Hard Lessons: Jean Eric Salata

Stan Druckenmiller: I think contrarianism is overrated. I do like it when I have extreme conviction and no one else believes it. It gives me even more conviction.

Narrator: From Morgan Stanley, this is Hard Lessons… where iconic investors reveal the critical moments that have shaped who they are today.

Narrator: Today on the show—the legendary macro investor Stan Druckenmiller in conversation with Iliana Bouzali, Morgan Stanley's Global Head of Derivatives, Distribution and Structuring. Druckenmiller ran Duquesne Capital Management with roughly 30% annualized returns and no losing years from 1981 to 2010. He now leads the Duquesne Family Office, managing his own capital, and is a philanthropist championing education, medical research, and the fight against poverty.

Iliana Bouzali: Stan, thank you very much for doing this.

Druckenmiller: I'm thrilled to be here. I think the world of Morgan Stanley, so it's the least I can do.

Bouzali: That is, it’s a privilege for us to have you here. I've been privy to some of your equity trades over the past year or so, where it did feel you were early, and I'm curious if you can, maybe, take us through one or two and how they came together.

Druckenmiller: I'll pick one that might surprise you because it's not very sexy and it's not AI or anything, but I think it's a good example of our process at Duquesne. In the middle of last summer and toward the fall, the AI thing started to get, let me say, disturbingly heated and started at least to have some rhyme with what I went through in ‘99, 2000 and we were looking for other areas. The group brought in a company, Teva Pharmaceuticals. So Teva was this apparently, if you didn't know what was going on, a boring generic drug company out of Israel, selling at six times earnings. So, we met with the company—big transition going on. Richard Francis had come in who ran the same playbook at Sandoz. Very impressed with him—knew how to take low-hanging fruit in terms of operating efficiency. But, much more importantly, he was taking them from a generic drug company to a growth company by embracing biosimilars, replacing the generic drugs, which that's why they were six times earnings with biosimilars and even some, some actual drugs. The amazing thing is, the investor base were value investors, so they hated it. So, the stock sat there at six times earnings, while you could see this incredible management initiative going on. And, no one really believed him. And again, growth investors didn't want it because they hadn’t made the transition yet. Value investors didn't want it and were actually selling it because he was doing a growth strategy. So that was about six or seven months ago and the stock was $16. And today it's $32 and not much has happened. Other than he's proved biosimilars, they've come up with a drug that's not a generic. So it's re-rated from six times earnings to, I guess, 11.5 or 12 times earnings. So, it was a whole different set of circumstances but it encapsulates what we look at. If you look at today, you're not going to make any money. If you try and look ahead and what might change and how investors might perceive something ahead. This one happened a little more quicker than I thought, but that would be a recent name.

Bouzali: Fascinating. And very intriguing. I say it's intriguing because I think many people, maybe people not in the market, but certainly many people, when they think of Stan Druckenmiller, they think of a huge macro investor. And I have seen you dabble—more than dabble—really go into areas of the market, especially in equities, that are much more niche, such as healthcare or biotech. And my question is, do you have to be an expert, an analyst, someone that understands the whole pipeline of drugs to get that right?

Druckenmiller: Thank God the answer is an emphatic no. But I've got to have an expert at Duquesne who is, and trust his judgment, and then I've got to have a feel for how the market will embrace the change he's describing. But we did make a big move into biotech. I could sense that there was a potential leadership change just because of the phobia around AI. And, I knew because I've been on the board of Memorial Sloan-Kettering for 30 years, that probably the best use case out there of AI is biotech through drug discovery, diagnostics, monitoring everything. So, biotech had been on its butt for like four years. I also grew up with technical analysis and you could see the momentum changing. So, that was the theory behind biotech. But honestly, when the analysts start talking about genetic sequencing and gene editing and proteins, it's going right over Stan's head. But I get their level of enthusiasm. We have a very good biotech team. That's really important because I trust them, and when they're really enthusiastic, that's as important to me as the actual facts, because I'm not smart enough to understand a lot of the actual facts.

