How Soros lost playing chicken with techs
By Gregory Zuckerman
For months, through late 1999 and early 2000, the Monday afternoon research meetings at George Soros's hedge fund firm centred on a single theme: how to prepare for the inevitable sell-off of technology stocks.
Stanley Druckenmiller, in charge of the celebrated funds, sat at the head of a long table in a room overlooking Central Park. Almost as if reading from a script, he would begin the weekly meetings with a warning that the sell-off could be near and could be brutal. For the next hour, the group would debate what signs to look for, what stocks to sell, how fast to sell them.
"I don't like this market. I think we should probably lighten up. I don't want to go out like Steinhardt," Druckenmiller said in early March as the market soared. He was referring to Michael Steinhardt, who ended an illustrious hedge-fund career in 1995, a year after suffering big losses.
Soros himself, often travelling abroad, would regularly phone his top lieutenants, warning that tech stocks were a bubble set to burst.
For all this, when the sell-off finally did begin in mid-March, Soros Fund Management wasn't ready for it. Still loaded with high-tech and biotechnology stocks and still betting against the so-called old economy, Soros traders watched in horror when the tech-heavy Nasdaq Composite Index plunged 124 points on March 15 while the once-quiescent Dow Jones Industrial Average leapt 320 points. In just five subsequent days, the Soros firm's flagship Quantum Fund saw what had been a 2 per cent year-to-date gain turn into an 11 per cent loss.
Aside from an April 28 news conference about the firm's agonies and brief interviews afterwards, the secretive Soros and Druckenmiller, long his No2, have said little about the period leading up to the humbling disclosure of the problems. An account pieced together from interviews with a dozen Soros insiders and managers of other hedge funds - private pools of investment capital - shows two long-time friends and colleagues increasingly at odds until it all became too much.
As the losses piled up, tension inside the firm grew. Soros executives say they overheard heated arguments as Soros pressed Druckenmiller to bail out of some swooning internet stocks, while Druckenmiller insisted that the funds hold on.
By the end of April, the Quantum Fund was down 22 per cent since the start of the year, and the smaller Quota Fund was down 32 per cent. Soros had stated in a 1995 autobiography that he was "up there" with the world's greatest money managers, but added: "How long I will stay there is another question." Now came an answer. Both Druckenmiller and Quota Fund chief Nicholas Roditi resigned. Soros unveiled a new, lower-risk investing style and conceded that even he found it hard to navigate today's murky markets. "Maybe I don't understand the market," he said at the April 28 news conference. "Maybe the music has stopped, but people are still dancing."
Soros and Druckenmiller are just the latest legendary investors whose reputations have been affected by this unusual market. Two others, Warren Buffett and Julian Robertson, suffered for not embracing the late-1990s fads of tech stocks and momentum investing, as those approaches proved winners while blue-chip investing languished. Buffett stuck it out and has seen his old-economy stocks make something of a comeback. But Robertson gave up on his Tiger Management hedge fund in March - just as the winds were shifting.
No pedestal was higher than Soros's. A Hungarian refugee from the Holocaust, Soros, 69, started as a stock picker in the late 1960s, graduating to "macro" investing, or betting on the broad trends that move stocks, bonds and currencies across the globe. His style was to wait for big changes in the markets, then take advantage with aggressive moves.
He turned the reins of Soros Fund Management over to Druckenmiller in 1989 to concentrate on philanthropy, though he kept close tabs on the funds. The firm continued to rack up huge gains, creating awe among competitors. Its funds grew so powerful, using borrowed money to magnify their results, that their investments moved markets, and their giant bets could be self-fulfilling.
Just a hint of what Soros funds might be doing could have an impact. One morning in the summer of 1993, Gary Evans, then head of emerging-market bond trading at Kidder, Peabody & Co, heard that Soros funds were buying Peru's currency. He ordered his traders to buy Peruvian bonds, barking that "Soros is getting in - something must be going right there". Peru's currency rallied, and Kidder's bonds jumped about 500 per cent in six months.
The rumours didn't even have to be true. In late 1997, Hamburg Tang, sitting on a Wall Street trading desk, began getting panicked calls from currency traders saying the Quantum Fund was attacking the Malaysian ringgit. Tang's group held more than $US100 million in bonds of Malaysian companies, and he cursed Soros as they fell steadily for a month, Tang recalls. Druckenmiller has since said that the Soros funds were buying, not selling, Malaysia's currency during that time.
