Intro

Patrick: [00:01:24] I've often heard that good investors are a bit like journalists, doggedly collecting evidence and building an understanding of how all the pieces of a company or an investment fit together. My guest this week is one of my favorite writers and journalists, Bethany McLean. Across her career, Bethany has covered many of the most interesting stories in business and investing from Enron, which became the famous book and documentary, The Smartest Guys in the Room, to Valeant, Wells Fargo, SAC Capital, Fannie Mae and Freddie Mac, the great financial crisis, and most recently Fracking in the Energy Revolution. Given how deeply she has investigated all of these topics and thought about the common threads that cross them all, this was an amazing conversation.

When talking to her, you can feel how much he cares and how diligent and fair she is when analyzing a topic. In addition to all the great stories I already listed, we discussed the Art of Persistence and the other lessons she has learned about businesses and people gone bad. I especially loved her evolving take on housing in America. Please enjoy this great conversation with Bethany McLean.

Similarities between Journalism and Business

I've heard a lot from a lot of investors, especially short sellers that investing is like journalism in the sense that you're trying to understand and construct a narrative and understand every aspect of it. Have you found it interesting to interact with investors, maybe even specifically short sellers as you think about business?

Bethany: [00:02:38] Oh, definitely. That's one of the great pleasures of doing this is all the highly intelligent and interesting people you get to meet. And I couldn't agree with that more. I think the process of thoroughly researching an investment is really analogous to what I do. I think the focus in the end is different. I'll have more of an interest in the characters and the narrative, whereas they have to have more of an interest in the numbers. And then the real difference is just, what's actionable at the end of it. For me, it's creating a story out of it. Actually, creating a narrative. Whereas for an investor, it's putting your idea to work and I have never had any interest in that.

Patrick: [00:03:19] Yeah. It was fun to go back and read your catalog, read articles, et cetera. Obviously, a common theme is businesses gone bad, or maybe even like negative type stories. People doing bad things. I'm curious philosophically, if you think that that does a greater service and catalyzes more change than positive stories or journalism.

Bethany: [00:03:37] I wish I had a larger philosophical thought like that driving what I do. I think you're right. I think I have made a career out of business gone wrong, but it actually wasn't really intentional in a way. When I first started working at Fortune, I wrote this column called Companies to Watch, which is essentially a stock-picking column. And I was supposed to pick three stocks every two weeks that were going to double, triple, quadruple in value in the next six months or so. And it was incredibly easy to do that because there were no shortage of people coming by Fortune in those days from executives who ran businesses, to portfolio managers who own the stock, to analysts who would buy ratings on the stock. And I had no cynicism and no skepticism in those days. I thought somebody was saying it and they were smart so it must be true.

And I'd write up these stories only to watch in horror as the stock would go in the opposite direction. Sometimes my phone would ring and it would be someone who was short the stock, who would be like, "Basically you idiot. How could you write something like that? How could you be so clueless about this company that is clearly a fraud or clearly at best hope and dreams being sold as reality?" I just don't like being wrong, I guess and so I accidentally developed this focus on business gone wrong, but I suppose it does play to part. I just liked to figure things out. And so often when things have gone wrong, or when things are going to go wrong, there's more to figure out.

Patrick: [00:04:57] What was the very first business that met this marker that first got you intrigued about something that was going wrong?

Bethany: [00:05:04] Oh boy, I'm going to struggle to remember the name of it. But back in the day at Fortune, there was a telecom company that I did a short piece about and I can't believe I'm... I'm not remembering the name, but it was during the heyday of telecom companies in the late 1990s. And there was something wrong with how this company was booking its fiber sales. And I remember doing this piece with the help of an investor had called and said, "You should take a look at this." And it was satisfying to go against the grain and to feel like I was doing a service for people by putting out a viewpoint that they weren't able to get elsewhere. Whether that viewpoint was right or wrong, at least it was well-reasoned and it was something that they weren't able to get by reading Wall Street research or reading the regular papers because that viewpoint was nowhere to be found.

And I guess that is one of the things I've always found fascinating about this is that we think this is a world that's awash and information, and it is, but selective pieces of information only travel in very small circles. And often when there is a skeptical thesis about a company, it is well-known in a very small circle of people who have done the work and the story that's out there, that's available to most investors is not that story. And so I do feel like it's a worthwhile service to put that out there.

Bethany's Investigative Process

Patrick: [00:06:19] I'd love to talk through that process because it is amazing given the amount of information that grows each year, that all of us investors have access to data on companies that there still are the Theranoses of the world constantly. And it just seems like that's never going to change. There's always going to be these examples. So maybe talk through generically that process of what are the early markers that you look for? You mentioned curiosity is the original driver, but maybe you could use an example or just talk through it generically the process itself of getting into that small circle of people who may know more than the rest of the market.

Bethany: [00:06:52] Well, I think it started for me back in the late 1990s, because I was just so tired of being wrong that I thought, "Well, if there is another side to this, I want to know in advance. I want to figure that out." So I started trying to get to know short sellers and I find them fascinating people because there is usually a highly emotional component to what they do. Two, there's a sense of, there's a crusader type element to that personality, a sense of righteousness which can be dangerous in and of itself. But usually for me, I guess it begins with a company that's at the center of something and is being celebrated for something and there's something wrong under the surface. There's something that doesn't add up. Either people don't understand it or there's something that isn't being explained and it just never fails to amaze me how often it is people are willing to believe in what they don't understand.

I read a fascinating piece by Morgan Housel the other day and he pointed out that to be an optimist, you have to believe in things that you don't understand because sometimes the inexplicable is just the thing that's one step ahead of all of us. And so if you're never willing to believe in something you don't understand, maybe that's a problem too or mark of a specific personality set. But it never fails to amaze me how often that is. So that's usually the thing that draws my attention.

