An Interview with a “Capitalist Pig”: Jonathan Hoenig on Hedge Funds, the Economic Crisis, and the Future of America

I recently spoke with Jonathan Hoenig, manager of the Capitalistpig Hedge Fund and regular contributor to Fox News Channel’s Cashin’ In, Your World with Neil Cavuto, and Red Eye with Greg Gutfeld. Mr. Hoenig is also a columnist for Smartmoney.com and contributes economic commentary to WLS 890AM in Chicago. —Craig Biddle

Craig Biddle: I must ask at the outset, why did you name your firm “Capitalistpig”? Is there a story behind that?

Jonathan Hoenig: Yes, there is. From weeding yards as a young boy to working at Starbucks in high school, I have always been interested in money and actively hustling for dollars. Getting an “A” in school didn’t mean much to me, but earning a few hundred dollars working in a local warehouse or passing out samples of Nutella (another summer job) always provided a tremendous sense of accomplishment and pride.

One of my earliest memories is going with my dad to our local bank and opening my first passbook savings account. Even then, it was a real thrill to watch the balance slowly build. As a kid, while many of my contemporaries were either bullying (or being bullied), I was busy discovering the virtue of mutually beneficial exchange. My neighbor appreciated me cleaning out her basement, and, for a few bucks, I was more than happy to do an excellent job. Ever since I can remember, capitalism wasn’t something I spurned, but embraced.

Knowing I wanted to pursue a career in the financial markets, after college I traded futures at the Chicago Board of Trade for a few years before opening up my firm in 2000. The name Capitalistpig Asset Management was a punchy way of communicating the philosophy by which my operation is run. We also give all new clients a copy of [Ayn Rand’s] Atlas Shrugged. The name Capitalistpig also helps to attract the right type of customer. I prefer to work with like-minded individuals who support capitalism and individual rights and are happy to be part of an operation that loudly promotes these ideals.

CB: What exactly is a hedge fund? How is it different from a mutual fund? And what do you and other hedge fund managers do?

JH: A hedge fund is simply a pool of money funded by profit-seeking investors and managed by a professional money manager. In that sense, it is similar to a mutual fund. But unlike a mutual fund, a hedge fund is not required to register with the Securities and Exchange Commission. This doesn’t mean hedge funds are unregulated; far from it. The government places stringent restrictions on how hedge funds can operate. Most notably, we’re prohibited from accepting investments from “nonaccredited” individuals—meaning, those who don’t have a liquid net worth of at least $1 million or haven’t earned an income of at least $200,000 for two consecutive years. This, incidentally, is the source of the notoriously “exclusive” and “elitist” nature of hedge funds: They’re exclusive and elitist not by choice, but by government edict.

While most people assume that hedge funds trade frequently and make big bets on financial esoterica, the truth is a hedge fund is a legal structure, not an investment technique. Some trade frequently and use leverage, others buy and hold stocks for months or years at a time.

So while the media routinely characterize hedge funds as “risky” or “highly leveraged,” the reality is that hedge-fund strategies, just like mutual-fund strategies, run the gamut from the ultraconservative to the highly volatile. Some managers employ complex spread trades, while others simply buy and sell stocks. Just knowing someone runs a hedge fund tells you absolutely nothing about how it’s run. What matters are the strategies, positions, and discipline that the manager uses to maximize the money.

My fund is focused on absolute return, ideally earning a profit regardless of the condition of the stock market or larger macroeconomic environment. To accomplish this, I use strategies such as selling short, trading options, commodities, currencies, and other instruments, some of which aren’t directly correlated with the stock market. My fund functions as one part of an individual’s portfolio, usually no more than 25 percent, and it has been profitable eight out of nine years, earning a total return of over 345 percent. The Dow Jones has lost 28 percent over the same period.

CB: Hedge funds and their managers have been loudly and repeatedly condemned for having somehow caused or exacerbated the current financial crisis. Did hedge funds lead to or worsen the crisis? If so, how? If not, what do you make of such claims?

JH: Such accusations are absurd. Hedge-fund managers have neither caused nor exacerbated the financial crisis, and they couldn’t have done so even if they had tried. These managers simply invest money for their clients. If they make good investments, their clients make money; if they make bad investments, their clients lose money.

