Business Books: Hedge fund manager relates "short" story

NEW YORK (Reuters) - David Einhorn is one of the most successful people on Wall Street, building his hedge fund Greenlight Capital into a $5 billion giant.

David Einhorn, President of Greenlight Capital, speaks at the Reuters Investment Outlook summit in New York December 11, 2006. REUTERS/Keith Bedford

Yet it is his struggle with Allied Capital Corp -- in which he was accused of stock manipulation and his phone records were hacked -- that is the subject of his new book, “Fooling Some of the People All of the Time: A Long Short Story.”

His conclusion after the six-year battle is that U.S. regulators are reluctant watchdogs.

Einhorn established a short position in investment company Allied Capital ALD.N after concluding that its accounting practices were misleading to investors and therefore broke the rules.

Short sellers profit when stock prices fall. Einhorn drew notoriety because, unlike most hedge fund managers, he shared his negative views about some companies with investors, reporters and regulators.

For years, the Securities and Exchange Commission showed little interest in what was going on at Allied, he said. Instead Einhorn found himself fending off accusations that he was trying to manipulate Allied’s stock price.

“The SEC seems to have an indifferent attitude toward management wrongdoing,” Einhorn said in an interview. “The SEC is run by a corporate advocate, not an investor advocate, so investors are getting a false sense of security.”

At the heart of this 356-page saga is Einhorn’s contention that Allied misled investors by inflating the value of loans and equity stakes on its books, long after it is clear that companies in its portfolio are struggling.

Initially, the SEC did not acknowledge Einhorn’s letters alleging accounting discrepancies. It finally launched an investigation in 2004 and in June, 2007, it issued an order that found questionable valuation practices and several violations of securities laws.

Even so, Einhorn complained, the agency demanded no financial penalty or admission of wrongdoing. The government has shied away from imposing big penalties against companies, he said, on the theory these fines only inflict more pain on their investors and employees.

“For the most part, I have been correct. Allied has misbehaved and yet there has been a regulatory failure to rein it in,” Einhorn said.

Einhorn also writes that his phone records were hacked, and said Allied was behind it. Last February, while the SEC was investigating, Allied said it had became aware that an agent of the company obtained Einhorn’s phone records, but denied it had authorized the effort to get the records.

His book hits the bookshelves at a time when a growing number of critics argue the SEC and other federal regulators over the past seven years have been too hands-off, contributing to the crises currently gripping financial markets.

Billionaire investor Warren Buffett, hedge fund executive Ken Griffin and others in the marketplace in recent weeks have argued the U.S. government failed to police lenders and markets.

An SEC spokesman declined to comment on Einhorn or the book, but noted that the SEC imposed a record number of corporate penalties over the past three years.

“The SEC puts investors at the forefront of every decision it makes. The SEC enforcement program is the gold standard of securities law enforcement and its actions appropriately punish wrongdoing and deter future misconduct,” the spokesman said.

Allied, whose shares are down 34 percent since the SEC concluded its probe, defended its accounting and denies any wrongdoing. The 50-year-old company also attacked Einhorn’s credibility, noting he has an incentive to talk down its stock.

“Despite Mr. Einhorn’s six-year attack, no independent third party has concluded that his portrayal of Allied Capital has merit,” the company said in a statement.

Einhorn noted that Allied, which has a market value of $3.7 billion, has sold more than $1 billion of stock between 2002 and last year to support shareholder distributions and offset portfolio losses.

Many Wall Street firms dealing with the credit crunch have a lot of discretion in whether they have to mark down assets, Einhorn said.

Greenlight has short positions on investment bank Lehman Brothers Holdings LEH.N and bond insurer MBIA Inc MBI.N, two companies Einhorn says may have more exposure to mortgage losses than they let on.

While the battle with Allied has quieted, Einhorn said he wants his book to galvanize regulators into scrutinizing companies more closely and levying larger penalties on those who break the rules.

“The answer can’t be just letting the market figure it out.”

Reporting by Joseph A. Giannone; Editing by Eddie Evans