Patrick: [00:08:06] Yeah. Celebration as a marker is really interesting idea. Certainly Theranos obviously the CEO is all over the place and being celebrated like crazy. And I guess if you look back at a lot of the things you've written about the same could be said - pretty interesting. Who is the first short seller that really caught your interest and you developed a close relationship with?

Bethany: [00:08:24] I guess it was probably Jim Chanos and a guy who worked for him at the time who has since passed away named Doug Millett. And I met Doug and just hounded him relentlessly because this was I guess, the late 1990s. And I knew who Jim Chanos was and wow. I wanted to have access to how he thought and so I called Doug maybe every week for like six months. "What are you guys working on? Anything interesting?" And finally he's like, "Oh man, we're doing some work on this company called Enron. You tell me if you can out how it makes money."

Patrick: [00:08:58] What became The Smartest Guys in the Room, how long was that process start to finish?

Bethany: [00:09:02] I guess in total it was a really lengthy process because I probably talked to Doug and then to Jim at the end of the year, 2000, and I ended up publishing a piece in Fortune, which I've joked should win awards for the meekest title in business history, which was "Is Enron Overpriced." Yeah. Anyway, and I think that piece was published in February or March of 2001, and Enron went bankrupt in the fall of 2001 and I started working on my book with a co-author at Fortune, and that was ultimately published in the fall of 2003. So I guess in all told it was about three years.

Patrick: [00:09:37] Is that the most memorable of the mini experiences you've had with individual companies or people when doing deep reporting?

Bethany: [00:09:43] That's hard to say. I think it was the first for me. So it ranks right up there because until that point, I don't think I would have considered myself an investigative journalist at all. I was wonky and numbers based and I had written quantitative pieces. I also did one on IBM in the late 1990s that looked at IBM by the numbers and now as we talk, I remember doing that piece too. But they were wonky numbers, pieces. They weren't going out there and finding former employees and actually finding the human narrative of what had happened. They were purely numbers based. My first Enron story was that way too. It was really I didn't talk to former employees. It wasn't that piece. It was purely a numbers driven. Here's what the documents say kind of piece. So the Enron book was really my first experience with trying to get out there and finding people who could add color to the numbers.

Advice on Interviewing

Patrick: [00:10:35] So one of the things I've been most excited to talk to you about just given this format, and given that I talk to somebody interesting every week in this format is how to ask questions and how to extract information from people that maybe they aren't originally willing to give or give you a deeper, more contextual story that is the party line. So I'm just curious about how that process for you has evolved over the years. If you started with Enron, you've done a lot of that ever since, talked to a lot of people about some complex and interesting businesses and topics. Maybe some thoughts on your views, interviewing people, and just talking to people?

Bethany: [00:11:07] I think it's different by person because people are really different. So I don't think there's a one size fits all recipe, but I think it starts with, you have to really, really care. And if you really, really care what the other person has to tell you, because you're passionately interested in what it is that they know, I think that comes through and people respond to interest. But then there are all sorts of variations and some people really want to talk and they think in narrative form and they already have something they want to tell you and want to share. Some people don't like to talk and you have to draw them out with very specific questions. Some people will only talk once you know enough to ask really good questions. And so then you have to feel it out as you go.

I did have this instructive experience early on. I used to tape my interviews. I don't very often for various reasons anymore, but I remember listening to one of my tapes. This was early on in my journalistic career and the person would start to say something really interesting and I'd break in with my own observation or my own question and I was like, "Oh my God, this is terrible." And so the other thing, I try to remind myself and it can be surprisingly hard, but it was just to be as quiet as possible. And when you need to say something, when you need to move the conversation along or circle it back or loop back, then you do. But you try to be quiet.

Patrick: [00:12:19] Somewhere in an interview, there was a great line, which I've thought a lot about sense which is just this idea of preparation. Like to really get something out of somebody, you need to know a lot about their world or them in particular. Do you still generally find that that's true? Do you do that amount of preparation all the time?

Bethany: [00:12:33] I do. You need to know what's knowable about them because I think there's nothing more off-putting than having asked for somebody's time only to show that you haven't done your work and you don't know what is readily knowable. It just creates a barrier between two people that you don't want to be there.

Businesses Gone Wrong

Patrick: [00:12:49] I'd love to talk about the end of a lot of the roads you've gone down, which is people and people doing bad things and talk about their motivations and whether or not there are commonalities that you see across whether it's hubris or greed or what the driving forces are that lead people to do really bad things. Are there any commonalities across that you can pull on?

Bethany: [00:13:10] I think it's an endlessly interesting topic because it's human nature. And if it were ever as simple as people knowingly doing bad things because they wanted to extract money from others, the stories wouldn't be that interesting at the end of the day. But they are always a mixture of some level of self-delusion, rationalization, maybe greed, but usually greed in the service of ego, not greed for money, per se. Maybe some finality, maybe some outright corruption, maybe even some idealism. I think a lot lately about what separates a visionary from a fraudster. And sometimes I think it's actually as simple as whether it works in the end or not. Whether you're able to get away with it because it works in the end. But when people convince others to believe, they usually believe themselves.

And I remember saying at one point when I was working on the Enron book, I was really struggling with this because I said to somebody I was very close to. I said, "But Jeff Skilling, he believed. I'm having trouble with this, he believed." And this person looked at me and said, "Bethany, the worst crimes in human history have been committed by people who believed." And so these themes about human nature resonate, not through business, but through human history and that's why I find them so fascinating.

Patrick: [00:14:20] You mentioned this idea between visionary and fraud. This is a really interesting binary and I'm sure that people listening will think about people like Elon Musk probably is the biggest one in the news today.

Bethany: [00:14:29] Right. He's the most prominent example of it today for sure.

Patrick: [00:14:31] So maybe we could use the story of Tesla specifically, a company that... Short sellers love to talk about, a company that believers, equity holders love to talk about. I'm curious your take on this as it's playing out live where we don't know the outcome yet. Obviously, you could paint a picture one or two ways.

