Bluto: “Hey! What’s this lyin’ around shit?”
Stork: “What the hell we supposed to do, ya moron?”
D-Day: “War’s over, man. Wormer dropped the big one.”
Bluto: “What? Over? Did you say ‘over’? Nothing is over until we decide it is! Was it over when the… Germans bombed Pearl Harbor? Hell no!”
Otter: [aside] “Germans?”
Boon: “Forget it, he’s rolling.”
Bluto: “And it ain’t over now. ’Cause when the goin’ gets tough…”
Bluto: “The tough get goin’! Who’s with me? Let’s go!”
— Animal House
Hamilton Nolan posted a really stupid piece on Gawker this past week.1
Apparently the editor of our culture’s preeminent forum for snark and sarcasm was so outraged by Forbes’ annual encomium to the highest-earning hedge fund managers that he burst a gasket. I guess the shock was so great Mr. Nolan dropped a slice of gluten-free artisanal toast buttered with the tears of free range lambs raised on an anarchosyndicalist commune in Vermont face down on a rug woven by one-armed Peruvian orphans from the frayed fibers of their broken dreams. Or so I presume, given the fulsomeness of his resulting vitriol. Unfortunately for this forum, at least, Mr. Nolan’s righteous indignation was not matched by a similar zeal to get the most basic facts about the situation correct.
So the unsuspecting Whole Foods customers who read Mr. Nolan’s work were subjected to howlers like this:
Here is what George Soros’ fund did last year to earn him $4 billion: it underperformed the S&P 500 index by 8%. In other words, Soros charged his investors fees that are well over 1000% higher than what they could have paid for a simple index fund that would have earned them more money.Which is amusing since, as Mr. Nolan subsequently appended in a parenthetical correction to those very words, George Soros only manages his own money. I mean, I suppose it is shocking Mr. Soros had the audacity to charge himself and his charitable foundations zero dollars for the privilege of earning only four billion dollars when he could have earned significantly more, but I suspect even the meanest intelligence would find the towering indignation inspired by the preceding sentences dissipating somewhat once he realizes exactly what that means. (Perhaps Mr. Nolan counts on his fellow snark and outrage aficionados to miss the embarrassing reveal…)
But this failure to do the most basic fact checking—i.e., reading the goddamn Forbes article he cites—is not the worst of Mr. Nolan’s sloppy misrepresentations. Even he seems to shrug off the fact that thousands of rich institutions and individuals seem content to pay billions of dollars in fees to hedge fund managers for results which, in aggregate, have underperformed the general stock market.2 No, what really pisses Hamilton Nolan off is the notion these greedy plutocrats are stealing food out of the mouths of hungry refugees by paying preferentially low tax rates on their filthy lucre. He points out, correctly, that alternative asset managers like hedge fund managers benefit from the treatment of their performance fees as carried interest. Carried interest, for those of you ignorant of it, enables the managers of certain investment partnerships to treat the performance fees they earn (typically 20% of the positive returns they earn for their limited partners) for tax purposes as capital gains, presumably on the theory they are returns to the “sweat equity” (i.e., not real money) that managers contribute to the partnership. This can be advantageous to the extent these managers, like those in private equity and venture capital partnerships, generate returns over a period of several years, which can then be taxed at preferentially low long-term capital gains rates.
But what Mr. Nolan fails to recognize is most hedge funds earn the bulk of their returns by rapid trading of liquid investments and assets like stocks, bonds, commodities, derivatives, and anything else for which a willing counterparty can be persuaded to part with a bushel of folding money. They are trading vehicles, which means most of the capital gains they earn via performance fees are treated as short-term capital gains. And short-term capital gains, under our current tax code, are taxed at the same rates as ordinary income.
Which means, technically speaking, that Hamilton Nolan is full of shit.
Now this is not to say the treatment of performance fees for alternative asset managers as capital gains via the mechanism of carried interest makes much sense or is good tax policy. I have argued strenuously in the past that performance fees earned by professional managers with no underlying capital at risk should be treated as what they clearly are: ordinary income for services rendered. The current tax regime is patently unfair, and the counterarguments offered by interested parties involved are weak and self-serving. But this does not invalidate the fact that, under the law, hedge fund managers who trade their clients’ money actively (that is, most of them) pay the equivalent of ordinary income rates on their performance fee income.3 Private equity plutocrats—who, interestingly enough, tend to make less money every year and have lower net worth than the best hedge fund managers—are the ones who benefit disproportionately from the current biases of the tax code. But Mr. Nolan is not attacking them.
