What the Wealthy Do in a Time of Crisis: Recreational Gambling

Being compelled to stay at home while people are dying and the economy is collapsing, allows one plenty of time to think—and plenty of things to think about.  One thought that may not occur to many is that whenever the economy suffers a crisis, the wealthy emerge stronger while the average wage earner endures ever-greater economic insecurity.  Why is that?  While most are struggling with bill payments, what are the wealthy up to that leads to their financial advancement?  Nick Paumgarten spent time conversing with a some of them over recent weeks and provides a bit of insight.  His article, The Price of the Coronavirus Pandemic, appeared in The New Yorker.

Paumgarten begins by introducing the reader to an investor he only describes as “the Australian.”  This person made his initial money in a traditional means (in terms of finance).

“Reared in Sydney, the Australian moved to New York in 1994, when he turned twenty-two, to trade commodities at Goldman Sachs. At JPMorgan, he and a couple of his countrymen—known as the Aussie mafia—earned the firm hundreds of millions in profits during the early months of the financial crisis, in 2008. In 2015, he moved to Singapore.”

Being nearer to China, and attuned to potential disasters, he picked up on the viral activity showing up in the news and concluded the virus would spread to other countries and become a big deal.

“He quickly put some money to work. He bought a big stake in Alpha Pro Tech, one of the few North American manufacturers of N95 surgical masks, with the expectation that when the virus made it across the Pacific the company would get government contracts to produce more. The stock was trading at about three dollars and fifty cents a share, and so, for cents on the dollar, he bought options to purchase the shares at a future date for ten dollars: he was betting that it would go up much more than that. By the end of February, the stock was trading at twenty-five dollars a share. He shorted oil and, as a proxy for oil, the Canadian dollar. (That is, he bet against both.) Finally, he shorted U.S. equities.”

“’You don’t know anyone who has made as much money out of this as I have,’ he said over the phone. No argument here. He wouldn’t specify an amount, but reckoned that he was up almost two thousand per cent on the year.”

One can detect a note of glee in the Australian’s voice.  One can consider him prescient or lucky, as one wishes, but he was gambling—and it paid off.  For our purposes here, he was merely someone who could afford to gamble.  It does not require profound intelligence to become wealthy, being lucky is often quite helpful, but once one attains significant wealth, it takes unfathomable stupidity to lose it all (there are examples).  There was no indication that the Australian was worried that a pandemic would devastate his portfolio; it was a game.  He was having fun.

Paumgarten tells us that he spent time tracking the discussion between a friend working in finance and a band of his cohorts.

“I’d been eavesdropping for a week on the friend’s WhatsApp conversation with dozens of his acquaintances and colleagues (he called them the Fokkers, for an acronym involving his name), all of them men, most of them expensively educated financial professionals, some of them very rich, a few with connections in high places. The general disposition of the participants, with exceptions, was the opposite of the Australian’s. Between memes, they expressed the belief, with a conviction that occasionally tipped into stridency or mockery, that the media, the modellers, and the markets were overreacting to the threat of the coronavirus—that it was little more than another flu, and that effectively shutting down the economy to prevent, or at least slow, the spread of the virus would turn out to be far more harmful, in the long run, than the virus itself.”

The tone of these conversations seemed to be one of irritation rather than distress: someone is changing the rules of the game we are playing, and we don’t like it.  In particular, they don’t like the fact that, like in all games, cheating is possible.

“On March 20th, Goldman Sachs spooked the world, by predicting a twenty-four-per-cent decline in G.D.P. in the second quarter, a falloff in activity that seemed at once both unthinkable and inevitable.”

“Earlier in the week, notes from a Goldman call, with talk of terrible numbers, had leaked out onto the Street. A couple of the Fokkers, on the basis of no evidence except decades of experience, suspected Goldman of sowing fear in order to profit. They certainly thought that was what Bill Ackman, the hedge-fund billionaire, had done: he went on CNBC and said, ‘Hell is coming.’ He predicted that the nation would enter a depression if the White House didn’t take drastic measures.”

“Like the Australian, Ackman advocated a shutdown of the global economy. And, like the Australian, he had profited from his pessimism. A week after his appearance on CNBC, his firm, Pershing Square Capital Management, announced that it had netted $2.6 billion (on an investment of just twenty-seven million dollars) on bearish credit bets, which paid off if certain bundles of loans declined in value. This news enraged the Fokkers; they felt that he’d been scaring people, for money. (They were more comfortable with those who would reassure people, for money.) But, by then, Ackman told me, he’d plowed most of his proceeds back into the stock market. ‘Our hedge had already paid off prior to my going on CNBC,’ he said.”

Suspicious?  You have a right to be.  But consider exactly how Ackman’s firm made its money: “it had netted $2.6 billion (on an investment of just twenty-seven million dollars) on bearish credit bets, which paid off if certain bundles of loans declined in value.”  Paumgarten described it as an investment in how bets would turn out.  What kind of an investment is that?  What does that have to do with making products and selling them?  Finance has become mostly a zero-sum game, like a casino, where someone wins because someone else loses.  Why use money to invest in the economy when more fun can be had placing these financial bets? 

Particularly infuriating was the advice a fund manager issued to the collection of Fokkers.

“His advice: Borrow as much as you can. Mortgage everything. With interest rates at historic lows, you could accumulate cash and have money on hand to buy distressed assets on the cheap, whether they’re stocks, bonds, or real estate, and be well positioned to make money again when the world got back to work.”

In other words, the wealthy should be prepared to swoop in and pick up at bargain rates the assets of those who were actually trying to contribute their labor and productivity to the economy, but didn’t have the financial depth to survive.  And thus, the wealthy both survive and thrive. 

Paumgarten provided an appropriate final comment on what the future holds.

“The only thing we can say with certainty is that the pain will be unfairly distributed. People are betting on it.”