nytimes.com
In Defense of the Boom
October 27, 2002
By MICHAEL LEWIS
I. Wall Street Didn't Do It
A few weeks ago, on ''Moneyline,'' a guest who didn't fully
understand just how much times have changed invoked some
corporation's ability to beat Wall Street's forecasts for
its quarterly earnings. Before you could say ''market
manipulation,'' the program's host, Lou Dobbs, said, ''Do
you really think anybody's paying attention to that silly
expectation stuff anymore?'' He dismissed forecasts as
''the game of the late 90's.'' And he had a point. For many
years, Wall Street analysts have low-balled their earnings
estimates so that their corporate customers could announce
to the press that they had ''beaten'' those estimates. This
particular game was exposed beginning in the late 1990's by
fledgling Web sites, which routinely published more
accurate earnings forecasts than the Wall Street pros. By
the middle of 1998 the stock market began to trade off the
Web estimates rather than the Street estimates -- which
tells you how fully understood this quarterly forecast game
had become even before the boom reached its
turn-of-the-century heights.
But so long as the stock market rose, Lou Dobbs was happy
to listen to Wall Street and corporate big shots blather on
about how they had beaten their earnings forecasts. He
didn't scorn them; like every other serious reporter, he
treated them as useful informants (when he wasn't
distracted by his bid to make his Internet fortune in a
doomed start-up called Space.com). And yet now, somehow,
Lou Dobbs, like every other serious reporter, knows enough
to raise his eyebrows and harshen his tone when anyone
mentions earnings estimates. As wide-eyed as he was three
years ago, he is narrow-eyed now. You can't put one over
Lou Dobbs!
And that, in a way, is the point. If you can't put one over
on Lou Dobbs, whom can you put one over on?
The markets, having tasted skepticism, are beginning to
overdose. The bust likes to think of itself as a radical
departure from the boom, but it has in common with it one
big thing: a mob mentality. When the markets were rising
and everyone was getting rich, it was rare to hear a word
against the system -- or the people making lots of money
from it. Now that the markets are falling and everyone is
feeling poor, or, at any rate, less rich, it is rare to
hear a word on behalf of either the system or the rich. The
same herd instinct that fueled the boom fuels the bust. And
the bust has created market distortions as bizarre -- and
maybe more harmful -- as anything associated with the boom.
The recent wave of outrage about Wall Street's behavior
began, you may recall, when New York State Attorney General
Eliot Spitzer deployed an obscure state law to shoehorn out
of Merrill Lynch every e-mail message Merrill employees had
ever sent relating to the Internet boom. It was easy to see
why Spitzer chose Merrill Lynch as his target. He has
political ambitions (he wants to be governor of New York,
at least), and unlike Goldman, Sachs or Morgan Stanley or
one of the other big investment banks more central to the
Internet bubble, Merrill actually serviced lots of small
customers. It's a firm that voters can relate to.
What I didn't understand was Spitzer's hunger for Merrill's
old e-mail. If the New York attorney general wanted to
prove that the firm's analysts had been wildly optimistic
about the Internet, and that their optimism helped the
firm's investment bankers attract Internet business, and
that there was, therefore, a deep conflict of interest on
Wall Street, all he needed was an Internet search engine.
If you go back and read the public record, you can see
clearly what people on Wall Street did between April 1995,
when Netscape invented the Internet Initial Public
Offering, or I.P.O., and the spring of 2000, when Internet
stocks crashed. The story was never hidden, because Wall
Street never tried to hide it. Indeed, you can pinpoint the
very moment when Merrill Lynch signed on to the boom, and
in what spirit they joined the party.
