Learn to Perch: WFC, BBB, TOPS
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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 at my parents to feed him like a baby. The flying we need to work on, though. He's really good at flapping, but 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 Money 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 any doubts. It's going to be weird if this is your first episode. Speaking of being let out of your cage, Wells Fargo, let out of its cage. Charlie Sharp. Learn to perch. 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 2018 has been lifted. So the Bloomberg article about this reported that when Charlie Scharf, the CEO of Wells Fargo, he joined the bank like a year after the asset cap was imposed. And when he was like interviewing, he was aware of the asset cap because it was a pretty high profile thing. But

According to the article, they couldn't tell him exactly how they were doing it.

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, 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 and it turned out to be like a five year process after he joined. But now it's, now it's all better. Yeah. Our reporting on the matter suggested the same. Well, fast forward to 2025 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 20 percent on a total return basis. And the KBW Bank Index as a whole was only up about 7 percent in that time. So there was the anticipation was there. But also, according to our reporting, it took some senior executives time.

by surprise. Oh yeah, one of them was like doing an intern visit or something. I think the chairman was celebrating his 73rd birthday. So this is a nice surprise. Before we talk about like 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 2018. I'd love to hear your thoughts on the lead up there and how unprecedented this was. I feel like in 2018, everyone was paying attention to Wells Fargo.

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 is 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 a day. And so they're like, okay, fine. Everyone who signs up for a check-in account, we're going to 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 made people really mad because it just sounds bad. I think it sounded a little worse than it was, but it was pretty bad. And I thought it was an interesting scandal because people disagreed with me about this, but like,

It didn't help Wells Fargo to open these fake accounts. There were a few accounts where you open a credit card and you charge a credit card fee, so Wells Fargo made a little bit of money from the fake accounts, but it's negligible. Almost all of these fake accounts were like nothing happened in them. It was truly just the employees gaming the management. The employees were told, you got to open eight accounts a day. They're like, fine, we'll do this. But it was just these meaningless accounts that didn't help Wells Fargo, but that met quotas.

And that is not a problem of a bank with evil intent at the top. That is the problem of a bank that has management troubles and trouble supervising its thousands of employees and trouble designing incentives and designing programs to make sure that people are operating in the best interests of the bank. And you always used to read people talking about banks being too big to manage.

And you look at that scandal and you're like, yeah, this is maybe a bank that doesn't have a handle on all of its employees and all of what it's doing. This is a bank that has not figured out how to manage its bigness. And so I always thought that there was a poetic justice to the punishment for some of these scandals being bank regulators saying you can't grow your balance sheet anymore. Because that's a direct cap on bigness. It's not a cap on employee numbers, but it's a cap on size. And it sort of focuses the mind on like,

okay, we gotta be able to manage the bank at 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 like run their business in a safe way. And I don't know, it 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 2018 was, I wonder if they gave me a credit card too. I don't have a Wells Fargo bank account. I do have a Wells Fargo 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'm like, go.

go to the store and buy a pack of gum so that I can get the credit card open? Oh, you want it. I don't care. It's like sitting at my desk. It 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 in 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 logo. To keep them under the asset cap, they fired the horses. 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. The cap was on, and now it's off. There wasn't

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. Wouldn't that be normal to say, okay, you can grow by $100 billion? It would be weird, right? They're just like, they've put this...

very draconian punishment on and now it's been fixed and they're like, okay, fine, grow 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 told me, has grown by an entire Wells Fargo since this cap went into place.

You take a look at Wells Fargo shares since the start of February in 2018. They're up 43% in total return terms since that time. You compare that to J.P. Morgan up 178%. Goldman up 160%. This has been crippling for the performance of this company. Yeah. I mean, like the Bloomberg reporting suggests that there is 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 tailwinds for banks. Yeah. Also, this one was kind of funny. I was looking at its valuation as well. It's priced a book. Wells Fargo trades at a price a book of 1.5. You compare that to JP Morgan's. JP Morgan trades at like 2.2. Citi. Citi trades at 0.7, which I think says more about Citi than it does about Wells Fargo. But that was kind of fun.

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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 Fargo that you banked out in college. But yes, the Egan Jones Rating Company. Good point. Operates out of a house in Haverford, 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? So Egan Jones is founded by Sean Egan, who

kind of made a name for himself in the financial crisis, criticizing the big three ratings agencies for their conflicts of interest. People think of ratings agencies as organizations that write reports saying whether an issuer is a good credit risk. I mean, this came up a lot recently when Moody's was the last agency to downgrade the US government.

