By late April, he had already begun speaking his mind publicly about the problems he saw at Lehman, suggesting during a presentation to investors that “from a balance sheet and business mix perspective, Lehman is not that materially different from Bear Stearns.”
That comment had gone largely unnoticed in the market, but it did raise the ire of Lehman. Einhorn set up another call with Lehman, and again, Callan tried to answer his questions and to turn his view of the company around. But despite her outward affability, he felt she was obfuscating.
Now, as he began preparing for his major upcoming speech in late May 2008, it was that conversation with Callan that confirmed for him that he needed to make Lehman the focus of his presentation. He decided to follow up with Callan one last time, sending her an e-mail to inform her that he planned to cite their earlier conversation in his talk at the Ira W. Sohn Investment Research Conference.
She responded immediately, skipping the niceties: “I can only feel that you set me up, and you will now cherry-pick what you like out of the conversation to suit your thesis,” she wrote back.
Einhorn was accustomed to companies turning hostile—anyone who wanted to be loved in the financial industry had no business selling shares short. He fired a tough e-mail right back: “I completely reject the notion that I have been disingenuous with you in any way. You had no reason to expect that our discussion was confidential in any way.” And then he finished writing his speech.
Einhorn stood in the wings of the Frederick P. Rose Hall in the Time Warner Center on May 21, waiting his turn to speak.
He had been scheduled to take the stage at 4:05 p.m., just after the markets closed—timing that had been carefully planned by the organizers of the conference. Given his stature within the industry and what he was about to say—and considering the firepower of the investors in the audience—he could easily rattle the markets, especially Lehman’s shares.
As investor events go—and there are many—this was one that genuinely mattered. The hedge fund industry is famously reclusive, but today the key players in the field were in attendance, the auditorium packed with industry titans such as Carl Icahn, Bill Miller, and Bill Ackman. By some estimates, the guests in the audience that day had more than $500 billion under management.
From the stage’s corner, Einhorn watched as his warm-up act, Richard S. Pzena, a successful value investor, was apparently finishing his speech, having run over his time allotment as he offered his big investment idea to the audience.
“Buy stock in Citigroup,” he instructed, suggesting that, at $21.06 a share, its closing price that afternoon, it was a screaming buy. “This is classic value. There is lots of stress,” he said. “When we come out of this, the upside is huge!”
If an investor had actually heeded that advice, he would have lost an enormous amount of money. But the audience applauded politely as it waited for the main event.
Beyond speaking about Lehman, Einhorn viewed his appearance today as an opportunity to promote his new book,
After that talk, which happened to be the first public address he’d ever given, he had actually expected regulators to look into his accusations of fraud at Allied. Instead, the Securities and Exchange Commission started investigating
Einhorn’s battle with Allied had been going on for six years, but today, patient as ever, he would use his bully pulpit to take on a much larger opponent.
Einhorn finally placed his notes on the podium. As he surveyed the crowd, he noticed the glow of dozens of BlackBerrys in the first few rows alone. Investors were taking notes and shooting them back to their offices as quickly as possible.
The markets may have been closed for the day, but in the trading business, a valuable piece of information was worth its weight in gold no matter what the time. There was always a way to make money somewhere.
Einhorn opened his remarks in his slightly nasal Midwestern monotone by recounting the entire Allied story and tying that back to Lehman Brothers.
“One of the key issues I raised about Allied six years ago was its improper use of fair-value accounting, as it had been unwilling to take write-downs on investments that failed in the last recession,” he told the audience. “That issue has returned on a much larger scale in the current credit crisis.”
What he was saying was that Lehman hadn’t owned up to its losses last quarter, and the losses this time were bound to be much bigger.
After laying out his provocative thesis, Einhorn related an anecdote:
“Recently, we had the CEO of a financial institution in our office. His firm held some mortgage bonds on its books at cost. The CEO gave me the usual story: The bonds are still rated triple A, they don’t believe that they will have any permanent loss, and there is no liquid market to value these bonds.
“I responded, ‘Liar! Liar! Pants on fire!’ and proceeded to say that there was a liquid market for these bonds and they were probably worth sixty to seventy percent of face value at the time, and that only time will tell whether there will be a permanent loss.
“He surprised me by saying that I was right. He observed that if he said otherwise, the accountants would make them write the bonds down.”
From there Einhorn segued back to Lehman Brothers and made it clear that he felt the evidence suggested the firm was inflating the value of its real estate assets, that it was unwilling to recognize the true extent of its losses for fear of sending its stock plummeting.
He recounted how he had listened intently to Callan’s performance during her by now famous earnings call the day after the Bear Stearns fire sale.
