrepancy between the value of the two stocks, and Soros worked out a strategy in which he was accumulating the ‘A’ shares while shorting the regular Studebaker stock.

“There was an elegance to the Studebaker deal that may have appealed to Soros: going long and short in two different types of stock issued by the same parent company over somewhat different periods of time in hopes of making money at both ends. The key to the scheme was timing, the premise being that Studebaker stock would initially drop, allowing George to cash in on his short position, and then as the company’s fortunes rallied, the ‘A’ shares would increase, adding to Soros’s gains.

“That was the theory. But as events unfolded, it appeared that Soros had been too smart by half: ‘Studebaker went through the roof. I had to put up additional margin on my short, and the spread also widened,’ Soros said referring to the gap between his long and short positions.

“While he was spending a few days in Greece during his European sojourn, someone had mentioned to him that the Olivetti family in Italy was desperately and quietly trying to sell off a large block of shares in the giant office machine company. The information was sufficiently intriguing for Soros to alter his tourist itinerary and travel to Milan. ‘It was the first time I got involved with Italy,’ he says. ‘What I found out was that there was a crisis not so much involving the company as the family. Several million shares were being made available and had been deposited in a Swiss bank and they could be purchased at par,’ by which he meant the book value of Olivetti shares. The market price of those shares had dropped recently but they were still selling above that level.

“He spent a day meeting with company executives. He also met with the Italian broker Alberto Foglia, who would later become a long-term and prominent investor in Soros’s hedge funds. Everyone told him essentially the same story of the family needing funds to cope with a succession of domestic crises. ‘I remember how I remarked to the company treasurer that the story was so dramatic that it was like a play by Shakespeare and the man said, ‘No, it’s like Balzac because it’s about money and family,’ and I thought to myself you don’t usually find treasurers who are that well-read.

“‘But everything checked out and I quickly put together a group to buy the shares.’ The group included people from German insurance companies, some Swiss banks, and Bernard Cornfeld, the flamboyant American whose Investors Overseas Services and Fund of Funds were then still soaring under the direction of the literal high flier who jetted pop stars to his French castle as he attracted publicity for his dealings. Like the others Soros contacted, Cornfeld was happy to share in the Olivetti bonanza.

“So before he officially started his new job, Soros had pulled off another coup. ‘I remember that I sent a cable to Henry Arnhold saying that on that date the firm bought however many million shares in Olivetti from so-and-so and that it had sold that same X million shares at a higher price to so-and-so.’