Kyle Bass: Finding Opportunities Amidst the Chaos
September 23, 2020 12:30 PM
Register for this event
Kyle Bass: Finding Opportunities Amidst the Chaos
September 23, 2020 12:30 PM
RegisterSpeaker(s)
Kyle Bass
Founder and Chief Investment Officer, Hayman Capital Management
Moderator(s)
Mo Lidsky
Principal & Chief Executive Officer, Prime Quadrant
Biography
Mr. Bass is the Founder and Chief Investment Officer of Hayman Capital Management, an investment manager of private funds focused on global event-driven opportunities.
Mr. Bass is a founding member of the Committee on the Present Danger: China. He is also a member of the Council on Foreign Relations and Chairman of the Board of The Rule of Law Foundation. Mr. Bass is the former Chair of the Risk Committee of the Board of Directors of the University of Texas Investment Management Company (UTIMCO), which manages approximately $45 billion. Mr. Bass has testified as an expert witness before the U.S. House of Representatives, U.S. Senate, and the Financial Crisis Inquiry Commission. In 2015, Bass was recognized as one of the Top 25 Most Influential People in the Global Patent Market as named by Intellectual Asset Management magazine. Mr. Bass has lectured on global economics at various universities, including Columbia, Harvard, Stanford, UC Berkeley, University of Chicago, University of Texas, and the University of Virginia. Mr. Bass was the recipient of the 2019 Foreign Policy Association Medal for his responsible internationalism.
Before forming Hayman, Mr. Bass was a Managing Director at Legg Mason and a Senior Managing Director at Bear Stearns. He graduated from Texas Christian University with a degree in finance. Mr. Bass serves on the board of the Texas Department of Public Safety Foundation and is on the advisory board of Predata, a machine learning and predicative analytics platform.
Episode Transcript
Mo Lidsky (00:06)
Now without any further ado, it is a pleasure and privilege to introduce our very special guest and industry legend, Mr. Kyle Bass. Allow me to just give you an abridged bio of our distinguished guest. Kyle Bass is the Founder and Chief Investment Officer of Hayman Capital Management. Before forming Hayman, Kyle was the managing director at Legg Mason and Senior Managing Director at Bear Stearns, where, by the way, I believe he was the youngest person to ever bear that title. Kyle serves on the board of the Texas Department of Public Safety Foundation, Melinda's Foods and Ionic Securities. He is also the founding member at the committee on the Present Danger of China and Former Chairman of the Risk Committee of the board of directors of the University of Texas Investment Management Company, which manages approximately $45 billion in assets. Kyle has lectured on global economics at universities across North America, was the recipient of the 2019 Foreign Policy Association Medal and was recognized in 2015, as one of the Top 25 Most Influential People in the global patent market by intellectual Asset Management Magazine. Kyle has testified as an expert witness before the US House of Representatives, the US Senate, and the Financial Crisis Inquiry Commission and as a member of the Council on Foreign Relations. Kyle, thank you so very much for joining us this afternoon. So, let's start at the beginning. You were born in Hollywood, Florida raised by a working-class family, you moved to Texas when you were 10 and now, you're this ranch-owning lifelong Texan, who's one of the world's great macro thinkers and uppermost experts on China and Hong Kong. How the hell did this evolution occur? And if you could maybe touch on some of the events, people or circumstances that were most transformative for you in that journey.
Kyle Bass (02:01)
It reminds me of this country song that Rascal Flatts sang, I think "God Bless the Broken Road that Got Us Here". There's a philosopher named - that constantly talked about, you look back at your life, over time, it seems to have had a pretty predictable, constant path that was logical. But as you're living it, it sure feels without logic and without direction, as you take yourself there. How you get to wherever you are, I think it's just a series of forks in the road where you have to make decisions as to which way you want to go. Some of those decisions are poor decisions, and some of them are great decisions, and you just hope you make more great ones, the poor ones. I think my record might be 51% or 49%. So, I wouldn't consider myself great in any.
Mo Lidsky (02:58)
Any transformative instances, circumstances, events, or people along the way that that got you where you are today?
Kyle Bass (03:08)
Yeah, I mean, again, back to that one philosopher. Some of the things he writes are fascinating to me. When you think about your life, those moments in life that you think are going to be the most seminal events in your life. Now, of course, minus having a child or wedding, let's think about events, as you're growing up, well, you're going to prom. Prom is the single most important thing in your life, when in reality, what was most important to you were your parents and your family and your friends. Prom was completely irrelevant. And yet, when you think about those seminal events in life, they happen to be when you meet someone that has that constancy of purpose and that drive, that can teach you something. You meet someone that's an incredible thinker, or you read a book that really sets you off in a different direction. All of those things happen amongst, , your life path. And there were things that happened to me. My parents, again, working class parents never saved any money. When you look at my life, there are positive motivational forces and there are negative ones. The negative ones actually drove me harder. It's maybe because, , I got a scholarship at a college, both academic and athletic, to go somewhere that a lot of wealthy people attended, or wealthy kids attended, and I was always the brokest kid in school. I joke about saying I was so broke; I couldn't pay attention. That motivation force that I'm never going to be in this situation where I don't have enough money to even take a girl, I like out on a date to like McDonald's. Those motivating forces happen throughout time and, , my parents didn't have any money. So, my goal was to kind of study capital and how I could raise and earn enough money throughout my lifetime to have a comfortable retirement. I set out on that path the moment I left college, and maybe some people aren't thinking that better.
