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There was a comment on Spotify on our most recent podcast, last week's We Just Find It. I thought it was Hello and welcome to the bird Stuff Podcast, your weekly podcast where we talk about stuff related to birds and the European starling. He's doing quite well. He's perching, he started to feed himself.
Oh great, two out of three exactly.
He's stopped screaming quite as loudly as my parents to feed him like a baby. The flying we need to work on though. He's really good at flapping, but you know he's lacking some confidence when it comes to flight.
Do you have a training program ready for working on the flying?
I think we just need to let him out of the cage, similar to Wells Fargo, which we'll talk about.
Oh what a transition. Hello and welcome to the bird Stuff Podcast, your weekly podcast where we talk about stuff related to birds. I'm Matt Levine and I wrote the Bunny Stuff column for Bloomberg Opinion.
And I'm Katie Greifeld, a reporter for Bloomberg News and an anchor for Bloomberg Television and a bird owner.
It's actually the money Stuff podcast in case anyone has, I mean dots. It's gonna be weird if this is your first episode speaking of being let out of your cage. Wells Fargo let out of its game.
Charlie Sharp playing offense. This was expected, but I think it was still somewhat surprising to get this news this past week that the asset cap the FED had imposed on Wells Fargo back in twenty eighteen has been lifted.
So. The Bloomberg article about this reported that when Charlie Sharff, the CEO of Wells Fargo, he joined the bank like a year after the asset capitalism post, and when he was like interviewing, he was aware of the asset cap because it was a pretty high pye profile thing, but according to the article, they couldn't tell him exactly how they were doing with progressing to fix it because that was confidential supervisory information and it would be illegal to
leak it to anyone, including the CEO candidate. So basically he was like, so, how's it going with the FED? And they're like, hey, I can't tell you. And then they hired him and he came in and he's like, okay, so how's it going with the Fed? And they're like, really bad. Sorry we didn't tell you earlier.
Surprise.
I think he sort of came in expecting it to be a one year process after he joined. It turned out to be like a five year process after he gied. But now now it's all better. Yeah.
Our reporting on the matter suggested the same. Well, fast forward to twenty twenty five, and we're finally here. It's again somewhat interesting that it happened this week. There had been a lot of anticipation about this, if you just look at the share price, for example, since President Trump's election in November, I think Wells Fargo heading into this week was up like twenty percent on a total repase return basis, and the KVW Bank Index as a whole
was only up about seven percent in that time. So there was the anticipation was there. But also according to our reporting, it took some senior executives by surprise.
Oh yeah, one of them was like doing an intern visitor or something.
I think the chairman was celebrating his seventy third birthday, So this is a nice surprise. Before we talk about what this means for Wells Fargo, the future of Wells Fargo, Matt I wasn't really paying that close attention to Wells Fargo when this cap went into place in twenty eighteen. I'd love to hear your thoughts on the lead up there and how unprecedented this was.
I feel like in twenty eighteen everyone was paying attention to.
Wellswere I was worried about currencies.
I have rarely seen a bank scandal get people so angry as the Wells Fargo fake account scandal, which I'm not sure was like the direct precipitator of this, but it was like one of the big things they pointed
to to be like you can never grow again. Wells Fargo opened millions of fake accounts because they had like a culture of cross selling and also not a culture of supervising people very closely, I guess, And so like they told thousands of bankers, your job is to open eight new financial products today, and so they're like, okay, fine, everyone who signs up for a check account, we're gonna give them a credit card too, and like didn't tell the customers, and so people got all these credit cards
they didn't sign up for, and that got Wells Fargo in trouble. And also many people are really mad because it just sounds bad. I think it, like it sounded a little worse than it was, but it was pretty bad. And I thought it was an interesting scandal because people disagree with me about this, but like it didn't help
Wells Farga to open these fake accounts. There were like a few accounts where like you know, you open a credit card and you charge your credit card fee, so like Wells Fargo made a little bit of money from the fake accounts, but it's like negligible. Almost all of these fake accounts were like nothing happened in them. It was truly just like the employees gaming the management right, Like the employees were told you got to open eight
accounts to day. I'm like, fine, we'll do that. But like it was just these meaningless accounts that didn't help Paul's fago. But that like met quotas, and that is not a problem of a bank with like evil intent at the top. That is the problem of a bank that has management troubles, and like trouble like supervising it's thousands of employees, and trouble like designing incentives and designing programs to make sure that people are operating the best
interests of the bank. And you know, you always used to read like people talking about banks being too big to manage, and you know, like you look at that scandal and you're like, yeah, like this is maybe a bank that doesn't have a handle on all of its employees and all of what it's doing right. This is a bank that has not figured out how to manage
its bigness. And so I always thought that there was like a poet of justice to like the punishment for some of these scandals being bank regulators saying you can't grow your balance sheet anymore, because you know, that's like a direct cap on bigness. It's not a cap on like employee numbers, but it's a cap on size, and it sort of focuses the mind on like, Okay, we got to be able to manage the bank the size
that it is before we grow any bigger. The punishment is like an asset cap and then like stays in place basically until they convince their regulators that they have improved their risk management and board processes such that you know, they can run their business in a safe way. And I don't know, they seemed like sort of a reasonable punishment.
