Hedge Funds Want Taxpayers to Think They’re ‘Small’

(Bloomberg Opinion) -- It’s a world of laughter
A world of tears
It’s a world of hopes
And a world of fears
There’s so much that we share
That it’s time we’re aware
It’s a small world after all.

— “Disney’s Sing-Along Songs”

Two weeks ago, Washington pooled about $349 billion to prop up struggling small businesses — but the well already appears to be running dry. It looks as if almost all that money has been doled out, and efforts to gin up another $250 billion lifeline have failed.

Predictably, the Trump administration’s carnivalesque management practices, this time engineered by Treasury Secretary Steven Mnuchin, have hamstrung the rescue effort. Mnuchin launched the bailout without much clarity about banks’ roles, and small businesses were left in the dark about how to apply for aid. There were no transparent guidelines for determining which entrepreneurs could secure money, and computer glitches fouled up the application process. A separate emergency lending effort overseen by the Small Business Administration “has all but collapsed under an unprecedented crush of applications and a shortage of funds, overwhelming agency officials and prompting urgent calls for action on Capitol Hill,” the Washington Post reported.

It’s been messy and, at least for the time being, it’s all gone. Who got the funding? That’s not yet clear. The Government Accountability Office and the Congressional Oversight Commission have been tasked with following the money, but it will take time — weeks, maybe months — for their reports to appear. The SBA said it has approved about 1.4 million loan applications, which account for some $301 billion of the $349 billion committed to small business. This suggests that, on average, each applicant got about $215,000.

Here’s what’s curious: There are 30 million small businesses in the U.S., according to the SBA’s own data, so less than 5% of them have gobbled up most of the bailout money in just two weeks. Who are the lucky — or well-connected — winners? We’ll have to wait and see, but in the meantime, at least one subset of entrepreneurs who also consider themselves small business owners are worth some attention.

Hedge fund managers, those elite risk arbitrageurs whose financial derring-do, market dexterity and compensation have made them the stuff of legends, are lining up for small business bailout money.

According to Bloomberg News, hedgies and other trading firms have been taking cues from their accountants and lawyers and making bids for some of that $350 billion. When the Coronavirus Aid, Relief and Economic Security Act passed earlier this month, it mandated that small businesses would be defined as any entity with fewer than 500 employees. Sure enough, lots of hedge funds fall under that umbrella. The top 10 or so funds in the U.S. employ anywhere from about 500 to about 2,500 people each, but once you move down the rankings the headcount (as well as the amount of assets under management) shrinks rapidly. So sure, hedge funds are “small” by the government’s definition, and right now, with the economy falling apart and bottom lines evaporating, “small” is a good thing to be if you want a handout.

However…

Hedge funds have “large” fortunes tucked inside their “small” businesses. An average portfolio manager at a hedge fund may make about $1.4 million a year. Last year, the top 15 hedge fund managers collectively earned about $12.4 billion, an average of about $827 million each. In one year. That’s large.

A hedge fund’s mission is to navigate risk and make money for clients. They get to live large when they do that effectively, and are meant to suffer the financial consequences when they don’t. Some hedge funds even specialize in profiting off the existential mistakes of others, and typically insist on enforcing survival-of-the-fittest rules to get paid — even if it’s a distressed territory like Puerto Rico, for example. It’s only fair that hedgies should hold themselves to the same standard and man-up under duress.

Consider me old-fashioned, but I think “small businesses” are the relatively modest retail, manufacturing, mining and service enterprises spread around the country. They are run by people like Mike Guerriero, a gelati vendor I recently profiled. Mike hasn’t taken home $827 million from his business in any year, ever. You can argue that a gelati vendor isn’t as important to the economy as a hedge fund and is thus less worth bailing out, but that’s a separate and subjective rabbit hole. At least one counterargument is that a vendor may get permanently sidelined by the corona-crisis, while a hedgie, if he or she has been smart, has already saved years’ worth of survival money and can bounce back more readily after things settle down.

In that context, it might have been useful for legislators to move beyond headcount when defining eligibility for a small business bailout. Being “vulnerable” is just as important as being “small,” and right now some businesses are more vulnerable than others.

Hedgies who think I’m being too strict can find solace in the tax code. More than 80% of the benefits of a tax reform legislators embedded in the CARES Act will reportedly go to those who earn more than $1 million annually on “pass-through” income — making hedge fund investors and real estate developers like President Donald Trump prime beneficiaries.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Timothy L. O'Brien is a senior columnist for Bloomberg Opinion.

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