Mo Lidsky (05:16)
So, let's take up one of those forks in the road as an example. So, you got you going into university. So, when you went into university, the investment business, I believe was not your first choice. You were actually going to be a doctor, right? So, what prompted the change? Which I guess in the US, you can actually make some money as a doctor, not in Canada, but what prompted this change from the medical profession towards investing?
Kyle Bass 05:41)
That's a great question. My mom growing up, I feel like she was a hypochondriac, but she always explained to me what medicines did what for you and this and that. And of course, it became a matter of interest for me. My favorite subject matters in grade school were math and science. I was a terrible writer and didn't do so well on that portion of the SAT, but I was a chemistry major. I wanted to go into medicine. Then my junior year of undergrad, I was forced to take a non-major elective. I'd always wanted to learn about options, futures, stock markets, and there was a junior-level class called Options and Futures. I went, I signed up for it, I bought the book, I read the book in a week, and I changed my major the next week.
Mo Lidsky (06:33)
So, let's fast forward. You leave university, you're into financial services, the investment world, you get the Bear Stearns, which is a fairly entrepreneurial kind of place? At what point along that journey did you realize that you're going to go out and venture out on your own and build your own asset management firm? What were the more instructive learnings that you took from that period in time?
Kyle Bass (07:01)
I worked with event driven hedge funds. I was a broker in the middle markets, and I worked with hedge funds on investment strategies. So, we're talking about corporate reorgs, spin offs, bankruptcies. That was a world that was new to me, and I was fascinated by it. Whenever a situation would pop up, Bear Stearns had a great risk arbitrage desk, I don't know, you might be too young to remember Mo. But Bear Stearns used to have a really good, a very proficient risk arb desk. So, Bear invested its own money, as well as covered clients in risk arb and special sets. And so, I work very closely with a number of the analysts on the special sits desk and got deeply involved in a number of these situations to understand the thought process, to understand the different incentives of the different players, whether they were the equity or the or the senior debt, subordinated debt. I basically got my feet wet in restructuring reorg spin offs. And that's really what set me off on understanding the financial landscape, and especially the area of the financial landscape I wanted to invest in. Now, Mo in retrospect, I really wish I became a technology analyst, because I could have retired long ago and had a very good life. Unfortunately, that taught me value and cap structure and all these things that don't seem to matter anymore.
Mo Lidsky (08:30)
How did the move from reorgs and SPACs, you've kind of in terms of Heyman Capital, and where you've evolved to? You've, generally, I guess, categorized yourself, as focused on global event driven opportunities. Right? First of all, historically, that's been one of the more difficult places to make money, one of the more difficult places to trade. Why have you chosen to play in that sandbox?
Kyle Bass (09:00)
To be completely honest with you, that basically widens the funnel to allow me to invest in any asset class, anywhere in the world. It stays event driven, so we're always looking for a particular catalyst, or an event, not buying value for value sake, not investing in something because it's cheap. Where I think there might be some sort of inflection point, then you get into timing and making sure that the time of the event that you're following has to happen in today's world. With 140-character tweets and everyone wanting to know their balances daily, a year is an eternity. A year and a half, no one has any visibility into. That's the that's the difficult part of doing what we do today.
Mo Lidsky (10:00)
If we think about, again, globally, event driven opportunities today. I think you would agree that the various actions by central bankers, both on the economic, the monetary and fiscal policy, have probably made the job a little bit more challenging. Could you elaborate on that? How could you manage the risk on the timing? How do you think about the influence of central banks? How does that factor into your thesis and your ability to develop a trade?
Kyle Bass (10:36)
One thing that's evolved since the global financial crisis is the, call it, strategic importance. The 800-pound gorilla in the room at all times are the central banks. That means the traditional laws of physics in financial markets have changed, right? True North and True South are no longer True North and South. Compasses don't work anymore. You basically have to invest around an ideological construct of the central bankers taking us down this road. Many would say it's a Road to Perdition. But I think that the pattern is set in those economies where the central banks can do what they're doing, right? There are certain economies in which they can't. There are certain economies in which there are political impediments to proper central bank functionality. And I think understanding all those constructs kind of gets us to where we are today. I think there's some pretty significant imbalances in the world today. I think they're about to metastasize. That's a long answer to your short question.
Mo Lidsky (11:49)
Well, maybe you could elaborate. When you said they're about to metastasize, what does that mean for investors?
Kyle Bass (11:55)
It means a lot for me, but I think for investors on this call, it probably doesn't mean a lot to, from the perspective of we are focused in one specific area and happens to be Hong Kong. That happens to be where the lens of the world has actually been focused on for the last year. , we entered this position three years ago. So again, on timing, it's been a long time coming. But I think you're starting to see everything that we've been thinking was going to happen, happen. We're kind of six or seven innings into a nine-inning ballgame, but I'm not sure all the participants understand how this was gonna end.
Mo Lidsky (12:36)
Before we get to Hong Kong and China because I want to spend a meaningful amount of time on that if we could come back to the macro environment. There's an increasingly smaller number of market participants, hedge fund managers and asset managers that are playing in the global macro game. Of those that are there, what have you learned from those that have done it well? And those that have not? And if we could elaborate a little bit more on timing. You've obviously identified you could be 100%, right on the trend, the thesis or on the idea. But if you're wrong on the timing, from an investor's point of view, you're 100% wrong. You yourself have said that "easy to maintain conviction, hard to maintain investors". How do you navigate the risk? What have you learned from others? Both in terms common mistakes that they've made and things that they've done?