Nor is it to deny that hedge fund managers, like any other person richer than Croesus, have the money and means to pay legions of lawyers and accountants millions of dollars to structure elaborate tax shelters and help them defer or evade billions in taxes. But this is not limited to hedge fund managers: it is a privilege enjoyed by any rich and politically powerful person who is willing to spend a tiny fraction of their income to shield the bulk of it from the taxman. You may thank the complexity of our tax code and the ingenuity of clever men and women willing to delve deep in its bowels for that.
At the end of the day, O Dearly Beloved and Excessively Tolerant Readers, what really annoys me about Hamilton Nolan’s poorly researched and badly premised hit piece is that its own strongest feature—a deep suspicion of and revulsion toward enormous sums of money flowing to tiny numbers of human beings while billions struggle to make ends meet—is almost completely undermined by its almost comical disregard for the facts. Growing wealth and income inequality around the world is engendering serious sociopolitical conflict, but attacking the wrong people for the wrong reasons with the wrong arguments will do nothing to address it.
Polemics can focus the mind wonderfully, but they must be based in truth if they are going to persuade anyone. One of my favorite non-finance bloggers about academia and culture, Freddie deBoer, wrote an illuminating essay about this very issue in academia not long ago:
This is the problem with speaking the “emotional truth,” a common invocation for adjunct essayists and part of a lot of rhetorically counterproductive strategies that, I’m sorry to say, creep into this genre a lot. The emotional truth is invoked on the ground in the day-to-day discussions I have with adjuncts. People will make claims that I know to be factually inaccurate, or will advance ideas that I find politically misguided, and I will push back. When confronted, they will say something like “I am entitled to my anger,” leaping back and forth from a position of making a dispassionate economic analysis to a position of emotional truth that I am therefore, in their minds, obliged not to contradict. There are all sorts of ways bad arguments and misleading information get excused in these debates– “it’s agitprop! it’s not intended to be factual! it’s meant first to provoke!”– and I think each of these, while certainly understandable, are ultimately unproductive. And they have made this argumentative space one of bullying and rejection.
To extend Mr. deBoer’s analysis, most of the people involved in the analysis, practice, and regulation of finance “are people who think that facts matter, and so when you are loose with the facts, you make it harder to get their support.” Yeah, like impossible. Most of us—even those who might otherwise be sympathetic to your analysis or agenda—just throw up our hands and ignore you. If you can’t argue from the facts, you are simply pandering to your own anger and the prejudices of the uninformed elements in your audience. You may be penning compelling polemics, but you are wasting every serious person’s time, and you certainly aren’t convincing them. In addition, you make it easier for them to discard everything you write or say, because your argument is riddled with silly, obvious omissions, misrepresentations, and untruths. Your potential allies think you’re a harmful idiot, and your enemies gleefully disregard any valid points you might make because you are a careless, misleading boob.
Polemics are fine, but don’t neglect the foundation of facts you must build them upon. Otherwise you’ll become like Matt Taibbi:4 beloved by those who don’t know anything and scorned by those who do.
Tax Breaks for Everyone! (June 14, 2007)
The Taxman Cometh (July 11, 2007)
1 “Gawker?!”, you gasp. Yes, yes, I know: most of you do not visit these pages with the view to enjoying the spectacle of me beating up the feebleminded, but I do have a larger agenda. Besides, it’s fun to go slumming on occasion. I promise I won’t make a habit of it.
2 A more intellectually honest and curious journalist might explore why so many presumably silly rich people allocate so much money to hedge funds and other alternative investments. That same journalist might find it revealing that the class of such assets allows one access on occasion to consistent outperformance which handily trumps average market returns. That journalist might also find it suggestive that rich folk such as Mr. Soros and his former clients are happy to trade volatility and uncertainty of investment returns for the opportunity to make tons of money when their manager is right. Finally, that journalist might discover that hedge funds invest in a much broader and more diverse universe of asset returns than simple stock market indices, which can be handy when the latter are pissing the bed. But I suppose we must not hold Mr. Nolan to such unrealistic standards.
3 And on the distributed returns they earn on the personal capital they invest in their own hedge funds. It is quite common in hedge fund land for managers to have very large portions of their personal net worth invested in their own funds. This is one good reason to admire these swashbucklers: they eat their own cooking and put their own capital at risk alongside that of their investors.
4 Or Matt Taibbi Junior. Say what you will about Mr. Taibbi, who also undercuts his own far more effective polemics with a highly tendentious style of argument that runs roughshod over the truth, at least he tends to do research. I very much doubt he would have stumbled over the elementary source of Mr. Soros’s income.
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