Bouzali: So you filter not just the data, but the people that work for you.

Druckenmiller: Yeah. My advantage is not IQ, it's trigger pulling. I admit it’s some kind of intelligence. But my mother-in-law says I'm an idiot savant. I wasn't in the top 10% of my class. A lot of people think I'm smarter than I am because I'm good at our business. But I have a very narrow form of intelligence that allows me to love and play this game.

Bouzali: I know many people who would love to get inside your head and understand your mental models. You spoke to us about your way of thinking, and I have a really honest, basic question: How much of it can be taught and how much of it is innate?

Druckenmiller: Look, I, I was given a gift. I don't know why I was given the gift, but I have this gift and it's for compounding money. Certainly part of is innate. You either have the skill set for this business or you don't. Having said that, I had a great mentor in Pittsburgh when I started out and I find it very common that great investors have incredible mentors. So to me, it's a necessary condition that you have sort of this innate skill set or gift, but it's almost a necessary condition on top of it that you have a mentor. I'm sure there's some people out there that that's not true of, but for me, it was a combination. I was very lucky to have two mentors. One, I basically learned all the kind of stuff we're talking about. And then Soros. It's funny, when I went there, I thought I would learn what makes the yen and the market go up and move. Immodestly, I learned I knew much more about that than he did. What I learned from him was sizing. It's not whether you're right or wrong, it's how much you make when you're right and how much you lose when you're wrong. And that was a, that was an invaluable lesson. So, you can have something innate, but if you don't have mentors and people to teach you, you're not going to maximize it as much as you do when you do have them.

Bouzali: Should we turn to markets?

Druckenmiller: Do we have to?

Bouzali: Oh, it seems to be almost obligatory with you.

Druckenmiller: Okay.

Bouzali: So, when it comes to markets, it seems to me you treat them less like forecasts and more like systems that kind of reveal themselves. So, let's pretend you don't have a hedge fund, and you come down from Mars and you have to start a portfolio from scratch. How do you anchor it at this moment in time? What do you buy first?

Druckenmiller: That's a hard question. Just a couple principles before I would start. It appears to me the U.S. economy is already strong, and it's going to get much stronger because we're looking at the Big Beautiful Bill, looking at a lot of stimulus. My guess is the Fed is certainly not going to hike and probably going to cut. So that's a backdrop. But against that backdrop, that would be wonderful if we were undervalued. We're not undervalued. We're toward the top of the valuation range, historically. What would be exciting about developing a hedge fund portfolio right now is the one thing I'm sure of—is there's massive disruption and massive change ahead. So actually, for the opportunity to set for the next 3 or 4 years, I'm really excited. Macro has been dead for 10 or 15 years. I don't think that's the case anymore. But if you know anything about me, I tend to change my mind every three weeks. But given the backdrop, we would probably be long, more an eclectic basket of equities. For until the fall of the last three years, our portfolio is very much AI driven. We still have drips and drabs of AI around, but it's not driving the engine anymore to some extent. We still have big positions in Japan and Korea. Some of them are AI. Some of them are not. We're bearish on the US dollar, mainly because sort of the top of the historic range in terms of purchasing power and foreigners are way, way overloaded in dollars. And I don't know whether it's like a sell America trade because it's more like if they don't buy American assets on a net basis because of the trade balance and because of the position, the dollar will go down on its own. And we think that is the most likely course here. And we own copper. It's not a genius trade. It's a big consensus trade. There's no supply coming on, meaningful supply very tight for the next eight years. And obviously you have a big add on from AI and data centers. We're not long on copper equities as much as we are, we just keep rolling the front end. We have some gold. That's mainly a geopolitical trade. It's not so much a monetary trade. And then because we're long all these risk assets I just mentioned, we're short bonds. I don't necessarily expect to make money short bonds. But I think we might make a lot if I'm right on the economy and it's a disinflationary growth, I'd probably break even, and I don't lose anything, but it allows me to hold the other assets I mentioned. If I'm wrong and the strong growth creates inflation—it wouldn't be that unusual if the Fed were to cut into a booming economy for inflation to take off, particularly with what's going on with commodities. So I'm open minded to that. But we create a matrix and the bonds are helpful in both ways.