Moreover, hedge funds—one of the few financial industries that has not asked for and will not receive a bailout—actually helped shoulder the burden of the credit collapse. In buying and selling risky mortgages, loans, and other instruments, hedge funds substantially mitigated the crisis by adding liquidity to the marketplace and facilitating trade. Wealth creation requires investment, and the savings needed in order to make loans, finance operations, start new companies, and invest in R&D come from investors, such as hedge-fund managers, who are seeking to profit. Far from fueling the financial crisis, hedge-fund managers reduced its severity, and continue to do so, by allocating capital in accordance with the principles of economics, long-range thinking, the profit motive, and market demand.

CB: Could you elaborate on the role hedge funds play in the broader economy? How do their capital allocations affect, positively or negatively, the economy as a whole?

JH: Hedge funds buy and sell stocks, bonds, commodities, currencies, debt, and the like, aiming to make a profit for their investors. Fund managers monitor everything from the earnings and potential of particular businesses to the legislative activities of state and federal lawmakers, always with an eye toward determining the best place to put their clients’ money—whether to fund the buggy whip or the automobile, Google or theglobe.com, Bill Gates or Bill Ford.

Hedge-fund managers, like all investors, allocate wealth to create more wealth. They do so by analyzing markets and placing capital in accordance with their best judgment. In a word, they do it by “speculating”—an activity that could be seen as a bad thing only by those who regard thinking, planning, and judging as bad things. In the aggregate, successful hedge funds create massive amounts of wealth by investing intelligently. This benefits their investors and spurs the economy in general.

CB: The so-called G-20 leaders have rallied for increased regulations on hedge funds, including “oversight” by a “Financial Stability Board” composed of members of the G-20 and the European Commission. Here at home, the Obama administration, claiming that hedge funds pose a “systemic risk,” is taking steps to require hedge funds to register with the SEC, and to close certain tax loopholes for hedge-fund managers. And Rep. Sander Levin [D-Michigan] has introduced legislation that would increase the tax rate paid by hedge funds. What does all this mean for fund managers, their clients, and the marketplace?

JH: One might assume that these calls for more government intervention are a consequence of massive investor losses or widespread fraud in hedge funds. Yet in the aggregate, in 2008, hedge funds far outperformed SEC-regulated mutual funds and separately managed accounts, losing only 18 percent while major markets declined by nearly twice that. Their long term results are even more impressive.

I have to laugh whenever I hear that hedge funds are these unregulated bandits, running rampant through the capital markets and wreaking havoc at every turn. While laughably false, however, this idea fuels conspiracy theorists who claim that a secret cabal of hedge-fund investors is behind the scenes pulling the markets’ strings. Oil going up? Must be the hedge funds cornering the market. Stocks going down? Must be the hedge funds selling short. They are scapegoats for every market malady.

The reality is that hedge funds are already heavily regulated. As I mentioned earlier, hedge funds are limited by the government to wealthy investors. And while mutual funds and brokers spend hundreds of millions of dollars a year on advertising, hedge funds aren’t allowed to promote or publicly solicit business in any fashion. You’ve never seen a billboard, TV spot, or magazine or direct mail advertisement for a hedge fund—because such promotions are illegal. Can you think of any other industry that is subject to such oppressive constraints?

Additional regulations and higher tax rates for hedge funds will only further violate the rights of managers and investors, by further restricting their ability to pursue rational, wealth-creating investment strategies, and by seizing more of their hard-earned profits.

It’s worth mentioning, in light of all these calls for more regulation, that Bernie Madoff was registered with and regulated by the SEC. Many of the details of his nefarious activities were dropped in the laps of regulators by whistleblowers, only to be roundly ignored. And because his industry was known to be heavily regulated, no one was checking into the viability of his “strategy.” Everyone was relying on the SEC’s wisdom and diligence. So much for the efficacy of regulations in dealing with fraud.

In a free market, Madoff could never have gotten away with such massive fraud, because in a free market, people don’t rely on bureaucrats to do their thinking. They rely on themselves and on paid experts and on reputable ratings agencies—which, in a free market, would not be in bed with the government, as many of them are today, because a free market entails complete separation of economics and state.

Regulation doesn’t eliminate fraud; it only short-circuits the market’s ability to detect it. Just as Sarbanes-Oxley didn’t eliminate financial crime after Enron, the forthcoming reregulation of the financial markets will not thwart the Bernie Madoffs. It will only violate rights, raise costs, and curtail growth.

CB: How would hedge funds work in a fully free market?