Bethany: [00:14:46] You could. I have not written about Tesla, so I don't know enough to know, but I do find it... Elon Musk obviously says all sorts of things that aren't true and makes all sorts of predictions that don't come to pass. In those details, he is somebody you could see getting in trouble down the road. And if you read Ashlee Vance's great book on him, the first half of it just lays out all the ways in which he skirted the rules, essentially lied to people, but got away with it. And so I think in this case, one of the lines between the skeptics and the believers is he's lying. He's not telling the truth. This isn't happening and the believers who think somebody who's that brilliant and has that big a dream while all these details don't really matter. The details are unimportant to you grungy, little detail oriented people who can't see the big picture.

And it's really fascinating because that is exactly the crux of this debate. I just finished this book called Free Radicals, which is a really interesting book about all the frauds basically perpetrated by great scientists. And there's this great line in it by Isaac Newton's biographer, who talks about him throwing clouds. I'm going to get it wrong, but throwing clouds of explicitly crafted fudge factor in the eyes of his scientific opponents and says basically some of his most famous work was deliberate fraud. He knew he was right about the idea and he just didn't have the math skills to back it up. And it makes you realize that this theme is larger like everything. It's larger than the business world.

Patrick: [00:16:13] This idea of storytelling or narratives in business is just amazing because of the power that it can create. Like literally you can create something from nothing with a great story and create your own momentum. Looking back on all the things you've investigated, was there a moment where there's this visionary fraud? Like, you're not sure that stands out in memory. Is there a person or a situation where you really didn't know?

Bethany: [00:16:34] Well, I don't know that I can answer that at the moment in time, but looking back at it, it's fascinating if you think about Enron because Enron broadband, which was a fraud for all intents and purposes for the nitty gritty reasons that short sellers focus on reporting of profits that were basically manufactured out of thin air, lies about the status of the business. But Enron broadband was Netflix. I find that incredibly interesting because if it hadn't been for all the other manifold problems in Enron's businesses, perhaps they would have gotten away with it. And so it's unclear. I'm not sure.

I wish I could identify that pivotal moment where you can tell the difference between who's a visionary and who's a fraudster, but I sometimes think it's only clear in retrospect because the luck of whether or not it all works, whether or not you get the time for it to work, whether or not things break your way or don't break your way is often what determines it, not the actions themselves. That's a cynical view I know and I'm still thinking through it, but I wonder about that.

Patrick: [00:17:32] What was your experience looking into Valeant?

Bethany: [00:17:34] The Valeant story is a fascinating one for me because the big thing that is different about Valeant and Enron, even though they are similar in some ways. But the big thing that is different between the two is that in the case of Enron, what we usually think of as the smart money. The big smart hedge funds, who we all know they were all skeptical. In the case of Valeant, there was a big divide in the investment community and some of the smartest investors out there were big believers in Valeant. And it was a part of the story that I couldn't understand as I was working on. And I still can't understand today. And when I say that Valeant and Enron were similar, what I mean is that they both had the same attitude toward the rules, which is that the rules were meant to be manipulated.

The rules were meant to be used and manipulated and stretched to their limits, not followed in any linear way. And of course, both Mike Pearson and Jeff Skilling or McKinsey alums, which is another fascinating element. But that to me was the mystery of Valeant. And I remember sitting with an investor who was a believer in Valeant and a very smart investor. And it was right at the time that Martin Shkreli stuff was breaking and he was commenting on what an absolute jerk Martin Shkreli was. And I said, "But why is what Valeant's doing any different?" And he thought for a minute and he said, "Well, that's a really good question." And it was interesting that the behavior that in one person people saw as utterly reprehensible, somehow it was acceptable in the case of Valeant. And I think part of that is that Mike Pearson managed to spread this veneer of efficient capitalism over the whole thing.

We had these arguments, well, if I raise the price of these drugs, insurance was going to pay for it. And then for the people who don't have insurance, we'll figure out a way to get it to them. And the cost of Syprine is still cheaper than the cost of a liver transplant. So in a capitalist economy, that makes sense. And those arguments just made people lose sight of this basic idea of right and wrong, which is sometimes more fundamental than any of the sophisticated arguments you can layer on top of it.

Patrick: [00:19:32] You wrote a really interesting article, I think is for Yahoo Finance recently on, I'm going to blank on his name, but I think it's Omeed Malik at Bank of America. And the much more nuanced version of the stories that have emerged around this Me Too movement. It would be fascinating to hear your perspective on writing that story, how difficult it was to toe that line. And what's become obviously a really important hopefully force for good, but maybe highlighting how complicated these things can be.

Bethany: [00:19:59] Right. Well, that was an incredibly difficult story and I tried to highlight in the piece that there was a lot I didn't know. I know I didn't know things and I still worry that he is a much worse guy than I knew, but the piece raised some issues I am really interested in which is this idea, can you be fair to women for whom particularly the world of finance has never been at all fair to and still be fair, or maybe a better way of putting it, can you be fair to the person who is the accuser and still give a fair process to the accused? What's the right degree of publicity around somebody who is pushed out for Me Too reasons? Do they deserve to have their names splashed across the press and their chance of future employment completely destroyed in today's world, especially when it's not clear what the sin was? What's the line in all of these things and how do we think through it?

And I think the stakes are very, very high because you probably talk to people. I talk to people particularly at smaller shops that are run by an individual founder who say, "Why would I hire a woman if there is a equally competent or almost as competent man, why would I take that risk?" And those comments are incredibly frightening to me. And if we don't figure out a fair process for dealing with this, and I've had women say to me, "The world's been unfair for so long. What do you mean it has to be fair?" But I think the repercussions are high. So it's a whole bunch of very thorny, philosophical issues that I've been wrestling with. I worry that the Omeed Malik case is a very complicated one and perhaps was not the right issue to explore just because there's so much, I don't know. It was a strange process because as I worked on the piece, I became more and more aware of what I didn't know. And that is the scariest thing for a journalist, for anybody, right? When you know, you don't know things.