Bouzali: The equity market has changed a lot over the past decade. And you have all these new types of capital, whether it's multi-strategy hedge funds, retail investors, systematic players, ETFs. How has that changed the time horizon that you feel you have edge versus, let's say, ten years ago? Are you more comfortable with the one-week, the one-month, the one-year trade? Or maybe it's not prescriptive. How do you think about that?

Druckenmiller: Most trades I put on, I think in terms of 18 months to three years, that's how long I think they're probably going to evolve. Not every trade. You know, some are a year, some are five years. But I will admit that I've put on a three-year trade that five days later I'm out of and I've reversed. But, if you're talking about how I conceptualize it, all this noise about how much the system in the market has changed, that has not changed what I just said at all. And, the violence that creates is more useful for entry points if it goes against what my belief over the given time frame is. So, I think it's a lot of noise that makes my life annoying, because I'd rather just have nice, calm markets that move in a direction. But also, it creates opportunities and you have to use the volatility as opposed to being abused by the volatility other than mentally, which I'm going to be. But I mean, you can't let yourself be a victim of volatility and you can take advantage of it. It's just hard mentally.

Bouzali: But you said, I'd rather have trending markets. Fair. Am I wrong in sometimes thinking you're more comfortable being contrarian? Or do you embrace the consensus more? How do you think about that?

Druckenmiller: I think contrarianism is overrated. Soros used to say the crowd's right 80% of the time. You just can't be caught in the other 20% because you can get your head handed to you. I get some intellectual satisfaction out of playing in the 20%, but as a concept, I think contrarianism is overrated. I do like it when I have extreme conviction and no one else believes it. It gives me even more conviction. I don't care if a trade is crowded, if I think the thesis is right and the trend is with me. I mean, for entry points I care, but I don't really care in terms of the investment. It doesn't bother me.

Bouzali: We had an investor zoom call in December 2022, and we were discussing macro, rates, dollar, US versus the rest of the world. And after we spoke a little bit, I asked you what you think on rates. And I will quote essentially verbatim what you said. You said I couldn't care less about rates—the only thing that matters is AI and Nvidia.

Druckenmiller: I don't remember that, but that's nice.

Bouzali: What was going on? How did you see it?

Druckenmiller: So, the Nvidia story is quite interesting and it's a perfect example of the process we spoke about earlier, where I rely on other people. So, I have some young superstars in my firm. And they had a network and they started really talking about AI. This was in early- to mid-‘22, and then I started noticing that the kids at Stanford were shifting from crypto, 50/50 crypto and 50/50 AI to more going to AI. And that's something we've always looked at in venture is where the kids are going. When we bought Palantir in ‘08, ‘09, it was because that was a cool company back then that all the kids wanted to go to. So, my partner had in people from his AI network in there in Palo Alto. They came in and explained AI. Most of it went over my head, but I knew that this was really big.

Bouzali: Why did you feel it was really big? It could have been a fad. You didn't feel this way for other fads.