Kyle Bass (13:38)
Truthfully, I wouldn't say that I'm anywhere close to the top quartile at being great at this game. I think I'm about average, or even below average on timing mode. On where we tend to focus over the last 15 years, we've been focused in the right places, we haven't timed things well. I take that back. We've timed them well once. I think about major instances, and then pretty well a second time, and then kind of poorly the last two. So timing is hard. What you have to do when you're discussing this with investors, your ideology, and your thesis, you have to explain that time continuum. You also have to potentially set lock ups on your SPVs that happened to be parallel to your timing expectations. I.e., when we launched the Japan fund, in I think late 2012, it had a three-year timeframe. We expected that something like Abenomics had to happen, or it was going to collapse under its own weight. We had a major drawdown in our Japan vehicle before we made triple digit returns. Thankfully, the event happened within our time continuum. That kind of investing actually isn't that fun. On a daily basis, it really wears on you. As you can see, it's cost me all my hair. I do think that over time, these things are going to be harder and harder, given the proactivity and the level of activity at central banks are employing these days.
Mo Lidsky (15:26)
Let's look at the various methods you use. Traditional macro methods involve commodities, currencies, derivatives, etc. But you also, in your portfolio, seem to engage in specific security selection, even buying specific stocks. How do you generally think about portfolio construction?
Kyle Bass (15:46)
It's really situational. In 2006 and 2007, fortunately enough, I was focused on the mortgage-backed securities market. Trying to understand how it's priced, what the models look like, and what the models were assuming. Thank God we happened to be focused there. But if you remember, in the global financial crisis, what happened is, sovereigns were having to step in and support their banking systems. We were watching bad private assets go to public balance sheets. That led me to study the public balance sheets of the world in 2008. Today, everybody knows what sovereign liabilities look like. They understand that sustainability. They also understand the enormity of banking systems. Well, some people do, some people don't. Chasing those assets, trying to understand those assets going from private to public, took me to a place that took us from the US, to Europe, to Japan, to China, and now Hong Kong. That was a leap from, ideologically, individual security selection or asset class selection into much broader audiences. Again, it's been an iterative learning process for me over a decade. That's what took me there in the first place. Now, understanding the motivations of the various global actors is actually a really tough job. But we think that we're going to see one of our biggest bets pay off soon.
Mo Lidsky (17:26)
I suspect we're gonna get to that in a moment. You reference the 2008 financial crisis. It was quite remarkable, a year or two prior, you were convinced that we were in a residential real estate bubble in the US. You were one of the very few investors to successfully both predict and profit from that subprime mortgage crisis. What are the most contrarian views that you have today? Because again, at the time, it was somewhat contrarian, even though in hindsight, it looked fairly glaringly obvious. If you think about the portfolio today, where are you seeing risk adjusted opportunities perhaps and alongside that others aren't seeing today?
Kyle Bass (18:17)
Your question has two answers. You said perhaps on the long side, and then you said where are the greatest opportunities? For me, actually, they're two different situations. I think that number one, being a contrarian for constrain sake, is a curse. I'm not contrarian or contrary by design or by ideology. We were very long the Argentinian restructuring when Paul Singer was holding them hostage, trying to get a new leadership in place, a new system in place for the financial system. And in, get Christina Kirschner out, get someone in there that was a businessperson, and we were very long Argentinian sovereign debt. I don't know if that was contrarian or not. It was priced in the 45-cent rate, 25 cents on the dollar. So, it's fairly contrary, but there are a lot of people that don't do it. Today, we're in the ultimate contrarian position. We're taking the other side of a 36-year, colonial era, a security currency. And so, I think that's about as contrarian as one can get. I can walk you through it. But on the long side, look, I think there are opportunities out there in some of these equities that have been affected by the Wuhan flu.
Mo Lidsky (19:45)
If you've talked about the portfolio, which ones would you have the highest conviction in today and maybe thematically, it doesn't have to be a specific security, but at least thematically, industry sectors?
Kyle Bass (19:57)
When you look at you look at the airlines that Cruise Lines, everything that's kind of obvious, that should do a lot better once we get to some sort of efficacious medicine or God help us vaccine that actually works. But their cap structures are, as you probably know, , taken on a lot more debt and a lot have a lot larger problems, I tend to think if you look at the look at regional theme parks, there's an interest there are two components to regional theme parks, right, that a lot of them have some of the best real estate and some of the best MSA is in the country. And if you do real estate valuations, have you come up with numbers that are greater than enterprise value, and I think Six Flags is one of them. So, Six Flags is a big position for us. And I think you're buying it at 75 cents on the dollar for what the real estate's worth on from an enterprise value perspective. And I think you have, , when you're forced to cut all the fat, maybe even some of the muscle in your business, because no one showing up. I think that your operating leverage when things actually turn is going to be pretty substantial. So, I think you have a call option on, , a lot of EBIT, da, where I think you have a fundamental downside protection because you're buying into something and below real estate value. So those are the kinds of things we like, and there's no rhyme or reason to how we find them. But that's something that's something that we own. And we're long hydrocarbon transport as well, we own we own Energy Transfer Partners, which happens to be based here in the city I live in. It transports a third of the oil and gas in the United States every single day. And it does it in a very efficient and safe way. So , those kinds of things, trade, that one's trading, it's, , call it, , eight times EBIT, EBIT, da. And I think there's a lot of operating leverage there. Because , contrary to the way some people are thinking on green energy, I'm a big proponent of alternative energy and green energy. And I know we'll get there over time. But I can tell you hydrocarbons are going to be the way we move our world forward until I think at least the mid-2030s will be peak and hydrocarbon demand. And so, you think about how much money has been taken out of development capex for exploring for hydrocarbons, and how hard it's going to be to build pipelines in the future due to, , let's just say ecologically minded leadership. So anyway, that's a contrary position as well. So those are two kind of positions we have, that we carry that I really like. And we're concentrated there. And then, and then, , we spend a lot and have dedicated vehicles, on macro issues as well.