Patrick: [00:21:49] Yeah. Rather than go into the details of the story, I would just highly encourage people to read the story itself, but it made me really think about this interesting spectrum of when you've got at core of movement, which is obviously about something right and something that needs fixing. And then the question is, "Okay, how do you implement that change?" And so I would just like to hear a little bit more about your thoughts on the spectrum, right? Because on one end, I guess the fear is it becomes a McCarthyism and on the other end, everything has done well and bad people are exposed. So do you have any philosophical thoughts on how to attack this problem or what we could do better?

Bethany: [00:22:21] Oh, boy. I wish I did. I think it's really complicated and I'm worried that there's not a way to be fair to accusers and also be fair to the accused because if you are somebody bringing a complaint against somebody who's powerful, you don't necessarily want to be identified. You don't necessarily want the details to be public. It's really, really hard to speak up. On the other hand, if it's going to destroy the person who's being accused, not only their current job, but their potential to get employment again, in today's world to get them kicked off boards of charities that they've been involved in it, et cetera, et cetera, shouldn't the specifics of the accusation be knowable so that the person can defend against it?

And I think it's a really hard bar for the press, but I feel like you have to have the details from somebody in order to report it. The specific details, even if they are anonymous, but at least you have to know the details instead of just generic. This person is part of the Me Too movement, but we don't really know why. But I think it's a really hard line to find and I worry there isn't a way to be fair to both.

Patrick: [00:23:25] Apart from just very clear, detailed, honest reporting, do you think there are other ways that journalists or non journalists can positively affect this entire movement?

Bethany: [00:23:34] Well, I think it is and I think it's up to the individual journalist, but I think by finding a line as to what should be reported and what shouldn't, and I guess in my mind, there's a temporal aspect to it, quantitative aspect to it, and a severity aspect to it, by which I mean, if something happened 20 years ago and it's one person, and it's an allegation that they said something inappropriate, you know what, maybe that doesn't need to be reported. If it's something that happened two years ago and it's really severe, and it's 10 people saying it, then yes, obviously. But again, where you find the line in those things, I don't know.

Business and Institutions

Patrick: [00:24:14] So a common theme across as I was reading your books and articles is it's just the power of institutions, institutional inertia, complexity around institutions, et cetera. I'd love to talk about home ownership specifically. And this is a topic that I know you love and have explored in some great detail. I really enjoyed the short book you wrote on Fannie and Freddie. And this is a bit of a wonky topic, but I just think it's so interesting because beneath it all is this romance that the US has with owning homes. And maybe we can start with that very high level idea of that romance. Where it came from, why we are different than the rest of the world in our desire for homes, how we finance homes, et cetera, and then talk about the current implications of that.

Bethany: [00:24:56] Sure. So one of the things I was fascinated by when I did that book and thank you for saying you liked it. I remember when I went to a Goldman Sachs Conference on housing finance, when I was reporting the book and the Goldman Sachs PR guy was like, "What are you doing here?" I was like, "Oh, I'm writing a book on Fannie and Freddie." And he was like, "Why?" There's something about the topic that strikes most people as so wonky that even if they think they should be interested in it, they just can't. So anyway, but one of the things I was fascinated by is that this romance with home ownership really goes all the way back to the 1800s, the beginning of this country. It's been something that president after president has stressed. And I think part of it was the belief that in a sprawling disparate country, ownership of land and ownership of homes was something that would unite people and literally give them a stake in this country.

So I'm sure it has something to do with this being a nation of immigrants and a nation of immigrants from very different places that actually, there was a need for a stake in the land itself in order to unite people. And then the creation of Fannie and Freddie and the ways in which our housing system essentially became the irony of the world's most capitalist economy, at least in theory, and having a government supported housing system is huge, right? And the way in which that happened is fascinating too, because it's accidental. And I always love things that have come to seem inevitable, but were actually accidental in the way they were structured.

Patrick: [00:26:22] Can you describe what the accident was?

Bethany: [00:26:23] Yeah. So in the wake of the great depression, nobody could get homes and there was this need to figure out the housing market and mortgage finance had always been a huge problem in this country because it's so huge. So a local bank may not have the capital at one point in time to be able to extend a mortgage to people, whereas a bank somewhere else would have, but mortgage rates varied wildly by where you were located. The availability of capital was completely random. And so there is this idea that you could set up an institution that would buy all the loans and buy up all the loans from all the lenders around the country making them, and therefore capital would always be available and interest rates would be more uniform. But the fascinating thing was it was supposed to be a private company, but the private market wasn't interested and wouldn't step up to the plate. So it became the government and that's how Fannie Mae was born. And then Fannie Mae was essentially an arm of the government for a really long time.

And it was privatized during the Vietnam war as a way to basically get it off the budget. So there are always these games with numbers that were part of it too. I mean, it wasn't privatized as any grand philosophical thing. It was purely just strategic. Not even really strategic, I mean, purely just playing with the numbers, right? And so out of that was born this oddly hybrid creature that had all these elements of the government, including this notion, which I think is just also one of the best things ever, which is this concept of an implicit guarantee. The idea that Fannie and Freddie were backed by the government, except they weren't really. I mean, how crazy in the annals of finance, right? That had the idea of an implicit guarantee is just insane.

So I found the two companies just completely fascinating, and I've also been interested in my own evolution on them because I first wrote a really critical story about Fannie Mae in 2005 for Fortune when it had first come under fire for all these accounting irregularities. And I thought, "There's absolutely no reason for these two horrible companies to exist." And some of that's true, but I've changed my mind about some of that over the ensuing 15 years as well.

Patrick: [00:28:28] What's changed specifically? What do you think is going on?

Bethany: [00:28:30] So I think one of the things I've realized is that it's a little bit like that old Winston Churchill quote, I think, which is that capitalism is the worst possible system with the exception of everything else that's ever been proposed. And I think the same is true about Fannie and Freddie, as you think about they're a horrible solution, but they're better than everything anybody else can come up with. At the end of the day, I think, whatever you may think of this concept of home ownership, it's deeply ingrained in our psyche, but it's also deeply ingrained in our practical economic realities, which is that it is how most people have funded their retirement, right?