Druckenmiller: Because I had total trust in my partner, and I thought I was grasping the enormity. It turns out I wasn't grasping the enormity because I didn't know about large language models, but I knew about all the other conventional stuff that was going on in AI. So, I said to my partner, what should I buy? He said Nvidia—that's the way to play AI. So just on this, about as much as you just heard, I bought a not-big position in Nvidia, but enough to get hurt on or to make some money on. And then about two weeks later, ChatGPT happened, which had not mentioned in our conversation. Well, even I understood, okay, the enormity of what that meant when I saw even the rudimentary things it was doing back then. So, then I doubled the position. And then one of the great services you and Morgan Stanley provide are these macro calls and, um, all the macro guys, including myself, luckily I hadn't talked yet, were espousing their views on the world—which are probably worth a nickel and a cup of coffee—and an analyst there who was from the tech world said, ‘You guys are in the trees and you're missing the forest. There's something much bigger than anything you're talking about, even for macro.’ And, he went on to amplify everything I had heard three weeks ago or four weeks ago about AI. But this time I had ChatGPT between that conversation and him. So, then I doubled my position again. And literally, I don't think I knew how to spell Nvidia three months before and when the stock took off, I knew through years of experience, when you have massive, massive change, investors just can't make themselves keep up with it. And it was funny because the person who knew ten times more than anybody at the table and probably 50 times more than me about AI, he sold his Nvidia shortly thereafter. But I knew that this stock would go up for at least 2 or 3 years and go up a lot. And I said publicly in an interview about five months later, as, I cannot possibly see myself selling Nvidia over the next 2 or 3 years because it had already gone from like 150 to 390. And this person couldn't believe I still owned it. And I basically said, not only do I own it, the way these things evolve, this stock can't not go up for at least three years. So then the stock goes to 800 and I violated everything I said in the interview. I couldn't stand success. I'd gone from 150 to 800. I was long term in it. I couldn't deal with it, and I sold it. And then it was 1,400 like five weeks later and I was sick. But, um, it's amazing how little I knew about Nvidia. I couldn't even tell you what the earnings were.

Bouzali: It's a sign of confidence, and it's because you're Stan Druckenmiller that you can be so blatantly honest about the way you think about these things, and I think it's very encouraging to portfolio managers that are coming up in the business, and they often feel like they need to be intellectually, very much on their game constantly. What I'm getting from this, the ability to filter, to manage, instead of being wedded to a spreadsheet is really unique and quite helpful. You said something, that you violated what you had said and sold at 800. Would you have done that 20 years ago? Is this a sign of a more mature way of trading now versus before?

Druckenmiller: Probably not. I'm not used to making six times for my money in an equity in two years, and I'm not Warren Buffett. I think I would have screwed it up 20 years ago when I was good too.

Bouzali: What are some things—if there are some things that you have unlearned over the past 20, 30 years or you had to unlearn?

Druckenmiller: I don't unlearn anything because scars are something I always keep in mind because they can help you out. But I will say through a bunch of circumstances that I won't repeat, I was promoted way too early. I was made an analyst when I was 23, and I was made sort of the head portfolio guy by the time I was 26 and I didn't go to business school, so I never learned all the fundamentals I needed to learn to, in terms of analysis. So, I relied heavily—and my mentor was really into it, and back then nobody was doing it—on technical analysis and I learned all the intricate details of it. Okay. I can unequivocally tell you that technical analysis is about 20% as effective today as it was then, because no one was using it. But when everybody is using it, it doesn't work anymore because you don't have a unique thing to act against. So, it's kind of sad because it's easy and you can be lazy. You don't have to work that hard. You just look at a chart instead of going into a 10Q and all this other stuff. But technical analysis is a problem. In the same vein, price versus heat news was huge for me for 20 or 30 years, and if you had great news and a stock wasn't responding to the news, 90% of the time the news was coming, that was bad. Unfortunately, around 2000, a lot of smart people started coming into our business. I was the only one in my class, I think, from Bowdoin, that went into the financial industry, because we'd been in a bear market for ten years. Well, then again, every wise guy learned what I'm just talking about, so it doesn't work anymore. So back then, the company reported horrible earnings, opened down in the aftermarket and then was up 10% the next day, almost guaranteed to be higher six months later. That's not true anymore because everybody else has learned that. So those would be the two big things. I haven't unlearned them, but I don't rely on them to the extent that I used to.

Bouzali: They've been loved to death, basically. Are there any other signals that have been elevated in importance then, conversely to signals that have been diminished?

Druckenmiller: Not really. There's no silver bullet. And I'm the great beneficiary of 40 years of scars and successes that I can go back on, and a lot of pattern recognition, because there's not much I haven't seen in this business. I'd say the biggest disappointment in my career has been, I think I have more wisdom, and I have more tools of the trade than I had in my 30s and 40s, and I was a much better portfolio manager then because back then I had courage. I would take bigger convicted positions. I'm trying to regain some of my nerve just because it's more fun.