I have two thoughts. One, I have a Wells Fargo account, which is funny. So you know, the extent of me thinking about this in twenty eighteen was I wonder if they gave me a credit card too.
I don't have a well Swargo looking at I do have a well Square credit card and I use it almost never. It's just like a spare credit card. And like once every like two years, I get a letter from them being like, we're going to close your credit card unless you tell us not to or use it. And I'll like go to the store and buy a pack of gums so that I give the credit card open.
Oh you want it, I don't care.
Okay, It's like sitting in my desk doesn't bother me, right. I wonder if I get those letters because they're like, you know, they're looking at my account. They're like, oh no, what if this is a fake account, So they're making sure that my credit card is not fake.
I will say I decided to specifically open a Wells Fargo account right before I went to college because I was going to Haverford College, which we'll actually get to a little bit, but it was very close to campus and they had horses on the card the stagecoach, which is one of the things that Charlie Sharp did away with. He did away with the.
Look to keep it, to keep them under the asset cap. They fired the horses.
They actually they fired the horses. They also fired tens of thousands of employees. The other thought that I had was that it's interesting that it feels pretty binary, like the cap was on and now it's off. There wasn't any step like, oh, you can grow the balance sheet by half a trillion one trillion because you're doing such a good job.
Yeah, it's a super weird regulatory move. It's not a common punishment. Would not be normal to say, okay, you can grow by one hundred million dollars. Those be weird. They're just like they've put this mary draconian punishment on and now it's been fixed, and they're like, okay, fine crow again. So it'd be funny if they doubled in size next month, but I assume that they won't.
If you think about the last seven years for Wells Fargo, I was obviously fiddling with the charts. JP Morgan's balance sheet, one of our reporters sold me has grown by an entire Wells Fargo since this cap went into place. You take a look at Wells Fargo's shares since the start of February and twenty eighteen, They're up forty three percent in total return terms since that time. You compare that to JP Morgan up one hundred and seventy eight percent,
Goldman up one hundred and sixty percent. This has been crippling for the performance of this company.
Yeah, I mean, like the Bloomberg reporting suggests that there was some amount of like, if you can't grow, you have to focus on the businesses that you really like. But yes, that only does so much for you in an environment of Dellwin's for banks.
Yeah. Also, this one was kind of funny. I was looking at his valuation as well. It's price to book. Wells Fargo trades at a price to book of one point five. You compare that to JP Morgan's JP Morgan trades at like two point two. City City trades at point seven, which I think says more about City than it does about Wells Fargo. But that was kind of fun.
Okay, City catching astraight here speaking of Haverford, Pennsylvania. You know what else is there besides Katie's College.
The Egan Jones rating company, No, it was.
The branch of Wells Fire that you bank on College Yesty operates out of a house in Harford, Pennsylvania, where they rate thousands of private credit deals.
They actually have since relocated to King of Prussia, which is also in the suburbs of Philadelphia, but we'll get to that. Yeah, this ratings company, which calls itself the biggest rating company in the private credit space, operated out of a four bedroom colonial in Haverford, Pennsylvania, on Haverford Station Road, literally across the street from my college. And it's a pretty interesting business model, pretty scrappy.
