Fooling Some of the People All of the Time, a Long Short (And Now Complete) Story, Updated With New by David Einhorn (tohfa e dulha read online TXT) 📕

As Rechler and his team huddled for a few months, the stock began to rise as investors seeking new Internet stocks noticed OnSite, and the stock took off when an Internet tout under the name “Tokyo Joe” highlighted Reckson Services. Reckson Services hired a fellow from General Electric. GE’s management was so well regarded that hiring anyone who worked at GE lent instant credibility. Reckson announced that it would lever OnSite and the shared-office-space company to transform the company into an incubator of Internet companies, catering to small and medium business. An incubator is essentially a publicly traded venture-capital company. (The leading Internet incubator CMGI had a $10 billion market capitalization at the time.) Reckson changed its name to Frontline Capital Group. The market loved the hire from GE, the new strategy, and the new name. The stock soared, reaching $60 a share by the end of the year, valuing the company at $2 billion. We sold one-third of our Frontline Capital position near what would be the top. This was not a brilliant call on the stock: Frontline had simply become too big a percentage of the fund given its valuation. The market had begun to properly (in hindsight, excessively) value the option we had acquired for nothing.

The explosive rally in Frontline Capital, the recovery of Agribrands, the first collapse of Seitel and the early success of a spin-off investment, Triad Hospitals, fueled a 39.7 percent return in 1999. At this point, Greenlight hit “critical mass.” Having survived the 1998 market meltdown and capitalized on the 1999 market melt-up, our results were much better than most value-oriented funds, many of which spent 1999 “fighting the tape.” Seemingly overnight, everyone wanted to invest. Our assets under management hit $250 million.

But in early 2000, things became difficult for us. First, Frontline began to fall. OnSite had trouble over a non-compete clause in its CEO’s contract with his former employer that delayed its planned IPO. Though the Internet bubble still had several weeks to its final top, Frontline did not exceed its late 1999 highs.

We also lost money shorting Chemdex, a publicly traded start-up setting up a business-to-business (B2B) network for companies to sell chemicals to one another. Chemdex paid for its customers to install computers and software to use its network. Chemdex induced a couple of large chemical companies to test the service at a discounted commission by giving them stock. While Chemdex hoped to earn a small commission on each transaction, it booked the entire value of the goods exchanged as revenue. Chemdex had almost no chance to generate enough commissions to cover its enormous up-front investments or its operating expenses, which were plainly not being controlled. We invested 0.5 percent of our capital to short Chemdex at $26 in September 1999, which was up substantially from its $15 IPO price in July.

In November, Chemdex announced a strategic alliance with IBM Global Services, where IBM would sell technology to Chemdex’s customers. I could not figure out why that was exciting, but the shares doubled in a week. I missed the joke and doubled the position at $71 per share. In mid-December, Morgan Stanley’s star Internet analyst, Mary Meeker, reiterated her “outperform” rating, writing, “We think Chemdex has got what it takes.” There really was no more substance to her analysis than that. As a result, the shares soared another 50 percent that week. In late February, Chemdex changed its name to Ventro. The name change indicated Chemdex would expand its network to other industries—“verticals”—and needed a new name to express its bolder ambition.

I got a clue and gave up. We covered at $164 per share on February 22. This made Chemdex/Ventro our biggest short loser of all time, costing us 4 percent of capital. Did I feel smart when the shares hit $243 on February 25? No. That was not ten times as silly as $26. Both were stupidly silly. Of course, after the bubble popped, the shares touched $2 later that year . . . on their way lower.

At the top of the bubble, technology stocks seemed destined to consume all the world’s capital. It was not enough for all the new money to go into this sector. In order to feed the monster, investors sold everything from old economy stocks to Treasuries to get fully invested in the bubble. Value investing fell into complete disrepute. Julian Robertson’s Tiger Fund, which had an extraordinary multi-decade record and became the largest hedge fund in the world, performed poorly while holding a variety of old-economy stocks. Robertson liquidated.

February 2000 was our second worst month ever. We lost 6 percent, mostly in our longs, as capital fled traditional industries. We lost several percent more in early March until the Nasdaq peak on March 10. We lost a little bit of money every day for five weeks. Other than cutting our losses in Chemdex, there really was not much to do about it.

Then . . . the market reversed. Just like that. Partially informed by our Chemdex/Ventro experience, I believe the Internet bubble made its ultimate top the day the last short-seller could no longer afford to hold his position and was forced to cover. Market extremes occur when it becomes too expensive in the short-term to hold for the long-term. John Maynard Keynes once said that the market can stay irrational longer than you can stay solvent. From the peak, the market returned to rationality. The leading stocks suffered a devastating bear market and value investing made a “bottom.” These enormous excesses would be completely reversed over the next few years.

This was a good environment for our strategy, and we recovered from our bad start to the year. However, the Frontline Capital stock we held fell sharply and cost us, and we lost money shorting the mail-order contact lens seller 1-800 Contacts. We believed it sold lenses without properly verifying the prescriptions, as required. The Food and Drug Administration (FDA) investigated, but decided not to act.