Bouzali: So you're chickening out?

Druckenmiller: Oh for sure. I've been chickening out for a long time. I'm Mr. TACO, except it's not T, it's DACO. Druck Always Chickens Out.

Bouzali: In terms of other maybe experiences that you've had, or a chip on your shoulder? Do you have a chip on your shoulder that makes you better at this?

Druckenmiller: No, no, I just, um, grew up—my dad and my sisters played games with me all the time. I was just a really sore loser. I love games, but I really hate to lose, so I'm just very driven. It's a sickness. I don't know where it comes from, but I might as well channel it and make it productive instead of just a disease because it is a little bit unseemly. But it's who I am.

Bouzali: Embrace it. Finally, this show is called Hard Lessons. Can you look back in your life or career and maybe take us through something that you had to learn the hard way?

Druckenmiller: Let me just say, I have so many scars. You can't believe it. Everyone knows how I played the Nasdaq melt up in ‘99. Sold it perfectly in January and then bought the exact top. And someone says, what did you learn from that? I said nothing, I learned not to do that 20 years before, but I got emotional, which I fight every day. I would literally like throw up like once or twice a week, just from anxiety when I'd have a drawdown and so forth. And at some point in my career, I learned that you're going to continue to make mistakes, you're going to continue to get emotional, you're going to continue to have that happen from now and then. But you've got a gift. And just stop torturing yourself for like 48 hours or maybe longer over this because you've been doing this long enough and the record is there long enough that it's no longer like random accident, which I did not believe for like 15 years. So, the hard lessons have been like hundreds of mistakes, but that they're just a moment in time. And when you have these drawdowns and if there's money managers listening to this and you're good, it's easier said than done. Just get over it and move on.

Bouzali:So Stan Druckenmiller had imposter syndrome for 15 years?

Druckenmiller: Yes. Maybe longer.

Bouzali: Wow.

Druckenmiller: Maybe longer.

Bouzali: Incredible. As we're finishing. I want to say thank you for being here. I got to know you later in your career, and it's just been fascinating to see you think and trade—to see you in action. You've been very generous with your time, and on behalf of Morgan Stanley, thank you very much.

Druckenmiller: As I said in the beginning, I wouldn't do this for many. And I think the world of Morgan Stanley, so it was delightful to be here.

Bouzali: Thank you. Stan.

Druckenmiller: Thanks, Iliana.

Narrator:  You’ve been watching Hard Lessons, an original series from Morgan Stanley. For bonus content from Stan Druckenmiller and to listen to the extended audio version of this podcast, visit MorganStanley.com/HardLessons.

Jon Gray: I remember going to see investors and distinctly one of our state pension funds in the meeting, telling them about one of the write downs. And I just remember that awful feeling leaving that meeting, going back to the airport and being like, wow, I cannot let this person down. This is not good.

Narrator: From Morgan Stanley, this is Hard Lessons where iconic investors reveal the critical moments that have shaped who they are today. You'll hear about two out of consensus calls: one that was on the money and one that… wasn't. Today on the show. Jon Gray, president and chief operating officer of Blackstone with Dan Simkowitz, co-president of Morgan Stanley. Jon stepped into his current role in 2018, and since then, Blackstone's assets under management have nearly tripled to over $1.2 trillion.

Dan Simkowitz: Well, it's so, so good to have you here. It's fantastic. You know, I'd say 30 years ago our industry was so private, frankly so small. So, I think it's a little inspiring what you're doing around marketing for financial services. But you know, when we led the Blackstone IPO, you were $88 Billion of AUM. Now you're over $1 trillion. The organization is bigger and more complex. You've built both a world class client service organization, but at the core of it is just incredible investment, discipline and performance. And so Jon, we're going to talk about two out of consensus investment decisions. Set the scene for one of the winners.