I love the ratings business model, right. I mean, like, so you can join this fighter by Shawane Egan, who kind of made a name for himself in the financial crisis criticizing the big three ratings agencies for their conflicts of interest. Right. People think of ratings agencies as organizations that write reports saying whether an issuer is a good
credit risk? Right. I mean, like this came up a lot recently when the Booty's is the last agency to downgrade the US government, and I was like, oh, what does it mean?
Right?
Because like these agencies are sort of seen as like the arbiter of credit risk, and his criticism in two thousand and eight was these agencies are paid by the issuers of the bonds, and therefore the issuers want to have high ratings, and so if a ratings agency gives them a low rating, the issue is say, we won't pay you anymore if you don't give us a high rating, and the agency say, fine, fine, fine, we give your high rating. And this is like the sort of conflict
of interest model. And it's particularly a concern in the structured product rating, where you have a bank that gets ratings on hundreds of products, and if it isn't satisfied with the ratings it gets, it can take its enormous book of business to another ratings agency. And the Egan Jones model was, I think this is not entire one
hundred percent try now. But like the general idea of the model was they would get paid by consumers, They would get paid by people who wanted to buy the debt, and therefore they would have fewer conflicts of interest because they would be looking at for the interests of the investors the lenders, rather than the interests of the issuers, and so when they told you this is a good credit risk, you would know they mean it because you were paying them. And I don't think that's the right
way to understand a ratings agency. I think that, like if you're a buyer of credit, if you're a lender and you're getting a rating, you're not doing it for you. You're not doing it to figure out if the company is a good risk or not right, because, like you're a lender, you're in the business of knowing whether it's a good risk or not. You might be interested in like the credit ratings. It might give you some sort of baseline understanding of what the credit is like, but
you can probably do your own credit analysis. The reason you're getting a rating is you have some constraint on who you're allowed to lend to, or like what your book is supposed to look like. So if you're an insurance company and you make investment grade loans or you buy investment grade bonds, then you don't have to hold very much capital against them. And if you make non investment
grade loans, you have a lot of capital. You know, you get the rating to satisfy your capital regulators that you are running your business prudently, and so you have the same incentives as an issue, right, you want a high rating. You don't care. Like if the world worked in such a way that like every bond could be rated triple A, you'd be like, great, I can buy every bond I want. You wouldn't buy like the worst bonds.
You do your own credit analysis, but you wouldn't have to worry about regulation anymore, whereas regulators don't like that, right, And so the ratings agency ultimately is not really working on behalf of the issuer, and it's not really working on behalf of the lender. It's working on behalf like the lender's regulator or the lender's ultimate customer, right, like the insurance company customer or the bank customer or whatever.
And so you know, you were read at Egan Jentes, like you know, there's a big bloomber article about their process and they're being run out of a four bedroom house and also about like you know, there's a couple of deals that they rated that kind of went bad, and like there's some criticism of them, and there's some like people are like other ratings firms issue twenty page ratings reports and they issue one page rating reports. It's
like no one cares, no one reads that. Like the goal is like a regulatory goal, and they are providing a product that consumers in the market want, but you know, you might not like why they want the product.
Yeah, So basically what you're saying is that it just transfers the risk that is conflict of interest, and the heavy insinuation in this article which you alluded to, is that they're basically just rubber stamping these ratings on private investments.
I don't think that that's right. I don't think that.
They're One of the things the article describes is that, I mean you mentioned that they have a small staff and they have one page reports. Bloomberg News colleagues also write that they offer their initial workups within twenty four hours, a formal verdict in less than five days, whereas you compare that to an S and P or a Fitch and those rating decisions can take months at a time. So they're working with a much smaller staff and in very compressed timeframes.
Yeah. Right. They say their ratings generally perform well, right, I mean, you can always like find someones that aren't very good that you know, the default rate on like a you know, triple B company is not supposed to be zero, so you can always find some triple B company that defaults and then it's like, you know, oh that was wrong, right, But it's like, statistically you have
to have some of those. But if you ran a ratings agency that gave everything in triple A, like there would be demand for that, but like you wouldn't last long, Like there wouldn't really be demand for that, or like it'd be great to get everyone, every anything rated triple A, but it wouldn't really satisfy your regulators, It wouldn't really satisfy anyone. So I don't think that they are a rubber stamp. I think that they're doing genuine credit work.