Until late in 1998, which was three years or so into the
boom, Merrill and its brokers actually fought a rearguard
action against Internet stocks. The Internet looked as if
it would all but eliminate the commissions investors paid
to buy and sell stocks and gut the already weakened core
business of Merrill Lynch. The head of Merrill's
stockbrokers, John Steffens, actually said that the
Internet was ''a serious threat to Americans' financial
lives.'' Partly as a result of this self-serving
truculence, Merrill had lagged badly behind Goldman, Sachs
and Morgan Stanley and the other up-market firms in its
ability to rake in fees from Internet stock offerings. At
the same time, Merrill Lynch was also -- and this is the
key point -- becoming ridiculous to the nearly five million
account holders who kept their money at Merrill Lynch. You
couldn't be running ads on TV saying you were ''bullish on
America'' and at the same time be telling your customers
they should be ignoring or dumping the hottest sector the
U.S. stock market had ever seen.
On Dec. 16, 1998, the contradiction finally became too much
for Merrill Lynch to bear. On that day, the share price of
Amazon.com touched $242. Merrill Lynch's Internet analyst,
Jonathan Cohen, announced that the shares were worth at
best $50 and that it was time to sell. Across town, Henry
Blodget, a 32-year-old
freelance-magazine-writer-turned-Internet-analyst for an
obscure, second-tier firm called CIBC Oppenheimer, was
saying that Amazon's stock would reach $400 a share. Sure
enough, Amazon promptly rose to a split-adjusted high of
$678. Cohen was wrong, and Blodget was right, and Merrill
Lynch was the laughingstock of the market. And so Merrill
fired Cohen, hired Blodget and, in effect, bought into
Amazon.com at four hundred bucks a share.
It occurred to no one at the time that Merrill Lynch was
conspiring to drive up Internet stocks. They were simply
giving their brokerage customers what they wanted. Internet
stocks had been rising too fast for too long for Merrill
Lynch to be saying anything other than that Internet stocks
would continue to rise. Merrill's investment bankers,
theretofore incidental victims of their Internet analyst's
bearish views, became incidental beneficiaries of the
firm's new bullishness. They were quite open about this.
They were happy to tell reporters, on the record, precisely
what Eliot Spitzer would later claim he had uncovered as he
pored over old e-mail. For instance, on April 13, 1999,
Scott Ryles, the head of Merrill's technology banking
division, explained his new success to Bloomberg News.
''It's difficult to take companies public when your analyst
has a less-than-constructive view on some of the biggest
companies out there,'' Ryles said. Having Blodget on board
was great, he said, because Blodget ''has been unabashedly
bullish and has been proved right. . . . It's clear the
Internet stocks have been some of the best-performing
stocks, and retail investors as well as institutional
investors want that product.''
The old e-mail was unnecessary to expose the absence of
fire walls between bankers and analysts on Wall Street.
Their overlapping interests were hidden in plain sight.
Spitzer's investigation did not expose a clearer picture of
the inner workings of Wall Street during the boom. What it
did give investors, who had no problem at all with
banker-analyst conflicts of interest as stocks soared, were
villains to blame after stocks tanked. And Spitzer also
used this e-mail to suggest to an angry investing public
that he had discovered some previously unknown dark truth:
Henry Blodget hadn't believed a word he had said.
But to anyone who had followed Henry Blodget in real time,
this was obviously not quite right. Go back and read what
Blodget said and when he said it. From the start of his
astonishing Wall Street career, he had a very specific
conviction about the future of the Internet. He thought
that Internet companies would displace their real-world
counterparts. He saw that businesses with high fixed costs
were at extreme peril. He looked at Barnes & Noble, for
instance, and saw that it would go out of business if an
online competitor stole even 20 percent of its revenues.
Even back when he first expressed these views, in early
1997, they weren't earth-shatteringly original. All sorts
of respectable people thought the Internet would transform
American commerce much faster than it ultimately did. And
in the context of this sensational belief, Blodget behaved
almost prudently. Many times he declined opportunities to
pump stocks even higher than they were. Many times he
cautioned investors against being too optimistic about
e-commerce revenue forecasts. Many times he acknowledged
that what he did for a living was largely guesswork. Around
the time of his name-making, correct prediction that
Amazon's stock would rise to $400 a share, a radio
interviewer asked him what he thought of Merrill Lynch's
more pessimistic view. ''We are all looking into the
future,'' he said. ''We all have the same information, and
we're just making different conclusions about what the
future will hold.'' But what investor wanted to hear any of
this? By the time Henry Blodget went to work for Merrill
Lynch, the market was actually running ahead of Henry
Blodget. By the end of the boom, he had gone from leading
the market to trying to keep pace with it.