But a couple of years ago this outsize influence began to wane. As global markets swelled, Soros assets - even at the $US22 billion they then totalled - could no longer move markets so easily, nor necessarily give the firm access to the best information. Power shifted towards money managers such as Janus Capital, once a third-tier mutual fund group but now a huge one because of its hot performance.
And the Soros funds had some fumbles. They have lost more than $US1 billion ($1.75 billion) in the past two years betting that Europe's new common currency would rise. Instead, the euro has fallen 24 per cent since its introduction on January 1 last year. In addition, despite their big-picture focus, the Soros funds haven't profited from the doubling of world oil prices over the past year or so.
But tech stocks proved their Waterloo. During the first part of 1999, Soros funds were betting big against internet stocks, in keeping with Soros's view that the internet craze would end badly. As that craze instead kept gathering force, the Quantum Fund found itself down 20 per cent by last July. Druckenmiller, who was concentrating on investments such as currencies, took back the reins of the stock portfolio. But, calling himself a "dinosaur", he looked for help.
He recruited Carson Levit, a respected money manager who grew up in Silicon Valley and didn't mind paying sky-high prices for tech stocks. Soros, however, put Levit through a gruelling eight-hour interview. By the end of the session, Soros said: "Stan obviously wants to bring you in, but I'm still nervous," Levit recalls. "He looked at me like I was sort of a nut." Still, Levit was hired to help manage the biggest part of the Soros stock portfolio, soon to be dominated by tech stocks.
Soon the Soros funds were buying these stocks and selling short some old-economy stocks. It worked. The Quantum Fund came all the way back to finish 1999 up 35 per cent.
But this meant holding stocks with exorbitant valuations. At one point in February, while watching biotech firm Celera Genomics Group skyrocket, Druckenmiller turned to a trader and said: "This is insane. I've never owned a stock that goes from $40 to $250 in a few months."
Although he did a bit of selling at the start of 2000, he held on to most of those inflated tech stocks, betting that "the Nasdaq rally was in the eighth inning, not the ninth inning". Few underlings challenged him.
So when the hurricane hit in mid-March, the Soros funds were leaning the wrong way: holding lots of tech stocks and shorting the Standard & Poor's 500 and old-economy names such as Goodyear and Sears. The market got so volatile it was hard for traders even to figure out their exposure.
The Soros-Druckenmiller dissension came to a head over VeriSign, an internet security company that the funds bought at $US50 a share last year and rode to $US258 by late February. At Druckenmiller's behest, the funds doubled their bet on VeriSign to $US600 million in early March after a visit by VeriSign chief executive Stratton Sclavos. The CEO wowed Soros executives with talk of what a pending acquisition of Network Solutions could do, say people familiar with the visit.
VeriSign was at $US240 when Druckenmiller doubled up. As the Nasdaq quaked, the stock fell to $US135 by early April. Soros told his deputy: "VeriSign is going to kill us. We should take our exposure down."
"No," Druckenmiller replied. "This is different than other internet plays."
It wasn't. VeriSign's shares fell to $US96 in April, before coming back to$US125 now.
The mood in Soros offices turned bleak. Druckenmiller had long talked about getting out of the business, but the 47-year-old executive, said to be worth about $US1 billion, couldn't bring himself to do anything.
On vacation with his family at his Palm Beach, Florida, home at the end of March, he couldn't stop thinking about his troubles. He turned to his wife, Fiona, and said: "Money is supposed to be enjoyed, but if I can't enjoy two weeks with my kids, what's the point of it all?" a witness recalls. He promised her that he would soon quit, saying that he felt jealous of his friend Robertson.
The discord with Soros was a major part of it. Soros "rode Stanley, and it came to a head", says a friend of Druckenmiller. "A guy of Stanley's stature and personal wealth didn't need it."
On April 18, with the Quantum fund down 20 per cent for the year, Levit greeted Druckenmiller with a "how are you" at 7am. "What do you mean, 'How am I?' We just blew up," Levit recalls Druckenmiller saying. "I can't believe we're in this mess again."
That day, Druckenmiller handed in his resignation, and Soros Fund Management began the process of selling off most of its holdings. Quantum is being renamed Quantum Endowment Fund, with a new strategy of safer investing to help Soros fund his charitable activities. Some outside investors are pulling out money, and the fund is down to $US7.1 billion now. The founder will keep his money in various conservative Soros funds.
The Wall Street Journal
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