And if they haven't funded their retirement, at least people have gotten to retirement with a place to live. And if you strip that away and you don't subsidize home ownership, but you continue not to have a European like welfare net for older people, what do you do? How do you take one away without replacing it with something else? And home ownership as a forced savings mechanism. Has actually worked pretty well until the financial crisis. And so if you're going to get rid of that or change it radically, you better have a plan for the whole rest of it. You can't just take it away and then say, "Great, we've gotten rid of this concept of home ownership and we don't have any government involvement in our housing finance system anymore. Aren't we great?" So I think that's one aspect of it that I think about a lot.

And the other is that Fannie and Freddie have also worked really well. And this could be a criticism in some ways, but to make mortgages an egalitarian thing. And yes, there are differences for jumbo mortgages. The very wealthy can get much lower rates than you could through a conventional mortgage, by which I mean a mortgage that can be sold to Fannie and Freddie. But overall for the great swath of American homeowners, Fannie and Freddie have created a pretty uniform mortgage rate, no matter what your income level and no matter where you live. And I actually think that's an achievement. And again, one that if you're going to get rid of you better think about what the social consequences are of that.

Patrick: [00:30:24] It's amazing when I was reading the book that homes are typically someone's primary asset. We spend an enormous amount of money on them, all of our time in them, but no one really understands the system behind them. There's a great line in the book that says, it was a quote from somebody, something like the rest of the world, which I think has much shorter duration, much more variable rate mortgages is socialized healthcare, but then private market home ownership and we're the inverse. And I'd never really thought about it in those terms, right? Like these are incredibly important things and it really is a differentiating aspect of US economic structure in life. What percentage is of mortgages that are ultimately bought from the banks by Fannie and Freddie today?

Bethany: [00:31:03] By lenders from Fannie and Freddie? I think it is still close to 75, 80%.

Patrick: [00:31:08] That's crazy.

Bethany: [00:31:08] I haven't looked at the numbers and not just Fannie and Freddie, but the FHA and Jenny too. But it's a huge number. I mean we're a decade out of the financial crisis and the private market by which I mean mortgages that are made and then sold to Wall Street in order to be packaged up into securities, that market really hasn't come back and you can blame all sorts of things by that. But that's the other thing that the financial crisis showed, which is Fannie and Freddie always said, "Great, Wall Street, you can package up your own mortgages, but as soon as the economy turns bad, as soon as there's a crisis, you'll be gone and we'll be the only thing that's left." And people who were skeptical of Fannie and Freddie always said," Bullshit. That won't happen. There'll always be a market for mortgages.

And you know what, Fannie and Freddie turned out to be absolutely right. Because when the financial crisis hit, if we hadn't had Fannie and Freddie, the crisis would have been a million times worse because the entire mortgage market in this country would have shut down. People wouldn't have been able to move, they wouldn't have been able to sell their homes. It would have been of a magnitude worse. And so that actually turns out to be true, right? The private market likes the mortgage market in good times and as soon as times turned bad and that money doesn't have to be here, it's gone.

The Energy Industry

Patrick: [00:32:14] I know you've just completed another interesting investigation into something like the housing crisis that has contributed to a lot of the volatility in markets and business in the last couple of decades, and that's the world of energy, specifically, US fracking. I think the book's called Saudi America, which is a great title. I'd love to just hear a little bit about why you got interested in that. It stood out in your list of things you've explored as somewhat unique and different from some of the other you've looked into. So talk to me a little bit about what got you interested in that and maybe some of the major conclusions having investigated.

Bethany: [00:32:44] It was funny, we were having a dinner party at our house and the subject of my book came up and my husband was just shaking his head. He said only my wife housing finance and then fracking seriously? It was something I was always interested in. I found Aubrey McLendon, an incredibly compelling character. And I couldn't get to write about him because I think there's this little bit of a barrier that everybody on the coast is fascinated by what's happening in Silicon Valley and sees that as the driver of the American economy. And I was like, "No, no, wait, you guys, this thing that's happening in Texas in these grungy areas of the economy that we don't want to look at, this is far more important for the future of this country than what's happening in Silicon Valley. And so we need to look at this and delve into it and understand it."

And I was looking for an excuse to learn more about it and to try to figure it out. And I was fascinated by the contradictions in McClendon's story because he essentially most likely died broke after being a multi-billionaire. Did so much to reshape the face of an industry yet the company he left behind struggled to survive and it burned through capital. I mean, it burned through extraordinary amounts of capital to the tune of 10s, 20s, 30s, billions of dollars. And that it's emblematic of this wider story and of a less understood aspect of the fracking revolution, which has how dependent it's been on low interest rates in the wake of the crisis and the availability of capital to fund it because these companies don't produce free cash flow, they don't fund themselves. And that's just this fascinating conundrum at the heart of this. That this thing that is terrorizing the world and reshaping our economy, hasn't yet proven that it's really a viable business.

Patrick: [00:34:24] Can you give a little bit of an overview maybe for those less familiar of what that revolution has been? So we know how it's been funded, which is really, really cheap capital, but the energy situation in the US today is drastically different from, I can't remember the name of the author that published the book on Twilight in the Desert on peak oil and things have just literally could not have gone differently than he forecasted. So talk about what that change has been, what's driven it, and why it's so interesting.

Bethany: [00:34:48] Starting there, that's one of the things I learned, which is just so fascinating to me is that there is nothing like the energy market and the oil market, and specifically to show up at the fallibility of forecasts because everything anybody says is wrong. It's just the only thing you know about it is that it's likely to be wrong no matter how solidly reasoned and totally thorough, it seems at the time wrong. So yeah. When you think about the change over the last decade, and it's really solely a result of this new technique of fracking, which is really the combination of two techniques, which is horizontal drilling, having a drill go horizontally instead of vertically, and then fracking in order to get molecules to flow that wouldn't otherwise have been able to flow, has completely changed the global picture.