The most embarrassing thing about Henry Blodget was not
that he was lying but that he was speaking his mind. He
actually believed Amazon.com was a good long-term buy at
$400 a share. He actually believed the Internet would be an
engine for corporate profits.
No matter. The supply of scandal on Wall Street always
rises to meet the demand, and Spitzer found what he was
looking for. From the tens of thousands of Merrill Lynch
e-mail messages, he culled one of Henry Blodget's written
toward the end of 2000, which, when released to the media,
did the job he -- Spitzer -- needed it to do. In it Blodget
responds to e-mail from a Merrill Lynch banker who wanted
him to express greater optimism about some Internet
company. He writes:
The more I read of these, the less willing I am to cut
companies any slack, regardless of the predictable temper
tantrums, threats and/or relationship damage that are
likely to follow. If there is no new e-mail forthcoming
from [Merrill management] on how the instructions below
should be applied to sensitive banking clients/situations,
we are going to just start calling the stocks . . . like we
see them, no matter what the ancillary business
consequences are.
Out of context, during a crash, that sounds pretty damning.
It sounds as if Henry Blodget never called a stock as he
saw it. But in context, at the end of a boom that has made
Henry Blodget a little god, who knows? It's hardly uncommon
on Wall Street for analysts to play head games with their
firm's bankers and brokers. To me, knowing Blodget's
record, it sounds as if the young analyst is simply flexing
his muscles. He's saying: if you mess with my turf, I'll
mess with yours. It's hard to say. And that's the point:
motives in any company, let alone a Wall Street one, are
far too messy to be honestly discerned from a handful of
carefully selected e-mail messages. The notion that they're
more revealing of Blodget's true feelings than the public
record is risible.
The Spitzer investigation is a curious exercise. It doesn't
clarify history so much as distort it. It portrays the
financial losses of countless madly greedy, very
knowledgeable speculators as a kind of theft by a handful
of people who acted in bad faith. Just enough of the
texture of the financial 1990's has been (conveniently)
forgotten to allow for this new, bizarre interpretation of
the boom. At any rate, to judge from both the newspapers
and the court filings, a lot of people have come to believe
this story, and it's not hard to see why. It pays. It pays
Eliot Spitzer, who gets credit for cleaning up Wall Street
-- which neither he nor anyone else will ever do. (Just
wait till the next boom.) It pays investors who lost money,
along with their ambulance-chasing attorneys, who now have
fresh ammo in their lawsuits against Merrill Lynch. And,
oddly enough, it pays Merrill Lynch. By forcing Merrill
Lynch to agree that its advice was corrupt, Eliot Spitzer
helped the firm avoid saying something much more damning
and much more true: that its advice on the direction of
stock prices is useless. Always. By leading the firm to the
conclusion that it had misled the American investor,
Spitzer helped it to avoid the much more embarrassing
conclusion that the American investor had misled Merrill
Lynch.
The whole of the muckraking machinery is designed to
facilitate this simple inversion: the culprits of the
1990's, reckless speculators, are being recast as the
victims. What the various investigations appear to be doing
is cleaning up the markets and making it safe for sober
investors. What they are actually doing is warping the
immediate past and preserving investors' dignity along with
their capacity to behave madly with their money the next
time the opportunity presents itself. The rewriters of the
boom are able to do this as well as they have because, for
both legal and political reasons, all sorts of people who
might resist the distortions are discouraged from speaking
out. Certainly no one on Wall Street can defend himself
without the risk of incurring legal bills far greater than
he already has. Certainly, no public figure of any sort is
going to stand up and take the position that the rich guys
who have gotten themselves exposed and pawed over by the
New York attorney general should be left alone. And so the
attorney general, in effect, has the stage to himself. |
