George Soros is 84 today. His career is remarkable both for its longevity and its returns – his Quantum fund has generated $39.6 billion in profits over the last four decades, making Soros the most successful hedge fund manager in history.
How has Soros managed to stay at the top for so long? What are the secrets to his success? Can investors learn from his methods? Or is Soros a one-off, a gifted speculator with an inimitable knack for timing?
Never dependent on rising markets, Soros has long been a skilled exponent of short selling, where traders profit by betting on market declines. Although most equity markets went nowhere in the 1970s, Soros’s market-neutral trades helped fuel returns of more than 4,000 per cent during that difficult decade.
His most famous bet was in September 1992, when Soros’s shorting of sterling forced the Bank of England to devalue the currency and leave the European Exchange Rate Mechanism (ERM).
That trade earned Soros an estimated £1 billion and ensured he will forever be remembered as the man who “broke” the Bank of England.
Alarmed by the deteriorating global economy, he netted returns of 32 per cent after coming out of retirement in 2007 and even profited amid the chaos of 2008, a disastrous year for most investors.
Last year, Soros’s main fund earned an estimated $1 billion by shorting the Japanese yen.
Soros’s willingness to bet against the consensus means he is often considered a contrarian. Indeed, he has even spoken of the “joy of going against the herd”.
However, he admits to being "very cautious" about doing so, saying one is "liable to be trampled on". The trend is your friend most of the time, he writes in Soros on Soros. "Trend followers only get hurt at inflection points, where the trend changes".
Not only does Soros caution against battling the herd, he sometimes likes to join it, even if it means jumping on to an economically unjustifiable trend.
“When I see a bubble forming, I rush in to buy, adding fuel to the fire,” he said in 2009. “That is not irrational.”
One such example is gold, which he described as the “ultimate asset bubble” in early 2010. Gold had soared 40 per cent the previous year and many commentators took his words to mean he believed the precious metal was set to fall.
However, Soros was actually buying gold, which was then trading at abouat $1,200, the reasoning being that buying into bubbles can be very profitable, if one gets out in time.
Soros did just that, selling most of his holdings in early 2011, some six months before the bubble burst after prices topped out above $1,900.
Soros does not believe in the idea of efficient markets driven by rational investors, instead arguing for the “twin pillars of fallibility and reflexivity”.
Markets can influence the events they anticipate, he says. One cannot truly separate market sentiment and economic fundamentals, as the former can actually shape and change the latter. Bullish sentiment may cause prices to rise, and rising prices in turn create a wealth effect, affecting consumer spending.
In a negative environment, the reverse applies. Investors’ views influence events, and events influence investors’ views.
There is, he says, a “two-way reflexive connection between perception and reality which can give rise to initially self-reinforcing but eventually self-defeating boom-bust processes, or bubbles”.
According to his son, Robert, Soros’s trading was always influenced by more than reflexivity. “My father will sit down and give you theories to explain why he does this or that”, he once said, “but I remember seeing it as a kid and thinking, ‘Jesus Christ, at least half of this is bullshit’.
“I mean, you know [that] the reason he changes his position on the market or whatever is because his back starts killing him. It has nothing to do with reason. He literally goes into a spasm and it’s this early warning sign.”
Soros snr has admitted to relying greatly on “animal instincts”, saying the onset of acute pain was often “a signal that there was something wrong in my portfolio”.
His decisions, then, “are really made using a combination of theory and instinct”.
Stanley Druckenmiller, who managed money for Soros in the 1990s, came up with the idea of shorting sterling in 1992, but Soros disagreed with the suggestion that he steadily build the position. If the odds really were in your favour, said Soros, you must bet big, and “go for the jugular”.
“I learned many things from him,” said Druckenmiller, “but perhaps the most significant is that it’s not whether you’re right or wrong that’s important, but how much money you make when you’re right and how much you lose when you’re wrong.”
He added: “It takes courage to be a pig. It takes courage to ride a profit with huge leverage. As far as Soros is concerned, when you’re right on something, you can’t own enough.”
Acknowledge your mistakes
“I’m only rich because I know when I’m wrong,” Soros said in 2008, saying he had “survived by recognising my mistakes”.
There have been a few. Soros took a hammering during Black Monday in 1987, lost billions in Russia in 1998, took a pounding during the dotcom blow-up in March 2000, and paid $54 for Bear Stearns shares in March 2008, just days before the firm was sold for $2 a share.
Far from being mentally crushed, Soros swiftly bounced back in all cases.
“He doesn’t care whether he wins or loses on a trade,” said Druckenmiller, who described him as “the best loss-taker I’ve ever seen”, someone who “can easily walk away from the position”.
His philosophical beliefs undoubtedly aid Soros in this regard. “To others, being wrong is a source of shame; to me, recognising my mistakes is a source of pride. Once we realise that imperfect understanding is the human condition, there is no shame in being wrong, only in failing to correct our mistakes.”
While investors who follow Warren Buffett’s value-driven and long-term approach are likely to do just fine, it’s likely that ordinary investors who attempt to ape Soros’s methods will end up in the poorhouse. Buying bubbles, short selling, nipping in and out of markets, going with your gut, betting the farm – it’s not exactly conventional advice.
Intellectually and emotionally flexible, someone who honed his timing over a lifetime in the markets, Soros is the supreme speculator. He once asked Byron Wien, an investment strategist and friend, why he went to work every day. Why not work on the days when it makes sense to do so, he asked, when there is something special to be done?
Wien replied: “George, one of the differences between you and me is you know when those days are and I don’t.”