We used to think we were running out peak oil, and we used to think we had no natural gas. We were running out of natural gas, and now the estimates are we have enough natural gas to last 100 years and we started to export the stuff, both the natural gas and the oil, which was unfathomable a decade ago that we would ever have enough to export. The availability of cheap natural gas is completely changing power generation and industry in this country because the US has one of the cheapest sources of natural gas globally.

So it changes our industrial picture going forward, but there's this contradiction at the heart of the whole thing and it's best summed up by a quote I have in the book from my pal, John Hempton, he and his partner used to have this debate. And his partner would say, "The oil and gas is real. It's there." And John would say, "Yeah, it's real, but the economics don't work." And so that's the conundrum at the heart of this, which is that because the economics of fracking are tough, the decline rates on the Wells are really high so it requires constant, constant reinvestment.

It's really hard for these companies to produce free cash flow. And so in order for this fracking revolution to take place and for the immense quantities of oil and gas to be coming out of our ground, it's required the availability of cheap capital, both in the form of debt, thanks to the Federal Reserve's low interest rate policy, but also in the form of pension funds desperate for a return, right? Who have been willing to put money in private equity firms and into credit oriented hedge funds that have helped them supply capital to these companies.

Patrick: [00:37:01] We are in that life cycle now? I'm not asking you to make a prediction, but maybe just a set of observations about the current state of things, maybe when you finished your research process, relative to this day.

Bethany: [00:37:12] But that was a super frustrating thing about the book, because I wanted to come up with an answer and that was part of the motivating factor behind it was, "Okay, how is this going to shake out?" And I realized that's totally impossible, and it's totally impossible for a couple of reasons. One is that you can't predict the price of oil or natural gas. So what doesn't work at $60 a barrel would work at $150 a barrel, for sure, right? So to say, this doesn't work is to say, you can predict the future price of oil. And the one thing I learned is that I'm sure as hell not doing that. I guess there are actually three components. The second component is there have been huge technological improvements in fracking and the technology of getting this stuff out of the ground and the cost does keep coming down.

And so to say, this doesn't work economically is also to say, there will be no more technical progress and that you can't do either. And then the third thing is that the history of the fracking revolution is that it has been way more resilient than its detractors ever believed. This was supposed to be done when prices cratered in 2015 and 2016, and yet it came roaring back. And so it's a short history. It's only a decade long history, but the history so far shows don't underestimate these guys.

Patrick: [00:38:27] I finished an interesting book actually as part of the process for thinking about this conversation, which was the technologies that shaped the industrial revolution America, and this idea that the two most important things are our source of energy and what the author calls our prime movers. So the way that we basically move stuff, it used to be our own muscles and horses and it evolved to steam engine and steam turbines and the internal combustion engine and all these things. And I think people underestimate this whole idea of fracking in energy. The importance of the fuel source, the importance of little boring things like air conditioning, and ultimately these are the drivers of maybe more so than the next Silicon Valley scooter company or whatever. These are the drivers of our economy.

Bethany: [00:39:08] They are, and a person who was a fracking entrepreneur sent me a picture, a map of the economies of Haiti, I think in the Dominican Republic one where there's energy and one where there is not much. And the difference in living standards between the two countries and whatever you say environmentally, it remains the case that hydrocarbons energy have been the surest way to change the standard of living of a population throughout. The access to hydrocarbons and so that's something think about however you wish, but it's a fact.

Patrick: [00:39:41] For people that are... because this is an interesting investing question, right? Like if this continues, let's say that interest rates don't rise or the availability of capital doesn't crater, we can continue to be, let's say energy independent, or even exporters' of energy. And people are interested in how this might affect other things in the US industry, other sectors of the economy. Any other thoughts there, or places that you might recommend people go to read, because that could be an enormous secular trend that affects people's investment.

Bethany: [00:40:08] Well, it could. I think what people are struggling to figure out and people who are much more well versed in this than I am, because there's another thing out there that changes this entire picture, which is renewables, right? And what the onset of renewables and when it's coming, because as soon as it does, the price of both oil and natural gas goes into a secular decline just as it did with coal. As soon as you can see the end of the era of non-renewables, then the whole picture changes. We can't see when that is, but we know it's coming. So that's another factor that influences these. And the factors that go into when renewables will be able to take over the world are as immensely complicated and calculus as the price of oil. So there's no real way to figure that out.

Patrick: [00:40:52] Did you spent time on that? On renewables.

Bethany: [00:40:54] I tried to. I spent a little bit of time, but that was one of the crazy challenges of this book, which is that every little piece of it, instead of just being a paragraph could have been a book in and of itself. So I went down way more of a wormhole than I had realized I was going to on when I started it.

Career Lessons

Patrick: [00:41:10] So I'm going to take a jump because of a line that I saw somewhere in an interview that you gave, which I want to make sure I get the guy's name right. You said that a gentleman named Peter Elkind was the best investigative journalists you knew. I'm curious why that was the case. So I don't know who Peter is, but... high praise.

Bethany: [00:41:24] Peter was my co-author on The Smartest Guys in the Room, a long-time Fortune guy. And when the Enron story broke, it was our mutual colleague, Joe Nocera who is like, "You have to write a book." And I was, I think, 30 at the time and had done maybe a couple of 3,000 word pieces for Fortune as the longest things I had ever written. And so if I've made one good decision in my life, it was not trying to do the book by myself. Joe said, why don't you work with Peter, he's based in Texas and he's a great investigative journalist. And I remember thinking, "Oh, great, I'm going to learn all the shortcuts for doing this from a guy who's the best in the business."

And one of the things, I guess the best thing I learned from Peter is just doggedness. You call everybody who you think might talk to you. If they don't talk to you, you call them again and you just don't give up. Just doggedness and relentlessness and just turning over every stone to see what you might find underneath it. And there there's nobody better than Peter at that to a degree that I can't copy, even though I watched him do it, but there is no better than Peter.