Mo Lidsky (22:46)
First of all, thank you, Kyle. That's great. Let's tackle because he kind of teased us with that betting against a 35- or 36-year, sort of entrenched structure. Could you turn to Hong Kong? Could you just for those participants who don't have the background, could you give them a little bit of context around the history, around the trade and why you believe that we are at an imminent turning point on this trade?
Kyle Bass (23:20)
Oh, boy, here we go. Yeah, I'm gonna try to put this in a can for you. It's gonna be difficult. I'm going to back up and look at it from the 50,000-foot view in the first place. Back when China was negotiating the handover of Hong Kong back to the Chinese from the British, with Margaret Thatcher, it happened to be the early 1980's. When those negotiations, which were happening in private, got leaked to the press, in 1982 or 1983, the Hong Kong dollar was then a free-floating currency. it depreciated 50% versus the US dollar and the British Pound just on the prospect that possibly China might be in control of Hong Kong some decades down the road. Hong Kong had been used to a democracy and rule of law under British rule for the better part of over 100 years. Those discussions leaked out and that precipitated the need to pay the currency. What's fascinating is, as , it was it was a British colony. They decided to peg it to the US dollar and not the British pound, because the US dollar had more gravitas globally and the US, back then of course, was and we still are the number one superpower in the world. That was a decision that precipitated it. But the events that caused that devaluation were simple talks between China and Hong Kong. Now if you remember in '83 They agreed to hand over Hong Kong in 1997. That handoff happened July 1st, 1997.
Kyle Bass (25:10)
Fast forward, the Chinese resumed ownership of governance of Hong Kong, July 1st, 1997. Just think about this for a second. The very next day, July 2nd, 1997, what happened? The Thai Baht broke the peg, and the Asian financial crisis of 97/98 began. It's not coincidental that the day the Chinese took over the money left, the money left out in Southeast Asia. So fast forward to today. Today, we now have China imposing its will, and basically removing basic civil liberties of the population of Hong Kong, right, they removed the autonomy, they changed it from a rule of law to a rule by law. The PLA police came in and now run the Hong Kong Police Force. And they brought the heavy hand of China in. Well, for those of you that think this is going to bring some stabilizing force to the region. I completely disagree with that. But again, in the grand scheme of things, those are the political events that are happening. On the financial side, when you think about the currency peg, Mo, imagine if the United States fed didn't have the ability to expand our balance sheet when the Wuhans looted the world, right? Just imagine a central bank that can't counter-cyclically spend, inflate its balance sheet, where would US stocks be if the US didn't print, call it $4 trillion? They'd be down 40 or 50%. Right? Or maybe more. But when you look to a currency board or currency peg that was put into place back in 1983, it's completely inflexible. The H camber is not a real central bank. It can't expand its balance sheet, and counter-cyclically spend in times of distress. So anyway, I'll conclude by saying, the Hong Kong banking system is the most levered banking system in the world in relation to its GDP. It's eight and a half times its GDP. To put that into perspective, when the US entered the financial crisis in 2007, our banking system was one times GDP on balance sheet, and about another point seven, five times off balance sheet. So, we were less than two times levered. Hong Kong is eight and a half times levered. You remember when the European crisis hit, you had the European dominoes falling like flies in 2011. But you had Iceland, Ireland, Cyprus, Greece, they all fell, their banking systems were almost 10 times their GDP. So, when losses rolled in, in a recession, the sovereign had to step in to help the banks and it broke the sovereign. Well, in Hong Kong, they actually have real GDP down 10%. It started dropping in June of last year when the protests began. So, Hong Kong is facing literally the perfect storm. It has the worst financial setup I've ever seen for a developed nation, and it has the worst possible political situation that can possibly have. And they're only worsening as we speak. And so, the problem with the participants is the availability heuristic, and you asked about this in the questions you submitted to me, , it's an availability bias or heuristic that Dan Kahneman and Tversky started studying in the 70's. It's basically a mental shortcut. It basically says that any immediate examples that one can recollect, that's how they decide to move forward in their decision-making process, and 36 years of a peg, well, that means that stability begets more stability, and that's nothing to worry about. And if you if you were just to get out a dry erase marker and a dry erase board, and you were you were to start writing, notating each flag that I've just gone through, all of the writing is on the wall, all of it. It's just a question of when it breaks. It will break.
Mo Lidsky 29:16)
How are you at Hayman planning, anticipating making money on that trade? Again, maybe obvious to you, but just to spell it out for the participants. Beyond that, what are the other implications for investing? Asian investors and so on.