But I think, you know, there's some insinuation that they have a tendency to rate stuff higher than other people would rate it, and particularly they were working in the private credit space where the ratings are not for broad public consumption because it's a handful of lenders making the loans, and those lenders can kind of pick their own rating agency, and yeah, they're gonna want the one that works with them nicely and is maybe a little bit.
Generous well to the point on generosity. There is a description in this part of about the kerfuffle that was raised by this report from the National Association of Insurance Commissioners. Apparently they rescinded this report, but it showed that smaller outfits such as Egan Jones tended to rate private investments three notches higher on average than the association's in house valuation office. This report was rescinded, but it was heard
around the industry. Apparently it was rescinded, according to people familiar, because of backlash from insurers as well as some of the ratings firms. But kind of, I mean there's some evidence there.
Yeah, I've never fully understood it. Like there's there's some real controversy going on at the National Association of Insurance Commissioners. Like, yeah, there are a lot of insurers who really like private credit, let's say, really like alternative asset managers. Some of these insurers are big customers of those alternative asset managers. Some of them are owned by those big asset managers, and so all of those insurers are like basically like, we would like to chuck a lot of our money into
private credit. We think getting paid for liquidity and like it's a good investment and we should be doing this and it's professionally managed, and like, you know, we're doing a good job. And there's a lot of other insurance companies who do more traditional bond investing and are really mad at the private credit insurance companies and think that they are taking wild risks with customer money. You know, they think the asset manager owned insurance companies are like
making too much money. So there is like controversy within the insurance world where like some insurers are trying to basically stop people from investing in private credit, and other insurers are saying, we want to back up the truck for private credit. And so some of that controversy has played out in like the issuing and rescinding of reports. But it's a point of contention. And yeah, the report about ratings is I think part of that.
I don't have it in front of me, but there is a professor quoted in the piece I believe that was talking about the performance of their rated companies, and the professor make the point that the public investments that they rate it tended to do okay. It's just that it kind of deteriorated as it got into more private
sort of investments. It's kind of the whole point of their business though, was to rate private investments, and you can cherry pick examples and any rating agencies will have that, but there were some great examples in this piece as well, and most of them were triple BE rated, it seems like before they blew up.
Then as a banker, we did this analysis for companies that was like what is the optimal credit rating to have? And I never fully understood that there was like some complicated, you know, model that told you what the optimal credit rating to have was based on your unique facts and circumstances.
But the answer was always triple to B minus, which makes total intuitive sense because basically there's like a break point where investors can buy anything grated triple B minus or above and they can't buy anything graded w B plus or below, and so you get access to the investment grade buyers, which lowers your cost of debt if you're a triple B minus or above, but anything better
than that you're leaving money on the table. You're like under levered, right, Like you want to be as levered as possible and still have access to investment grade credit. And you know, like in the private credit wor old same story, right, Like you want to lend money to the most exciting, riskiest companies that will pay you the most consistent with getting a triple B rating, and so yeah, if you can push out the boundaries of risk on triple B a little bit more, then that's a better
deal for you. Similarly, like you wouldn't get a lot of A ratings because like if a company doing a private credit deal would get an A rating, then you're just like, well, let's borrow more then until we can get down to triple B. But like below triple B
is bad. So there's a reason it's all triple B. But yeah, there's a couple of examples in the story, of which the funniest is probably Chicken Soup for the Soul, which I think I wrote about in the day, Like Chicken seap for this Soul had a weird slide into bankruptcy, but it was triple B rated at Egan Jones until like through like twenty twenty three.
Yeah, fourteen months after Egan Jones reiterated it's triple B rating for the company, it filed for bankruptcy, and its lawyer said at the time it only had twenty five grand left in the bank, So that one was pretty funny. Can I tell you what the most surprising thing in this article was? Though, Yeah, okay, bring it back to Haverford.
I knew it was going to go back to Haverford.
A beautiful Philadelphia suburb. On the mainline. Apparently they sold the four bedroom colonial on Haverford Station Road in late twenty twenty four for eight hundred and sixty five thousand dollars, which seems pretty cheap.
It's funny when you said, can I tell you the most surprising thing, I was, like, this is probably gonna have a preferred real estate thing. It does seem cheap. On the main line, Yeah.