Patrick: [00:42:25] What is the most relentless that you've ever been?

Bethany: [00:42:27] I guess, I'm pretty relentless on almost everything I work on in terms of trying to find answers to how things work. I will give up on a specific person before I think Peter would. I'll call somebody a couple of times and then I'll call them again when I have more information that might get them to talk, but I won't just call them every day until they talk to me because they just want me to go away. I guess I was pretty relentless when I did a story on Microsoft. I had been told that Ballmer and Gates were no longer talking to each other and there was a feud between them. And this was a few years ago, but I couldn't use it unless I could learn it for myself. And it was very, very difficult to get Microsoft to cooperate with the story and to get to Ballmer who had left as CEO a little bit before this piece. And I think I worked on that story for over a year.

Patrick: [00:43:21] How did you get to him?

Bethany: [00:43:22] I finally convinced Microsoft that I didn't have it in for them and that I was willing to listen. And after spending time there, I got to meet Satya Nadella, and I think for them, it paid off for them to have trusted me because a story that could have been how Microsoft is doomed actually ended up being quite a bit more nuanced and I think correctly so because Nadella is an incredibly impressive leader and probably what Microsoft needed, and that helped me understand the culture and meet enough people that I was able to talk to Ballmer finally.

Patrick: [00:43:58] We've talked a lot about companies that have gone wrong. What's the most impressive company that you've ever seen?

Bethany: [00:44:04] I'm almost frightened. I don't think I could answer that because unless I've really looked at it...

Patrick: [00:44:10] You don't want to say.

Bethany: [00:44:11] These past couple of years have been a string of the most admired companies that you would have thought were doing things right. And we found out how hollow that was from Wells Fargo to General Electric, right? So I guess rather than answer that with a specific company, I would say that I think there are a lot of people out there, particularly in small businesses who are doing their best to do it right every single day. And I remember coming across when I was working on my book about the financial crisis and everything was negative. Coming across this guy named Dave Zitting, who ran the small mortgage broker out and at the time small in Arizona, and he had gotten into subprime lending. And after about a year in it, he shut it down because he was just like, "You know what, my borrower, I can't..." He was selling the loans onto a bigger buyer and they were like, "Just get us the loans. We don't care."

And he was re-underwriting them at his office and he was like, "But my borrowers can't pay these back. These don't make sense." And so we shut down the business and then he watched for like a year and a half as all of his peers, totally eclipsed him and had private jets and we're buying islands. And he was just plotting along on the regular old prime business. But he was right. And I think people make those decisions all the time in ways we never know about. Those absolutely right businesses. They look at their customers and they say this isn't right for my customers. This doesn't make sense and they don't do it. And we don't usually find out about most of those.

Patrick: [00:45:37] We talked about ego and wealth and all these interesting potential drivers of people doing bad things. There's probably nowhere in the world where that is more concentrated than in the cutting edge of the investment world. People usually call this hedge funds. Maybe that's not the right word, but more of a fee structure than actual hedging happens at a lot of these places. You wrote a fascinating story on what was then called SAC, now Point72. And I would love to hear your take maybe on that story specifically, but more generally speaking your general impression of or take on the very competitive, very aggressive hedge fund world as it stands today, maybe relative to your long experience with some of the smartest best investors in the world.

And oftentimes when stories are written about places like this, I know a lot of people who have done stints at Point72 and to a person, they are unbelievably smart, unbelievably impressive. And for the most part, great people. So I'm curious your take on looking at that world today, as it stands relative to your experience with that world through time.

Bethany: [00:46:34] I've always actually had a pretty good experience with most people who are a part of that industry. People are incredibly smart and usually really interesting and really interesting to talk to. And I have the great luxury of most of the time not having to cover that world directly so I can appreciate people for who they are and the conversations I can have with them rather than having to worry about that world. I think it is competitive enough that if you aren't awfully good at what you're doing, it's not like incompetent people are sitting there raking in these mammoth fees, right? If you can survive in that world, then you're really good at what you do. And it is viciously competitive and it is the choice among people who give hedge funds that money to pay those fees and to invest in something that is essentially a fee structure rather than an asset class for the most part.

So I don't have any grand philosophical take down of the hedge fund industry. I thought the SAC story specifically was fascinating because there were always rumors throughout the world and throughout the very sophisticated world. It wasn't as if it was just clueless prosecutors in the US attorney's office and journalists saying there's insider trading here. That was always the rap on SAC among very sophisticated people who knew the firm well. But what is fascinating to me about the story is the line between what's legal and what's illegal and what's a legal way to get information and what's a legal edge. And I think that line is much murkier than most people think. And I get really annoyed when I hear anybody say, as Preet Bharara, the then US attorney did at the time, which is that we want to make the market fair for individual investors.

We want to level the playing field. It's never level. There are people who have access to better information than you do. They spend all day on all night doing this. It's not going to be fair. And I think pretending that there's a level playing field and a level access to information is actually a lie in and of itself. And I thought the SAC story raised these really interesting issues, because you could have argued it two ways at the time, right? One was, if you can't get this guy for doing something blatantly illegal himself, then do you try to go through the backdoor and destroy his firm? Or the flip argument is we've all been told, we've all known, this guy is up against the line or across the line. Do you find any way you possibly can to take him down? And I could debate that either way.

Patrick: [00:49:01] If you reflect back on your whole career and maybe ways in which your views in general or your methods have changed the most. I'm always interested by that. By people that do a lot of deep work and maybe start one way and end up with totally different set of beliefs about people or their process. Are there big lessons that you would be willing to offer people, especially those that might be different than when you started?

Bethany: [00:49:23] Well, I think one big evolution for me, although it happened early on was this idea of how much people matter, not just for storytelling, but how much the personal aspect matters for the truth of a situation. And I, like I said, was a math major and I think I was just much more numbers based and not really that interested in people when I started out. And so I think that's one way that I have changed immensely is that now I do see people much more because it's the people who make or make up the numbers at the end of the day, right? The numbers don't exist without the people. And so think that's one big way that I've changed.