And I was like, ooh, what does it mean? Because these agencies are sort of seen as the arbiter of credit risk. And his criticism in 2008 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 issuers say...

We won't pay you anymore if you don't give us a high rating. And the agency would say, fine, fine, fine, we'll give you a high rating. And this is like the sort of conflict of interest model. And it's particularly a concern in 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 100% true now, but the general idea of the model was they would get paid by

They'd get paid by people who wanted to buy the debt, and therefore they would have fewer conflicts of interest because they would be looking out 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 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 you're a lender. You're in the business of knowing whether it's a good risk or not. You might be interested in 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 what your book is supposed to look like. So if you're an insurance company,

and you make investment-grade loans, 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 to hold a lot of capital. 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 issuer, right? You want a high rating. You don't care. If the world worked in such a way that every bond could be rated triple A, you'd be like, great, I can buy every bond I want. You wouldn't buy the worst bonds. You'd do your own credit analysis, but you wouldn't have to worry about regulation anymore.

Of course, 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 of 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 read Egan Jones, like,

you know, there's a big Bloomberg 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 20 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 like, 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

I don't know. I mean, 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 24 hours, a formal verdict in less than five days, whereas you compare that to an S&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 some ones that aren't very good. 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, 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 a triple A, there would be demand for that. But you wouldn't last long. There wouldn't really be demand for that. It would be great to get everything rated triple A, but it wouldn't really satisfy your regulators. It wouldn't really satisfy anyone. So I don't think that they're a rubber stamp. I think that they're doing genuine credit work. But I think there is some insinuation that they have a tendency to rate stuff higher than other people would rate it.

particularly they're 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 going to want the one that works with them nicely and is maybe a little bit generous well to

To the point on generosity, there is a description in this article 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 average.

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 never fully understood it. Like, there's some real controversy going on at the National Association of Insurance Commissioners. 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 those insurers are like, basically, like, we would like to chuck a lot of our money into private credit. We think we're 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 then there are 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

They think the asset manager-owned insurance companies are making too much money. There is controversy within the insurance world where 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. Some of that controversy has played out in the issuing and rescinding of reports at

It's a point of contention. And 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 made the point that the public investments that they rated tended to do okay. It's just that it kind of deteriorated as it got

into more private sort of investments. I guess kind of the whole point of their business, though, is 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 B rated, it seems like, before they blew up.

When I was a banker, we did this analysis for companies that was like, what is the optimal credit rating to have? And I never fully understood them. There was some complicated

model that told you what the optimal credit rating to have was based on your unique facts and circumstances. But the answer was always BBB-, which makes total intuitive sense. Because basically, there's a breakpoint where investors can buy anything rated BBB- or above, and they can't buy anything rated BBB- or below. And so you get access to the investment-grade buyers, which lowers your cost of debt if you're BBB- 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 world, same story, right? Like you want to lend money to the most exciting, riskiest companies that will pay you the most, right?

consistent with getting a triple B rating. And so 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 back in the day. Chicken Soup for the Soul had a weird slide into bankruptcy, but it was triple B rated at Egan Jones until like through like 2023. Yeah. 14 months after Egan Jones reiterated its triple B rating for the company, it filed for bankruptcy and its lawyer said at the time it only had 25 grand left in the bank. So that was...

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 main line. Apparently they sold the four-bedroom Colonial on Haverford Station Road for...

in late 2024 for $865,000, which seems pretty cheap. It's funny. When you said, can I tell you the most surprising thing? I was like, this is probably going to have a referred real estate thing. It does seem cheap on the main line. Yeah. Four bedrooms. God, I wish I had bought it. I know, right? 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. How can you grow your business from idea to industry leader? Bring your vision to life with smart business buying tools and technology from Amazon Business. From fast, free shipping to in-depth buying insights and automated purchase approvals, they deliver everything you need to achieve your goals.

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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 Weiss. 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 discussion with Puzzle Hunt. Still recovering from that episode. Yeah.

And they... Wei Swen's challenged a group of hires to visit the most countries in Europe within 24 hours. And one guy went to every embassy in London. So he, like, won on a technicality. And they hired him. Wei 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, OK, fine. You got a job. Come on in. Yeah, right. That amused me.