I wish I had bought it. I guess it was zoned for commercial use though, because apparently a psychotherapy practice took over the space. Egan Jones is now legally headquartered in King of Prussia, So there you go. But very close to Haverford College, beautiful, great nature trail which I've run hundreds of miles on. I have to go in nine minutes.
Matt, Well, then let's talk about whatever. The third thing was.
Let's talk about Paul Marshall and Ian wasce Yes, the billionaire odd couple, as the Wall Street Journal called them in a recent profile. This was so well written. I really enjoyed reading this by Caitlin McCabe over at the Wall Street Journal.
Right, there's a great anecdote at the end about you know, like any hedge fund, they like give job applicants like puzzles and challenges and stuff, as you know from our.
Special still recovering from that episode.
And they waste one's challenged a group of hires to visit the most countries in Europe within twenty four hours, and one guy went to every embassy in London, so he like won on a technicality and they hired him. Ways says it was a bit too cute. I was really thinking about, like, you know, it's not like everyone at a hedge fund needs to be like a person who can find a game to you know, get around the stated rules of a problem. But like you want
some of those people at your hedge fund. That's a useful skill and like you know, if you like give someone a challenge like that and they come back and they're like, I cheated, gotcha? You're like, okay, fine, you got a job.
Come in?
Yeah, right, that amused me. I Mean, the main thing that is so interesting about Marshall Waste is like they have found this way they call it tops to monetize sell side research and sell sides doock to right, Like
you know, you run a hedge fund. Like people are calling you all day from banks saying like, hey, you should buy this stuck And conventionally the response is, well, I run a hedge fund and you don't, So why Like if you're telling me to bout the stuck, Like, clearly I'm better at this than you are, so why why would I listen to you? And Marshall Base is like we're gonna write them all down and we're gonna
see if any of them provide useful signals. And now they have this like very complicated quantitative system that like extracts signals from what like their cell side coverage tells them.
And that is endlessly fascinating because like, like one thing that is happening here is like the cell It's like they can understand the cell side analysts like better than those people understand themselves, because like they're you know, putting it into a quantitative model, and the cell side guys are just like you know, calling clients all day and so like, yeah, you know, they have the anecdote of like, you know a research analyst who has really good ideas
but tells you to take them off too soon. He cuts his winners too soon, and they will analyze that and see that he always it's his winners too soon, so they'll just ignore him when he cuts his winners, and like they will do better with his recommendations then
he will do with his recommendations. And so there's a lot of stuff like that where like you know, if you know that someone is really good in the morning and really bad in the afternoon, then you only trade on her ideas in the morning and you make more money than like if you just naively took her ideas.
There's sort of two skills at a hedge fund, right There's being an analyst, which is like understanding companies and coming up with ideas, and there's being a portfolio manager, which is like making like the last step of like turning it into a trade and taking off the trade
and figure out how much risk to take. And they are like being the portfolio manager with like thousands of analysts who work for their cell side coverage, and they are taking the like raw information of the analysts and turning it into useful trades that make money for them. Or that's like the basic idea.
Yeah, it very loosely reminded me as I was reading this profile of something we've talked about before, which is you have short sellers who write research reports and then they sell them to hedge funds to actually do the trades.
Yeah, and they do some of that too. They do that, Like there are some like other other hedge funds who are like, we can't do this trade for whatever reason, but like you run a giant multi strategy fund, you could put this trade into your portfolio, and so they do it.
Yeah. I also thought it was funny. I mean, the article in the Wall Street Journal spent some time talking about how they have many fewer employees than a Citadel, for example, I think they have seven hundred and fifty employees versus Citadel's hedge fund has somewhere in the ballpark of three thousand. But it feels like, you know, they've outsourced for a lot of their trade ideas, so that potentially lightens the headcount needs.