Kyle Bass 29:37)
I mean, that the answer to that question is going to be a lot longer than we have here. But I'll try to condense it into Cliff Notes. , we look at all of the different tools that we can maximize our leverage within this situation. That means currency forward positions. You think about The Black Scholes model. The Black Scholes model's single most important input is implied volatility. Well, what do you think the implied volatility of a 36-year peg is? Right? It's very, very close to zero. I think the options market has never been more mispriced. The question is timed. The $10 trillion question is how many reserves does China really have to help Hong Kong? Right now, Hong Kong has an IPO boom going on, with ant financial and all in the Baba secondary. They're attracting more capital as fast as they can because they know that one day the music's gonna stop. Post November 3rd, we have a whole new ballgame with it. I forgot the second part of your question, actually.
Mo Lidsky 30:54)
I was gonna ask you if you could elaborate on the reserves. You mentioned that if China has the reserves to theoretically, bail out Hong Kong, how do you envision what are the limitations of that in your mind's eye? And how do you see that within the context of their Indian and Chinese currency more broadly?
Kyle Bass (31:14)
So, you have there are two components to that answer. One is, one is the banking system itself. It let's go back to the US financial crisis, we had a trillion of equity, we had 17 trillion of assets in our banks. Throughout the crisis, we pumped $880 billion of common and preferred equity in foreign banks, we essentially recapitalized our banks, during the financial crisis. When you look, when you look at Hong Kong, Hong Kong, again as 850% of assets to GDP to GDP, they have $3 trillion, let's just dollar eyes, everything so that we can compare apples to apples, about $3 trillion of deposits. For an economy that's much, much, much smaller than that, , eight and a half times smaller. So, two things, they're gonna, they're going to experience significant losses in their banking system, they're going to have a full banking crisis, you can't have a pandemic depression of real GDP down 10% and not have a full-scale banking crisis. And if you look carefully, at what's being said, by that financial secretary in Hong Kong, in public statements, he's telling you, it's going to be worse than the Asian crisis than the SARS epidemic, and that any crisis Hong Kong has ever experienced in the past, this will be worse. So, they have the most leverage they've ever had, they're gonna have the worst crisis they've ever had in their banks. And now imagine you're a family. So, you have a family in Hong Kong, and you've lived there your whole life and you love the place. You love the people you love the lifestyle; you love the views about the proximity to Southeast Asia. And all of a sudden, China moves in with a heavy hand and starts beating up your kids on a subway and imposing their will on you. And they can retroactively come after you if you said anything that that supported democracy, they could freeze your bank accounts, you're going to move your family out. And so, what you've got to realize is, is deposits are going to leave, and that will happen over the next six to 12 months. And those deposits will be significant, I think you'll see 10 to 20% of deposits leave Hong Kong, well, that's 300 to $600 billion, leaving Hong Kong, that's those are numbers that he can make can't compete with. And so those are things that people need to be thinking about, that are going to cause an existential crisis to the ATM.
Mo Lidsky (33:42)
And just coming back to the Chinese reserves and their ability and the strength of their economy to sort of maintain Hong Kong. Any comments on that?
Kyle Bass (33:53)
Yeah, I mean, look, China is really a paper tiger. And what I mean by that is, is we give them credit, the globe gives them credit to be the second largest economy in the world, I'm not debating that there are a lot that they're not a large economy, I would debate that they might not be the second largest economy. And here's why. That they claim to be 15% of global GDP. And yet, only one and a half percent of cross border transactions will be settling in their own currency. So, everything else settles in dollars, we dollarized their RMB based GDP at the current exchange rate, they have a closed capital account. Imagine if China were to open its capital account where its currency would go, right. And then and then if you dollarized their GDP, it may not be the world's second largest, it might be the third largest and it may still be the second. My point being is we give them a lot of credit, because they pay the think tanks, they pay wall street, they have all of the analysts are not allowed to write anything negative about what's going on in China or else they'll be blackballed in China. So, they kind of have their narrative developed and paid for globally? And I think just think about it for yourself. Don't listen to anyone else. Think about how that capital account is constructed and what the real reserves are. Because you can deconstruct reserves in a big way river China, told for its ascension into the to the IMF SDR basket, they promised they would detail the composition of their reserves within two years of entry. Well, it's many years later, and I sure haven't seen it. I don't know if you have no, but we look every day for it. So, , we all know that China lies, cheats and steals, cheats, and steals its way through the world. As a government. It's our it's incumbent upon us to try to figure out how to parse through the lies and the bribes and figure out how they really operate. And how much money is really there. And how much power do they really have to kind of work with Hong Kong, something happened that really strange over the weekend that I still scratching my head over China, as you've probably seen, is developing what they call an entity list. They're copying, of course, our Commerce Department, which where we have an entity list of entities that are sanctioned. And it was rumored and actually disclosed by a publication a trusted publication in China that HSBC is on the is on the untrustworthy, end of the rest of China. Well, that that that is an interesting, I don't know, it's an interesting occurrence in this in this world today, because HSBC is simply vital to China's ability to raise dollars globally.
Mo Lidsky (36:40)
So, I mean, a call you've been over the years like a fairly vocal critic of China, and particularly the Communist Party and even founded the committee for the present danger in China. What is it that, what about China? Do you find most odious, and why? Why have they been the primary source of your ire?