I mean, the main thing that is so interesting about Marshall Waste is they have found this way, they call it TOPS, to monetize sell-side research and sell-side stock tips. You run a hedge fund, people are calling you all day from banks saying, yeah, you should buy this stock. And conventionally, the response is,

well, I'm at a hedge fund and you don't. So why, like, if you're telling me to buy this stock, like clearly I'm better at this than you are. So why, why would I listen to you? And Marshall Mace was like, we're going to write them all down and we're going to see if any of them provide useful signals. And now they have this like very complicated quantitative system that, that like extract signals from what like their sell side coverage tells them. And that is endlessly fascinating because like,

like one thing that is happening here is like this is like they can understand the sell side analysts like better than those people understand themselves because like they're you know putting it into a quantitative model and the sell side guys are just like you know calling clients all day and so like 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 cuts his winners too soon. So they'll just ignore him when he cuts his winners and like, they will do better with his recommendations than 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. Um,

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 sell 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. There are some other hedge funds who are like, we can't do this trade for whatever reason, but you run a giant multi-strategy fund. You could put this trade into your portfolio. And so they do it. Yeah. I also thought

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 750 employees versus Citadel.

Citadel's hedge fund has somewhere in the ballpark of 3,000, 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 headcount comparisons are always like, I never understand them because like, you know,

conventionally you need less headcount to do quantity things. There are different kinds of businesses in a hedge fund and some of them require more headcount than others. But yeah, intuitively, if instead of employing a lot of analysts to find ideas, you just employ your sell-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 a 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. Well, they still have a buy recommendation on because they're going to later change their buy recommendation. They're going to like you might get like a more updated view than like the published sell side research analysis. Similarly, if you're like surveying your salespeople.

And you say, well, it'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 flows, 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 journal article, they point out that like

Because of the way that Marshall Waste does it, which is with this automated system that has lots of timestamps and a lot of data, they have a better audit trail than the conventional hedge fund approach of calling up your salesperson and saying, hey, what are other people doing? It's arguably a more transparent and less risky thing than the normal fundamental manager model. But it is a thing that a lot of people worry about, that you're leaking information.

Yeah, and the article does mention that when this started in the late 90s, there was some skepticism, some suspicion that, is this even legal? Yeah.

It remains. Yeah. Well, something I always think about when I read that is, you know, I try to imagine a hedge fund like this launching in 2025 and what the reception would be like. It's easy to read this and be like, oh, well, it's been around for 30 years, so it must be OK. But I imagine something like this launching now, you know, there would be endless demand.

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 10 years ago, they settled with New York. It was BlackRock. Cause like, yeah, BlackRock, they can do whatever they want. If they ask analysts to like fill out forms, they'll fill out the forms, right? If you started a new hedge fund today and you asked every research analyst to fill out a form, they wouldn't do it. But yeah, there was also, I forget what it was called, but like there was this startup hedge fund in the last year or two that was like

Like their business model was we're going to have analysts and we're not going to have portfolio managers. We're going to have like an algorithmic thing that will aggregate the analyst recommendations into a portfolio. Basically, we were going to 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 very quanty, right? Like they're using algorithms to aggregate the like

ideas that they get from the sell side and also doing other stuff. I don't mean to suggest that's all they do, but that's the thing they're kind of famous for. But the no PM thing was a little similar idea. There's a quote from you

Either Marshall or Wayson there talking about how we're not just taking Joe Schmoe's stock ideas. We do more than that. They do have, in addition to this, Topps is about $40 billion of their $70 billion in assets. They do have a fundamental stock picking side of the business as well. Yeah, they have a plan on this. I assume that, by the way, this is not in the article and I don't actually know how true this is, but certainly if you run a business that...

who rigorously analyzes the investment ideas of hundreds of sell-side people. If you notice that one of them is really good, you should probably hire that person. You should probably move them over to your fundamental stock picking site rather than just let them give their ideas to everyone. This Wall 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 founded it in 1997 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. Two Sigma has 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 found it refreshing when two people are like, yes, we've worked together for 30 years. It's a really good professional partnership. We don't socialize. It's just the job. I've never gone out to dinner with this man. It's like us. Oh, man.

Yeah, exactly. It's 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. Bye.

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