COVID, Hedge Funds and Lamprey Eels

In mid-March, cumulative COVID deaths were only 6,000 globally, half in China, and 50 in the US. I wrote a piece at the time that was judged to be overly provocative, so I didn’t publish it. But with global COVID deaths approaching 850,000 and 175,000 of them in the US, I have decided that I made a mistake: it was probably not provocative enough. So here it is, fast-forwarded from mid-March 2020 — better late than never!

When I read that activist hedge fund manager Bill Ackman of Pershing Square made $2.6 billion on a $27 million bet in late February, 2020 on the damaging effect of COVID on stock prices — and not only appeared on CNBC to make hysterical predictions that would help his cause (though he denies that was the motivation) but also had the temerity of bragging about his money-making exploits in a letter to his investors, it reminded me of growing up about 65 miles from the shores of Lake Erie.

At the time, there was an ecological battle being waged against the lamprey eel. Four of the five Great Lakes had historically been protected against the ocean-dwelling lamprey by the Niagara Falls which connects upstream Lake Erie to downstream Lake Ontario. But when the Welland Canal, designed to allow ships to bypass the Falls, was built, it inadvertently introduced the lamprey eel to Lake Erie (via attachment to the hulls of boats arriving from the ocean) which was teaming with lake trout, salmon, whitefish and sturgeon — none of which had the requisite evolutionary development to withstand this foreign predator. The lamprey simply affixes itself to the hapless fish and literally sucks the life out of it. Commercial fishing dropped to 2% of the previous level due to the lamprey.

In due course, the parasite would have killed 100% of the hosts and caused its own demise. But fortunately, before all species of fish were wiped out, stewards of the Great Lakes launched a decades-long campaign against the lamprey and their numbers have been reduced to 10% of their high and the fish species that were almost wiped out have returned in numbers to Lake Erie.

Bill Ackman and his ‘activist hedge fund’ confreres are the lamprey eels to the modern equity markets fish. They need prosperous, well-functioning equity markets in order to engage in their blood-sucking activities. Like the lamprey eels, they operate with blissful disregard for their prey. They can attack a company — making money shorting it while attacking it publicly — then get control of the board and force the victim to sell itself in whole or in pieces and make still more money as the change-of-control premium is crystallized. Then it is on to the next fish.

“Fish” are down 50% as the number of public companies has dropped in half since 1997. Plus, the ability of executive teams to manage their companies for the benefit of shareholders, employees and society for the long term is severely impinged by the lurking activist hedge funds. Imagine a fish attempting to focus on finding enough food to eat when it knows that lamprey are circling and if one attaches itself, it is likely a goner.

The entire equity markets are threatened by the activist hedge funds because their callousness and disregard for their host knows no bounds: and Bill Ackman has proven that beyond a shadow of a doubt. He brags about making $2.6 billion off COVID while has fellow Americans are dying and the economy is in shambles. Remember, when Bill Ackman makes $2.6 billion, someone else loses $2.6 billion: it is physics. Given that retirement investors own 37% of US equities (pension funds 22% and IRAs 15%), the chances are the retirees lost $1.0 to Bill Ackman’s callous profiteering from COVID death and destruction.

When Great Lakes stewards launched the counter-attack on the lamprey eel, they used a variety of angles of attack. In the end, carefully targeted poisoning ended up being the most effective. While after this latest egregious act, it might actually be a punishment that fits the sin, I am not recommending the poisoning of Bill Ackman. However, I would advocate the other major lamprey-control angle: making the context much more inhospitable.

And there are many ways. Right now, activist hedge funds are allowed to build up a substantial short position in a stock that they are actively planning to attack publicly in advance of the public attack. Right now, there is nothing stopping an activist hedge fund from paying a third party to create a negative research report on a company, none of which needs to contain a grain of truth, and time its short position with the issuance of the report that only it knows is coming. Right now, public pension funds have no restrictions on their ability to lend stocks to activist hedge funds, knowing full well that the only thing the activist hedge fund will do with the borrowed stock is to short it with the intention of driving down the price of the stock that the pension fund owns — the ownership of which put it in the position to lend the stock in the first place. Right now, enforcement officials have no practical or effective way of catching activist hedge funds engaging in the illegal activity of conspiring with other activist hedge funds to jointly attack a company — so they do it with utter impunity.

All of these things serve one purpose: to make it easier for activist hedge funds to make super-normal returns while everybody else in America suffers. This is insanity. Activist hedge funds should not be allowed to trade on material non-public information any more than corporate executives should be. Activist hedge funds should be forced to disclose at the time of commissioning any third party report that they have commissioned it and the purpose of the commissioning. Public pension funds should not be allowed to lend stock — which would severely limit the capacity of short-sellers. And both the enforcement and the penalties for inter-fund conspiracies should be amped up. Nothing would be better for the country than to see a couple of hedge fund managers go to jail for life rather than getting let off with a wrist slap like the utterly despicable Steven A. Cohen (who by the way is now buying the New York Mets with his illegal and utterly immoral profits).

This is an issue that pits a few thousand indefensible Americans against the other 330 million. It is time to make life for the activist hedge funds a little less pristine before we let them kill the host.

Professor Roger Martin is a writer, strategy advisor and in 2017 was named the #1 management thinker in world. He is also former Dean of the Rotman School.