Kyle Bass (37:01)
Wow, come on bow. In our deep dive, what where I began in China almost 10 years ago, was just trying to understand how their financial system operates. Right, if you have a closed capital account, it's like keeping 30 plates spinning at all times, trying to keep enough reserves in your system to grow your GDP and to a slightly think about it is working capital. If your GDP is going to grow in RMB, your reserves must grow in dollars. And if you run a positive current account surplus you can do so it just needs to grow fast enough for your working for your working capital needs. So, in doing all that work, I read a lot of books about the history of China, which here two, four, I would admit that I was not a China scholar in college, I was not a China scholar, when I was doing special sit, we are at work at Bear Sterns. And I don't even consider myself a Chinese scholar. Now. I've read enough books about it to be dangerous enough. And I've talked with enough people and have enough consultants that I pay around the world that have lived there their whole lives, or that have studied it their whole lives, or that we're in governmental positions, either in Hong Kong or China or the United States dealing with China. So, I've kind of built, I think, a network that would be construed in itself to be called a Chinese expert network. But , when I look at the way they operate, and you look at the deals they've signed, and then walked away from or lied to our face about when choosing things good in the Rose Garden with Obama and said he's not militarizing the South China Sea. But you could see on Google Maps, they were building 10,000-foot runways and building airplane hangars on the islands. Now they have, , full missile bases there. And in bomber fighter bomber squadrons, their, , their president lied to us in the Rose Garden of our president. , when you start reading, and you listen to what they say, and then you watch what they do. That is just how they operate. They've infiltrated our think tanks, they've infiltrated our universities, , Mo, you've read everything that I've read. And so, when you see how they operate, and then when you get into human rights violations that literally just took me to a new place. And so, when you see what they've done in Tibet, in Mongolia, or east Turkestan, and you read, for instance, Sir Geoffrey nieces. tribe, China tribunal in the UK, I don't know if you've read this, but yeah, look, Sir Geoffrey nice is a Queen's counselor in the UK, the highest, the highest lawyer, possible legal position you can have in the UK, and he hosted a tribunal, where they interview hundreds of witnesses that were former doctors. They were people that escaped some of these concentration camps, and they told you the horrors that go on them. This is the same person that oversaw slavery. Milosevic's war crimes trial tribunal in The Hague. So, if you just take the time to read everything, what we do is we engage with a murderous, genocidal regime. And why do we do it? We do it because we think we can earn an extra buck or two. And I just I think, I think when the history books are written, those people plowing money into China are going to be sad that they did so because I think we're heading to an ideological clash.
Mo Lidsky (40:28)
what does that mean? So, for, again, for most investors that probably don't have the best, certainly not on this. Most of the participants here and family offices that are involved here, don't have the best concentration of their assets in China, but probably have some emerging market exposure, but are thinking about the impact of China on markets, what implications does that have? What opportunities might that your thesis create? Other than obviously, shorting the deep agony of the Hong Kong down?
Kyle Bass (41:00)
Yeah, I mean, my answer is going to surprise you. I think, I don't think it's that important to the world. I think that if you look at the developed West, you look at Southeast Asia, x China. What does that mean? What everything I'm saying, what does that mean? That means that that China will become less of a of an important global actor, and I know everyone's gonna think that's, that's a crazy statement. Because everyone looks at spreadsheets that that have y equals mx plus b on them, and China's going to be this massive superpower going forward, but they already have a demographic problem. That's part and parcel as a result of their one China or one child policy. So, we're gonna have a demographic shift in China that we're seeing today. But I think when you're talking about how it affects their portfolios, and there's so much money that's been printed around the globe, whether you're talking about dollars, your euros, yen, or pounds, and it needs to go somewhere, where there's some semblance of a rule of law. And there's some semblance of em opportunities that I don't think that a China, let's say, a China conflict. But there for conflicts we can have with them, we're already fighting three, the only one we're not fighting is the kinetic war. And let's hope it doesn't go there. But as you saw, they just erased that line in the Taiwan Strait. And they're flying fighters and bombers over very close to Taiwan right now. And I can't imagine that they're not going to do something there. So, you're going to see conflict, but how does it What does that mean to your portfolio? I actually don't think it means that much on the downside to your portfolio, I think there are a few places to put institutional size capital. I think the best jurisdictions will win, whether you're in Canada, whether in the United States, whether you're in Australia, whether you're in South America. Countries that actually respect some semblance of the rule of law. I think it's going to going to kind of be feast and famine, but I think the feasts are going to be easier to find.
Mo Lidsky (43:06)
And so maybe it would be illustrative if we actually talked about how, you allocate your own capital. It was interesting on the last Lunches of Legends, Leon Cooperman actually spelled out what his portfolio looks like. So, if I were to get a little personal, Kyle, and ask you what is your asset allocation look like today? What is your own personal portfolio? What are you invested in?
