million and had refined his investment approach.
Few outside the firm picked up on the change in Paulson, though. Erik Norrgård, who invested in hedge funds for New York firm NorthHouse Advisors, met Paulson around that time and decided his was “just another ham-and-cheese operation in a crowded space” of merger investors. Norrgård passed on him. Others heard rumblings about Paulson’s wild past and steered clear, unaware that he had settled down into a quiet family life.
“If people knew him at all, it was as just another merger arb,” says Paulson’s friend and initial investor Howard Gurvitch. “He wasn’t really on anyone’s radar screen.”
But something remarkable was about to happen to the nation, and to the financial markets, an upheaval that would change the course of financial history and transform John Paulson from a bit player into the biggest star in the game.
2.
T HE HOUSING MARKET DIDN’T SEEM LIKE AN OBVIOUS BENEFICIARY OF the age of easy money. As the World Trade Center toppled on September 11, 2001, and Osama bin Laden’s lieutenants boasted of crippling the U.S. economy, the real estate market and the overall economy wobbled—especially around the key New York area. Home prices had enjoyed more than five years of gains, but the economy was already fragile in the aftermath of the bursting of the technology bubble, and most experts worried about a weakening real estate market, even before the tragic attacks.
But the Federal Reserve Board, which had been lowering interest rates to aid the economy, responded to the shocking September 11 attacks by slashing interest rates much further, making it cheaper to borrow all kinds of debt. The key federal-funds rate, a short-term interest rate that influences terms on everything from auto and student loans to credit-card and home-mortgage loans, would hit 1 percent by the middle of 2003, down from 6.5 percent at the start of 2001, as the Fed, led by Chairman Alan Greenspan, worked furiously to keep the economy afloat. Rates around the globe also fell, giving a green light to those hoping for a cheap loan.
For years, Americans had been pulled by two opposing impulses—an instinctive distaste of debt and a love affair with the notion of owning a home. In 1758, Benjamin Franklin wrote: “The second vice is lying; the first is running in debt.” 1 The dangers of borrowing were brought home in the Great Depression when a rash of businesses went bankrupt under the burden of heavy debt, scarring a generation. In the 1950s,more than half of all U.S. households had no mortgage debt and almost half had no debt at all. Home owners sometimes celebrated paying off their loans with mortgage-burning parties, setting loan documents aflame before friends and family. The practice continued into the 1970s; Archie Bunker famously held such a get-together in an episode of
All in the Family
.
Until the second half of the twentieth century, borrowing for anything other than big-ticket items, such as a home or a car, was unusual. Even then, home buyers generally needed at least a 20 percent down payment, and thus required a degree of financial well-being before owning a home.
But the forces of financial innovation, Madison Avenue marketing, and growing prosperity changed prevailing attitudes about being in hock. Two decades of robust growth justified, and encouraged, the embrace of debt. Catchy television commercials convinced most people that debt was an ally, not an enemy.
“One of the tricks in the credit-card business is that people have an inherent guilt with spending,” said Jonathan Cranin, an executive at the big advertising agency McCann-Erickson Worldwide Advertising, in 1997, explaining the rationale behind MasterCard’s “Priceless” campaign. “What you want is to have people feel good about their purchases.” 2
By the summer of 2000, household borrowing stood at $6.5 trillion, up almost 60 percent in five years. The average U.S. household
Few outside the firm picked up on the change in Paulson, though. Erik Norrgård, who invested in hedge funds for New York firm NorthHouse Advisors, met Paulson around that time and decided his was “just another ham-and-cheese operation in a crowded space” of merger investors. Norrgård passed on him. Others heard rumblings about Paulson’s wild past and steered clear, unaware that he had settled down into a quiet family life.
“If people knew him at all, it was as just another merger arb,” says Paulson’s friend and initial investor Howard Gurvitch. “He wasn’t really on anyone’s radar screen.”
But something remarkable was about to happen to the nation, and to the financial markets, an upheaval that would change the course of financial history and transform John Paulson from a bit player into the biggest star in the game.
2.
T HE HOUSING MARKET DIDN’T SEEM LIKE AN OBVIOUS BENEFICIARY OF the age of easy money. As the World Trade Center toppled on September 11, 2001, and Osama bin Laden’s lieutenants boasted of crippling the U.S. economy, the real estate market and the overall economy wobbled—especially around the key New York area. Home prices had enjoyed more than five years of gains, but the economy was already fragile in the aftermath of the bursting of the technology bubble, and most experts worried about a weakening real estate market, even before the tragic attacks.
But the Federal Reserve Board, which had been lowering interest rates to aid the economy, responded to the shocking September 11 attacks by slashing interest rates much further, making it cheaper to borrow all kinds of debt. The key federal-funds rate, a short-term interest rate that influences terms on everything from auto and student loans to credit-card and home-mortgage loans, would hit 1 percent by the middle of 2003, down from 6.5 percent at the start of 2001, as the Fed, led by Chairman Alan Greenspan, worked furiously to keep the economy afloat. Rates around the globe also fell, giving a green light to those hoping for a cheap loan.
For years, Americans had been pulled by two opposing impulses—an instinctive distaste of debt and a love affair with the notion of owning a home. In 1758, Benjamin Franklin wrote: “The second vice is lying; the first is running in debt.” 1 The dangers of borrowing were brought home in the Great Depression when a rash of businesses went bankrupt under the burden of heavy debt, scarring a generation. In the 1950s,more than half of all U.S. households had no mortgage debt and almost half had no debt at all. Home owners sometimes celebrated paying off their loans with mortgage-burning parties, setting loan documents aflame before friends and family. The practice continued into the 1970s; Archie Bunker famously held such a get-together in an episode of
All in the Family
.
Until the second half of the twentieth century, borrowing for anything other than big-ticket items, such as a home or a car, was unusual. Even then, home buyers generally needed at least a 20 percent down payment, and thus required a degree of financial well-being before owning a home.
But the forces of financial innovation, Madison Avenue marketing, and growing prosperity changed prevailing attitudes about being in hock. Two decades of robust growth justified, and encouraged, the embrace of debt. Catchy television commercials convinced most people that debt was an ally, not an enemy.
“One of the tricks in the credit-card business is that people have an inherent guilt with spending,” said Jonathan Cranin, an executive at the big advertising agency McCann-Erickson Worldwide Advertising, in 1997, explaining the rationale behind MasterCard’s “Priceless” campaign. “What you want is to have people feel good about their purchases.” 2
By the summer of 2000, household borrowing stood at $6.5 trillion, up almost 60 percent in five years. The average U.S. household
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