Jon Gray: Always better to talk about the winners, although you learn more from the losers. Right around 2007 we bought Hilton Hotels. I led that investment. It was a $26 billion investment, and I was, um, excited because this was an obviously iconic company that owned some incredible real estate like the Waldorf, had a timeshare business and then had this unbelievable management franchise business: Hilton and Hampton Inn and DoubleTree, Conrad, Hilton Gardens, all of that. And it was at a time when the market was pretty frothy because it was before the financial crisis. You remember people were borrowing a lot to buy homes. They were borrowing a lot in leveraged lending in the corporate world. They were borrowing a lot in commercial real estate. Prices were elevated, and I thought we had found something—an operating business with some real estate inside that we could buy at a reasonable price. Now, we paid a big premium, 40% over the stock market at the time, and we bought the business $26 billion. We borrowed $20 billion. It was a different era.

Dan Simkowitz: How did that feel?

Jon Gray: Well, at the time, there was so much leverage in the system, it was…

Dan Simkowitz: But you had never borrowed $20 billion before?

Jon Gray: No. Well, except that we had bought EOP. We had bought the largest office business, and that was a $39 billion deal, and we had been on this run buying public companies, because at the time I was running real estate and we were able to buy the businesses on the screen much more cheaply than we could be when we were bidding for individual properties. And so we started scaling way up. But in this case, we took on a business with some volatility, hotels, and put a lot of leverage on it. And we took money from our private equity business and our real estate private equity business, $5.6 billion of equity, the largest investment we'd ever made at the time as a firm. And we bet on this. And we closed the deal in the fall of ‘07. Terrible timing. And by all accounts, I should not be sitting here with you, Dan. They should have carried me out. And it looked that way. Because if you recall, the financial markets really tighten up and the real economy goes down. And this business, Hilton loses 20% of its revenue and 40% of its cash flow. And we've leveraged it up a bunch. We write down the investment by 71%.

Dan Simkowitz: So you actually took the action to write it down.

Jon Gray: We took the action to write it down because it was clearly very impaired. And I remember going to see investors, and I remember distinctly one of our state pension funds in the meeting, telling them about one of the write downs. And the investor was almost physically ill, which is understandable, because he had a very large investment with us. And I just remember that awful feeling leaving that meeting, going back to the airport and being like, wow, I cannot let this person down. This is not good. And I think fortunately, maybe because of my core optimism, but also my belief in the underlying business, I didn't lose faith. We also had an amazing management team led by Chris Nassetta, who's still the CEO of Hilton. I'm still the chairman 18 years later, it's pretty amazing.

Dan Simkowitz: That's a rarity.

Jon Gray: A rarity, yes…We got through this. Now, how did we do it? We ended up putting in an extra $800 million to help deleverage the company and get some additional term on the debt. The management team did an amazing job. They kept growing the business, particularly outside the United States. And then ultimately the world started coming back. People started traveling again. The business was performing. We went public. A few years later, you guys were involved in that as well. We ended up, you know, splitting into three companies: a timeshare business and owned real estate business and a management franchise business. We sold some individual assets, and then we sold our stock, and we ended up making $14 billion—the most profitable real estate private equity deal of all time.

And the movie should not have been written. It should have looked completely different. And so it makes you think a lot. What are my takeaways as an investor? And and I would say the biggest ones are, 1) You got to stay calm.

Dan Simkowitz: Stay positive. You never give up.

Jon Gray: Never give up. That's what I say every Monday on on our BXTV. It's what I say to my daughters. But the most important thing on Hilton was that what I learned as an investor was maybe I spend too much time thinking about whether I should pay $99 or $101 and so forth, and maybe what matters more is sort of the neighborhood I'm investing in. The underlying tailwinds, in this case, global travel, the quality of the business, in that case, a capital light, fast growing franchise management business, as well as the quality of the management team. And if you can get those things right, even if you made a really poorly timed investment and paid a big premium, it can still turn out okay. And so when I think about today, we're investing into digital and energy infrastructure, or in India or in life sciences or areas where we have really high conviction. That to me comes from this experience, which was why did this turn out? Well, it should not have turned out well. And so, the lesson of let's try to find the right neighborhoods to deploy capital that has really stuck with me.