JH: In a free market, hedge funds would be even more beneficial to markets than they already are, and that’s saying a lot. To begin with, people wouldn’t have to be rich to invest in them. That government-imposed restriction treats non-millionaires as idiots—smart enough to make their own money, but too dumb to know what to do with it. Someone with $999,999 isn’t permitted to allocate even $25,000 to a conservative hedge fund, yet he is perfectly free to put his entire net worth into penny stocks or start day-trading his 401(k) or give his money to the likes of Madoff.

Further, in a free market, hedge funds would be able to advertise and publicly solicit business, which, ridiculously, they can’t do now. Customers, in turn, would be able to evaluate their options and decide which, if any, funds met their investment objectives. The fees charged to customers would drop dramatically. More people would invest in hedge funds. The influx of profit-seeking capital would fund new businesses, create new markets, and lead to improved strategies. More people would become wealthy in America and across the globe. Talk about a “stimulus program!” And it wouldn’t cost taxpayers a dime.

CB: Given the destructive nature of government interference in the marketplace, what do you make of the bailout of Bear Stearns? What would have happened if the government had kept its hands off the market and permitted this fallen giant to file for bankruptcy?

JH: The $29 billion bailout of Bear Stearns, engineered by now-Treasury Secretary Tim Geithner, was the shameful first shot in this latest round of interventions into the financial markets—interventions that have unfairly saddled innocent taxpayers with fallout from risks most were smart enough to avoid.

The collectivist underpinning of these maneuvers is that, although very few of us invested in Bear Stearns, or Citigroup, or AIG, or Bank of America, somehow “we’re all in it together” and must share the cost and responsibility for keeping these poorly funded and fundamentally unsound institutions afloat. This whole approach is immoral and impractical. Bloomberg has calculated the cost at over $42,000 for every man, woman, and child in America, and the effect on the economy and financial markets has been devastating. Instead of the risk of bad mortgages or derivative bets being confined to those who were voluntarily willing to accept them, we’re all on the hook. That’s unjust. And instead of the government recognizing that its interventions are the cause of such crises, the government is intervening further to “solve” the problems created by its earlier interventions. This has prolonged and worsened the current crisis in innumerable ways—and will continue to do so for the foreseeable future.

Like all the previous government backstops and guarantees, it will encourage banks, brokerages, and other financial institutions to take on unsustainably high levels of risk in the future. Instead of having to accept the consequences of bad judgment and imprudent risk, the message being sent is that the American taxpayer, care of Uncle Sam, stands by to save institutions that, in a free market, would file for bankruptcy and be restructured or sold off for whatever they’re actually worth.

Another consequence of all this government intervention is that it has lent credence to the notion that business is inherently corrupt. Because the crisis is being blamed on greedy businessmen and free markets, rather than on the selfless politicians and altruistic regulations that actually caused it, many people are now more hostile toward capitalism than ever. The bailouts have been a disaster in myriad ways from day one.

CB: What do you make of recent developments such as President Obama’s ousting of General Motors’ CEO; the government’s nullification of employment contracts in the case of AIG bonuses, and of investment contracts in the case of Chrysler’s senior-secured creditors; and the government’s refusal to accept repayment of TARP money from banks? What do these actions and precedents mean for businesses and investors in America?

JH: As Ayn Rand said, “Under fascism, men retain the semblance or pretense of private property, but the government holds total power over its use and disposal.” That’s exactly what we’ve seen with the automakers, the mortgage companies, the banks, and other “bailed-out” firms. Businesses in America today—not just these businesses that the government has openly taken control of, but all businesses in America—are now “privately owned” in name only. Many large financial institutions, such as Northern Trust in Chicago, didn’t ask for or need TARP money, yet were forced to take it—which put Washington in charge of their affairs. Once the precedent is set that the government can fire CEOs, nullify business contracts, dictate business strategy, and make businesses offers they can’t refuse—all of which has occurred—nothing stands in the way of the government doing the same to any other business.

The latest and potentially most frightening plan is the administration’s intention to appoint a “Systemic Risk Regulator” with the ability to disrupt any business he feels is taking on “excessive” leverage—a completely arbitrary standard that overtly hinders many hedge funds’ ability to trade with borrowed money. Because individuals or funds have a moral right to engage in whatever risk they deem appropriate, calling the appointment a “systemic rights violator” would be more accurate.