Kyle Bass (43:28)
Great, it's a great question. And one of the things you had sent me was, , I've been a big proponent of gold, which actually, isn't that true, although the press, the press likes to run with things like that. , I believe that the central bank policy is set, there isn't going to be one day when they wake up and they say, what, we've gone down this path to printing money, we're just going to stop we think it's a bad idea. What the central banks have taught the politicians and actually taught market participants over the last, but the last 10 years, is deficits don't matter. And debt doesn't matter. And when I say that I'm not saying that tumbling tongue in cheek I mean that right? Just four years ago, I remember this group called the Tea Party and the republicans that was saying the US saying, we need to balance our budget, we can't keep spending the way we're spending and now we're like, , drunk sailors printing money, because we have to right and so what is the central bank told politicians, don't worry about it, we have your back. Anytime there's even a blip in the economy. We will print and you can run it here the power goes to Humphrey Hawkins and says, hey, we've done what we could do monetary, it's time for you guys to do what you want to do fiscally, which of course means dial up the fiscal spending. So, this is a way of me setting forth my personal capital allocation. I think what's happening in In the next 10 years, 20 years is you're going to see assets continue to move higher in value, whether that means stocks, whether that means productive assets like real estate, energy or income producing assets, like Park meats, and I'm not sure you want to own office buildings, I don't own any of those. But maybe the world's changing a little bit with its preferences on how it works, due to due to this pandemic, but I think productive assets and look farmland, ranch land royalties, where I think you're going to see inflation of assets continue to move. And I actually think something that that is an unintended consequence of Fed policy is what we're seeing today with the violence across the world between the haves and the have nots, and that that gap is only going to widen, right, the rich are going to keep getting richer, the middle class now can't afford to trade up in its housing, because housing prices have moved up with assets. So, they're stuck where they are, and the poor are still poor. And so, what's going to happen is you're going to see more violence. And I read a great book about this called the Great leveler, I'm not sure if you've read it Mo is by a Stanford anthropologist, and he talks about how wealth gaps have closed over time. And you won't like those four answers on how they've closed over time. But it's a great book. So, my personal capital is allocated a to my funds, be to the various of a few real estate, things like a ranch in the house. And then it's allocated to some royalty interests in energy producing, call it tour areas of the United States. And then in the next year or so I'm actually about to engage in a new endeavor, I'm not ready to explain exactly what it is. But I'll tell you that, , as I got, as I've gotten older, I take the environment a lot more seriously. And I know that might sound crazy from a Texan who has energy investments. But I enjoy planting trees, I enjoy planting flowers, I enjoy forest thing, I enjoy understanding the differentials in valuations between caught forest land and other things. And then, as development happens in various areas of our country, like if you look at the US, you have people from New York and California moving to Texas, Tennessee, and Florida, that's really what's happening. Now, if I were to put it into a cliff notes version, and we've only seen the beginning of that when you look at how mismanaged places like New York and California are and who's running them, all of the people are trying to move in places like Dallas, Houston, Austin, and all over Florida. And so, developments happening. And that's an ecological problem. And there are actually ways to solve those problems. I'm going to focus on that for call it the next 10 years of my life, which is gonna be really fun. Maybe I'll share that with you about a year from now.
Mo Lidsky (48:09)
So, I wasn't going to go political, but I must ask. In the inequality dialogue, how much is the upcoming election, how much would that steer your perspective? What do I think are the kind of the decision trees that you're imagining, and particularly as you're thinking about your own portfolio and risk management?
Kyle Bass (48:34)
If Biden wins, you can already see he's already disclosed his tax policy. It's going to be very detrimental to markets on the front end, right? You're gonna have capital gains taxes more than double. You're going to have income taxes move higher. You're going to have restrict even more restrictive restrictions on drilling on public land, many more ecological restrictions on building pipelines or any kind of public mass transit. Biden will not be a positive force for your portfolio if you're invested in the United States. That's a start. But let's say morally, Biden's in a very different place than Trump is. I feel like it's two garbage trucks backing into each other and , you just have to watch it happen. I don't know which way it's gonna go. But I do believe that the debate next week is going to be key to tipping the, the underside. It's in the middle. And I think when you talk about inequality, the democrats I thought had the election locked up in June, when Trump was pushing to open schools, open businesses, and he kind of called the Wu Han Soo a hoax. He lost the older voters. So, if you notice in June, he lost 10 points nationally. I've never seen a president in office, lose 10 points in one month, but he lost all the old people that are at most risk for the for being killed during this pandemic. But what's happened lately, with the violence in places like Portland and Seattle and Chicago and even in Kenosha, Wisconsin, that is working 100% against the Democrats. I have friends in New York City I talked with yesterday, their lifelong democrats that are changing their voting and going to literally hold their nose and not even tell their wife, they're voting for Trump. Because people are getting held up in the streets. I have one of my one of my wife's best girlfriends called us this morning. And she is amongst the elite on the west coast in, in Silicon Valley, and lives in San Francisco, where my wife's from. She got attacked in the streets last night after dinner on our way home and she literally said, I'm moving like this, this da Chiesa is ruining the city. And you can say that in many cities across our country that are espousing liberal values and defunding police. You can be a progressive democrat, and not push to defund the police. Law and order are what our country's made up, right? And rule of law. I think it's being wrecked in certain areas. I'm on a soapbox, but I'm telling you that the democrats had it locked in June, and here we are in September. And right now, I think it's a coin toss. If Biden has senior moments in any of these debates, I think it's going to be a real problem.
Mo Lidsky (51:39)
Some of the chaos and, , signs of anarchy and what have you. That must have, , coupled with the fact that the US printing the most amount of money, certainly of any central bank in the world and the some of the other dynamics that you alluded to, would that not signal some concern about the US dollar? Let's actually pause there. I'm curious on your thoughts on the US dollar in light of these monetary policies.
Kyle Bass (52:19)
Mo, I must ask you versus what?
Mo Lidsky (52:22)
Well, that's the question. Versus anybody printing less?