I think I've become far more nuanced. In my old age, I'm much less willing to condemn somebody and much more interested in what drives people, what makes them tick, what's the line between good behavior and bad behavior? How do otherwise good people find themselves doing bad things? Because at the end of the day, that's what's really interesting. Bad people doing bad things is not that interesting. Good people doing good things is really great. I'm glad there are a lot of them, but I don't know. But good people doing bad things is, and these human aspects of self-delusion and rationalization and the ways in which we fool ourselves, I think are endlessly fascinating to me.

Patrick: [00:50:40] Do you think there are ways that that can be guarded against? This is something I think about a lot where success, it seems like for many people creates like the seeds of a lot of these problems. Are there systems of ethics or principles or things that maybe you found helpful to be guiding lights of sorts that come with success that maybe can reduce the likelihood of someone going wrong?

Bethany: [00:51:03] Well, everybody says the way around this is to have people around you who challenge you, right? And that's become a touchstone of modern business. The problem with that is that it's way harder than it sounds. And most people who say they like to surround themselves by people who challenge them are completely full of it because nobody likes to be challenged. And the reality is the more successful you are, the less you like to be challenged. And so a big red flag for me is actually when people say, "I really like to be surrounded by people who challenge me." Because I think you only think you're being challenged. You're actually surrounded by people who tell you what you want to hear, because otherwise you wouldn't like it.

But I think really being able to put that in place, I mean, really being able to put that in place is one great way, but man, that's hard because it's not only the person themselves being willing to be challenged. It's the people who surround them being willing to do the challenge and human dynamics just don't allow for that very easily. So I think there's a whole interesting stew there that if you can get that right, that's one big way. And then I think on an individual level, it's unpacking what makes you intellectually honest? And I'll give you a little example. I still today, Jeff Skilling was a master of two things. One was a sort of intellectual intimidation that made people pretend to get things even when they didn't. And the other was what somebody told me was the McKinsey data dump was just being able to spew an enormous amount of information when he was asked a question such that you just really couldn't stay with them in order to say, "But you still didn't answer my question."

And I, despite knowing those lessons will still pretend, I understand things that I don't, and will still go along with things in a room because I don't want to be the person saying, "I don't understand." But what makes me intellectually honest is when I sit down to write, I realize I didn't understand it. And that's what keeps me honest at the end of the day. I won't necessarily be honest in conversation, certainly I'm not naturally confrontational, but I will be honest when I sit down and write and I'll be forced to see, I don't understand this. It didn't make sense to me and that's when I'll get tough and start to dig in and go back to people and say, "No, this doesn't make sense." And so I think whatever your method is, it doesn't have to be confrontation in the moment. But whatever your method is of knowing you didn't understand something or something doesn't sound right, you just have to find it.

Patrick: [00:53:21] It almost sounds like taking what you've learned and then building something that's your own from it and then opening that up to feedback. Like that's the process that you're recommending.

Bethany: [00:53:29] Yeah. That is. And for me, I guess it is feedback ultimately, because it's going to be public, but it's also for me, writing is an act of finding clarity and it's an iterative act and that you try to write, you realize, you don't understand, you go back and try to figure it out. You try to write again, you realize you still didn't understand something, but it's an act of finding clarity.

Patrick: [00:53:48] I'd love any thoughts you have on the role that empathy has played in your career, in your style, in your effectiveness, or just thoughts on empathy in general.

Bethany: [00:53:57] That's a really interesting idea and I guess when I said earlier in the conversation that you have to care, that was my version of empathy. You have to really care and be curious and be open to what the person is telling you and what their point of view is. And even if you can see where they're skewed in their point of view, why it is that they would be skewed. I guess by nature, I think I am pretty empathetic. I often think that if I had ended up... if after I had left Goldman, which is where I worked right out of college before I went into journalism. And if an executive recruiter had said to me, well, not an executive recruiter, junior level recruiter had said to me, "There's this fascinating energy company down in Texas that is doing all sorts of neat things."

And if I had ended up working at Enron in the finance department for Andy Fastow, would I've been the person doing creative structures or would I have said, "No, this is wrong." And I don't know the answer to that. I like to hope it would have been the latter, but I actually don't know. And so if you try to visualize... In order not to be empathetic, you have to really believe you're a lot better than other people. But a fascinating thing about listening in silence, my eight year old daughter just pointed this out to me, which I thought was great, which is that you can actually make silent out of listen, they're anagrams. And it's so great because in order to listen, you have to be silent, right? So anyway, from the mouths of babes.

Patrick: [00:55:13] Perfect. So my closing question for everybody, which is always interesting, because I get such a wide variety of answers is for the kindest thing that anyone's ever done for you.

Bethany: [00:55:20] Can I do two?

Patrick: [00:55:21] Sure.

Bethany: [00:55:23] So I guess I'm going to pick probably Joe Nocera taking an interest in my work from a work perspective. Joe Nocera taking an interest in my work early on at Fortune and helping me take the Enron story from a story into something that became a book and then a fundamental part of my career. And I don't think if it had been, not for his level of interest and help along the way and for less credit than he got in the sense that orchestrated the book, but his name isn't on it. I think the path of my career probably would have been different. And then on a personal level, I guess I would probably say my husband because he always rises above. And instead of taking petty little comments and making them into a big deal, he dismisses the petty little comments and rises above. And if you do that, that sets a precedent where both people rise above and see the good and the other person and the other person's comments rather than the bad. And it creates a virtuous cycle instead of a vicious cycle of squabbling and it makes life much better.

Patrick: [00:56:36] God I love that answer. Well, this has been full of such interesting ideas all over the map, which I knew it would be. So thank you so much for your time and all you've done.

Bethany: [00:56:45] Thank you so much for your interest.

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