The irony is painful, but President Obama just perpetrated an obscene act of governmental discrimination against a minority—by chastising and actively working to undermine the property rights of Chrysler’s senior-secured creditors. Long-established, rights-respecting bankruptcy law is being tossed aside on behalf of “the public good.”

What we have witnessed over the past few years is not only the biggest expansion in government power since the New Deal; it is an outright coup. The U.S. economy is no longer run by millions of individuals making decisions based on their own best interests; it’s run by politicians and bureaucrats making decisions for “the common good.” Washington, not Wall Street, is running the economy.

All of these interventions have supposedly been to restore confidence; the net result, however, has been just the opposite. Who in their right mind would invest in the stock or bonds of a company that is run not by businessmen seeking profits, but by politicians seeking power? And who could feel secure investing in a marketplace in which the government can and does change the rules on a daily basis? Investors can no longer count on the crucial recognition of property rights that used to be a given when investing in a stock, bond, or loan. The situation in U.S. markets today is more akin to that of socialist nations or outright dictatorships. How will this affect the U.S. economy? I, for one, am holding a lot more of my clients’ assets in cash and foreign currency.

CB: Where do you see America ten years from now if we continue on our present course?

JH: America’s historical commitment to capitalism and individual rights has always differentiated our prosperous economy from the basket-case economies of North Korea, China, Cuba, and the like. In America, yesterday’s luxuries are today’s affordable mass-market items; today’s luxuries will soon be affordable to all; and the poor are obese from too much to eat, not starving on the street from too little. At least this is how it has been in America.

I try to stay optimistic about the future, but it’s tough given the state of the culture and direction in which we’re headed. From Social Security to Medicare to farm subsidies to teachers’ unions, we already have a massive, trillion-dollar network of entitlement programs that, despite their crumbling financial condition, many politicians are eager to expand. Most people believe the problem is the structure or administration of such programs, not their inherent immorality and impracticality. Until these points are widely recognized, we will continue moving in the wrong direction.

Our very popular president often says, “We are our brothers’ keeper,” which means that we are duty-bound to serve the needs of others, that anyone in need has a moral claim on anyone better off, and that we should be forced to sacrifice accordingly. Under this premise, the size and scope of government control is certain to expand.

Money today travels at the speed of light. With a push of a button, I can send millions of dollars to Europe, Asia, Australia—literally anywhere in the world. As the American economy becomes more regulated, manipulated, and taxed, investors will gravitate toward more hospitable environments in which to save and invest their wealth.

I fear we’ll see a time in which immigrants aren’t coming to our shores and new companies aren’t being started in America. I worry about the dollar’s continuing decline, and that it might lose its status as the world’s reserve currency. As long as collectivism remains the political philosophy in this country, things will get worse. There’s a reason why 100 billion Zimbabwe dollars can buy only three eggs, and the reason is not that country’s commitment to property rights and laissez-faire capitalism.

CB: What do you think Americans should do to redirect our country toward the American ideal?

JH: Simply put, read Ayn Rand and help spread her ideas. Rand foresaw and explained all of this before it happened, and her philosophy is the antidote to the problems we face. While I’m sorry it has taken a near-economic collapse to inspire more people to learn about Objectivism, I’m encouraged by the fact that thousands of new readers are discovering Rand’s work because of it. I’m also encouraged by the fact that the Ayn Rand Institute, The Objective Standard, and scores of Objectivist scholars are successfully spreading Rand’s ideas. That is key.

In addition to becoming educated regarding the causes and cure of this crisis, the main thing people can do is speak up. Whether around the dinner table, or at work, or on the golf course, or on television—we must speak in clear support of capitalism and individual rights at every opportunity. That is how to fight for the future, and as Rand herself put it, “Anyone who fights for the Future lives in it today.” Now more than ever we must engage in that fight.

CB: Thank you for your thoughts, Jonathan—and for speaking up as loudly and as often as you do.

About Craig Biddle

Craig is cofounder and editor of The Objective Standard, cofounder and director of education at Objective Standard Institute, and executive director of Prometheus Foundation. He is the author of Loving Life: The Morality of Self-Interest and the Facts that Support It; Rational Egoism: The Morality for Human Flourishing; and the forthcoming Moral Truths Your Parents, Preachers, and Teachers Don’t Want You to Know. He is currently working on his fourth book, “Thinking in Principles.”

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