Kyle Bass (52:26)
So, my answer is, where do you think is a better place to put to have the store of your hard-earned capital as a store of value? You want to get it you want to put it in euros, where they don't have a central taxing authority or a centralized fighting force? And it's Germany versus the rest of Southern Europe? I mean, the Euro is still a time bomb waiting to go off. They never restructured their banks. Do you want to give it to England who's going through Brexit, and they have a much smaller economy than he was in the world? You want to put it in pounds? Do you want to I don't pick some Do you want to put it in yen? Look, I sat with Protestant at breakfast, and I said, you own 120% of GDP of your debt. You've monetized more than 100% of GDP of your debt, you own half of every JGB that's ever been an issue. And the BOJ owns 72% of every listed ETF in Japan. equity. Credit, I said, you say you don't monetize your debt. What are you doing? And if , Crota, Sania has this belly laugh, he's an amazing, jovial person in person. And he says, oh, Kyle, we're only monetizing our debt when the market tells us we're monetizing our debt. Those kinds of things go on. But Mo, you asked me a question, is that a problem for the US dollar that settles, call it at 85% of all global commerce? I'd rather have my money nowhere else.
Mo Lidsky (54:01)
Does that put in question fiat currency generally, and coming back to the gold conversation we started with, or some of the other cryptos? Does that present that moment?
Kyle Bass (54:14)
Again, if I'm allowed to choose from all the asset classes, I'd much rather own an apartment complex or a royalty stream or, truthfully, a multinational stock with a yield than I'd rather have gold, right? However, gold's a good barometer of the ridiculousness of central banks and so if you're trying to get me to cryptocurrency, I'm happy to go to that next step but maybe not.
Mo Lidsky (54:47)
We have other five or so minutes. You've obviously been very daring with some of the trades you put on and certainly over time, they prove to be fruitful. But when you think about some of the criticisms over the last five or so years, maybe even longer. It's been substantial criticism of the hedge fund industry. How do you respond to those criticisms? What do you think that narrative will change with the increasing volatility that we've sort of witnessed with capital markets? I'll leave it there. If it was your brother or your sister considering investing in hedge funds, what would you tell them?
Kyle Bass (55:30)
I think the criticism of hedge funds is rightly so. I think that my brethren on here are going to kill me. But look, the fees have to come down. I think that what you've seen in a lot of the funds, the newly minted funds, are it's more private equity style. We don't have a mark to mark annually, you have a more of a private equity fee payment when you send the money back. I think that aligns investors and hedge fund managers together. I think the days of hedge fund managers running on management fees is kind of, they're kind of over. When discount rate in the US was 5%, paying 2% was easy. The world was a much I think, easier place to invest in. Today, it's really hard. At zero rates, it's hard to pay a big management fee. There are hedge fund managers that are great, that will always be great. And investing in them is probably hard to do. And you probably need a big check for to write to them. But look, I think that running a family office, you can do a lot of these things, and I'm talking about today and earn great returns. But I think having Capital Partners in real estate, in special sits in things like macro, I think they're a positive thing for you. For all family offices, I just think that , the days of, , a guy and a girl and a Bloomberg launching a hedge fund, those days are over. You and I both know that because of compliance costs, legal costs, and all the rigmarole that you have to go through. I've done this a long time. I've been in financial markets since 1992. I've run a hedge fund since 2006, 14 years, and , geez, at some point in time, people get tired of waking up at two and three in the morning and never going back to sleep. So, there you go. If you're asking me if my brother or sister saying I'm thinking of starting one, I would say unless you have a niche that you are the amongst the world's best in, I would say don't do it. I would say choose a different business. I'd much rather be long human innovation. I'd much rather be long investing in companies that are startups that have amazing ideas and things like that. I think I think that's how you lever your personal net worth and also your personal vision a lot better.
Mo Lidsky (58:07)
To wrap up with just one more question: you think about all the pieces of wisdom you've accumulated and have received over the years, what would be perhaps the best, or among the best, piece of wisdom that anybody's ever imparted on you?
Kyle Bass (58:25)
Well, that's a tough one. I have lived by it my whole life and it's you should listen to people, you should take in what people you admire have to say or people you trust or people you have learned to really put on a pedestal, but I think you should take in all of that data and then develop your own view. You should do a lot of your own work and basically trust but verify. If I listened to the smartest people in the room or the wealthiest people in the room, we would have never made the putt on the positions that we put on in 2006. I went to Bear Stearns, I didn't share my views with many institutions at the time, because I didn't want the spreads to move before I raised as much money as I could. But once I had the money raised, in November 2006, I'll never forget it, I met with Bear Stearn's entire risk committee. And Bobby Steinberg, ran that group and it was standing room only in one of the biggest conference room you've ever seen. And I literally walked them through my presentation and my thought process. I let it all out there. And I said look, if I'm right about this, you realize what it means for this firm. I said you guys are all my ex-partners and I love many of you to help my friend brokerage account is here. So, you guys really need to think about this and think about how levered you are to this. Bobby Steinberg put his arm around. He says, it's a good presentation. But God, we hope you're wrong. And then I had a few other people come out from the desk from the mortgage desk and said, there's 20% cushion. LTVs are at best 80%. There's no way these trusts are going to lose that much money, you should cover your positions now. And these are people that were really smart and actually were much smarter than I in those spaces. But thank God, I didn't listen to him.
Mo Lidsky (1:00:29)
Kyle, first of all, that was fantastic. What a great way to end it. Thank you so much for sharing all your both insightful, enlightening and really enjoyable comments with us. We can't tell you how much we appreciate your generosity with your time. And as a small thank you, we'll be making a special donation to healthcare in your honor. Thank you so very much and we really hope to have the benefit of your wisdom again soon.
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Kyle Bass: Finding Opportunities Amidst the Chaos
September 23, 2020 12:30 PM
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