Yeah, those headcounts comparisons always like I never understand them because like you know, conventionally need less headcount to do quantity things. Then you know, there are different kinds of businesses and a hedgehund, and some of them require more headcount than others. But yeah, like intuitively, if like instead of employing a lot of analysts to find ideas, you just like employ yourself side coverage to find the ideas,
then you need fewer analysts. I will say that when I write about this, I get a lot of emails from people who are cynical, and the cynical take on this system, and like other funds have done this, and like Blackrock Ages Ago got in trouble for doing something not this, but like the somewhat related thing, which is like sending out an analyst survey. People don't like this because they worry about fairness. Right, Like, if you send out a survey of analysts and you say, what do
you think about this stock? Some of the analysts might say, oh, I think it's bad, while they still have a buy recommendation on because they're going to later change their buy recommendation, right, They're gonna like you might get like a more updated view than like the published seal side research analysis. Similarly, if you're like surveying your salespeople and you say, what's
a good trade idea? One worry that a lot of people have is that your salespeople will say to you not like the idea they just thought of, but rather something that is predictive of like client. Right, Like, the salespeople know a lot about what other people are doing, and if you ask them for their best trade ideas, they might be leaking information to you. This is a worry that people have. I don't know if it's true.
And like in this in this journal article, they point out that like because of the way that Martial Waste does it, which is like with this automated system that like there has lots of timestamps and a lot of data, Like they have a better audit trail than like, you know, the conventional hedge fund approach of like calling up your salesperson and saying, hey, what are other people doing? Right, Like it's it's arguably more transparent and like less risky
thing than like the normal fundamental manager model. But it is a thing that a lot of people worry about that like you're leaking other institutional flows because your salesperson is like trying to compete to give martial waste the best ideas.
Yeah, and the article does mention that when this started in the late nineties, there's was some skepticism, some suspicion that is this even legal.
I can report from my email that that skepticism remains.
It remains. Yeah. Well, something I always think about when I read that is, you know, I try to imagine hedge fund like this launching in twenty twenty five and what the reception would be. Like It's easy to read this and be like, oh, well, it's been around for thirty years, so it much to be okay. But I imagine something like this launching now, you know, there would be endless ink spilled about that.
Yeah, I mean, you really do need scale to do this, because like you need people to fill out your little form. Like when you know, like the company that got in trouble for doing this was ten years ago. They settled with New York. It was black Rock because like, yeah, Blackrock, they can do whatever they want. If they ask analysts to like fill out forms, they'll fill out the form.
Right.
If you started a new hedge fun today and you asked every research analyst to fill out a form, they wouldn't do it. But yeah, there was also I forget it was called, but like there was this startup Edgemhen in the last year or two that was, like their business model was, we're going to have analysts and we're not going to have portfolio managers. We're gonna have like an algorithmic thing that will aggregate the analyst's recommendations into
a portfolio. Basically, we were gonna keep having human analysts because they're valuable, but we're going to automate the portfolio manager job. That's not exactly this, but it's related, right, like this one. You know, they do the portfolio manager job, but it's it's very quanti, right, Like they're using algorithms to aggregate the like investment ideas that they get from from like the cell side, and also doing other stuff.
The I mean to suggest that's all they do, but like that's you know, the thing they're kind of famous for. But like the the no PM thing is a little similar idea.
There's a quote from either Marshall or Waste in there talking about how we're not just taking Joe Schmo's stock ideas we do more than that they do have. In addition to this, tops is about forty billion of their seventy billion in assets. They do have a fundamental stock picking side of the business as well.
Yeah, I assume that, by the way, like this is not in the article, and I don't actually know how true this is, but like, certainly, if you run a business that rigorously analyzes the investment ideas of like hundreds of seal side people, if you notice that one of them is really good, you should probably hire that person, right, Like, you should probably move them over to your fundamental stock picking side rather than just let them, you know, give their ideas everyone.
This whole Street Journal article spends a lot of time talking about how different these two guys are, and it was a lot of fun to read this. But it's unique to see this hedge fund work so well. They found it in nineteen ninety seven or something, and we have the very recent example of two Sigma for example, it's co founders getting in such a brawl that they had to be separated.
So also worked quite well.
Though, Yeah, I know, but just in terms of the relationship there at the very top, you know, there was some intervention so that was a charming factor in this article.
I've had it refreshing when two people are like, yes, we've worked together for thirty years. It's a really good professional partnership. We don't socialize, it's just the job's cool man like us exactly looks like our podcast.
It's all for the camera, you guys can't see, but it's all I'm looking at is myself in the return. Okay, I have to go now.
The the