Dan Simkowitz: It's interesting because we're such great partners, our two firms, partly because in the last 15 years we got intensely dedicated on just helping clients allocate capital, but we needed to be bigger and a little different. So we bought Smith Barney, bought E-Trade, bought Eaton Vance, you know, all these, these acquisitions, but they're all around a neighborhood we loved.

Dan Simkowitz: Having a partner. So in your case, you had Chris, but presuming you also had your own team, you know, how important is that? Especially when it's really dark. How important was that?

Jon Gray: On a deal like Hilton? Super important. I would say having business colleagues who still believe in you. First of all, you guys have done an amazing job because also you've got a great culture and you have all these capabilities, both serving individual investors and obviously as an investment and commercial bank providing capital. And, and that ability to show up as a partner, even in the bad times, having people who still say, yeah, we've got to find the way out through this thicket, that's really important. And I would add a personal element to this. Having a wife and children and people you can go home to who still believe in you, even when the world doesn't, that matters. And I'll just give you a sense of how dark it felt. Um, in early ‘09, the company had an employee who had taken some documents from a competitor. The company had found out sent him back. Nevertheless, there was a federal investigation. There was a big article in the Wall Street Journal, and I was talking with Chris Nassetta, and I called him and it was March, yeah, it was probably March of ‘09. We'd written the investment way down. We had this investigation in the headlines, and I said, Chris, the good news is it cannot possibly get any worse. But the fact that I had him, I had my family, I had colleagues, and ultimately that this was a terrific business, that what we faced was cyclical, not secular in nature. That made a huge difference.

Dan Simkowitz: So now it's one of the greatest private equity deals of all time. But in the darkest days, it was hard. What's the one big, hard lesson coming out of Hilton?

Jon Gray: Well, I think the hard lesson was…You don't want to put that much leverage, even on a great business, because the key is you've got to be able to get to the other side. When you own a great business, great piece of real estate or infrastructure, ultimately it will, it'll compound or grow. And the problem is people get stopped out. In the trading world, it's margin debt. It could be leveraged lending in the corporate world or real estate debt. And if you have too much, put so much pressure, you may be forced to sell, dilute your ownership at exactly the wrong moment. So the good lesson was: focus on great businesses, great neighborhoods and stay calm. But the hard lesson is don't put yourself in such a precarious position that if the weather outside gets tough, you're at risk of losing things.

Dan Simkowitz: So this one worked out perfectly in the end.

Jon Gray: Yes.

Dan Simkowitz: EOP worked out great. These are ‘07 vintage deals right before the crash. Give us one that didn't work out so well.

Jon Gray: One of the toughest lessons for me happened in the late ‘90s during the dotcom boom. I joined Blackstone in ‘92. I did M&A in private equity for a year, a year and a half, and then I went into real estate after a crash. And basically for, I don't know, 6 or 7 years, I'm in real estate and things just keep going up and up because you were you had bought things very cheaply. Interest rates were reasonable. There wasn't too much building. And when you buy everything and it goes up, it doesn't really train you to be a great investor, right? It's the experience. It's these hard lessons that make all the difference. And sort of the top of that was in the late ‘90s, I was really focused on Northern California because you were seeing the innovation. We were moving on to the internet and so forth. And what happened was I bought a building on North First Street in San Jose, a nondescript two story, and these were really crummy assets. They were crossed between office buildings and warehouses. They weren't worth very much physically, and we paid a big price for them because they had a tenant paying a huge rent, and instead of buying it at a 7 or 8% yield, I was buying it at 11% or 12%. I thought this was amazing. What I failed to notice was the major tenant was Gobosh.com

Dan Simkowitz: What does Gobosh mean?

Jon Gray: Gobosh means go big or stay home dotcom.

Dan Simkowitz: Oh God.

Jon Gray: I'm sure that you know, this company, unfortunately didn't last very long. I should have stayed home, because by March of 2000, you know, the dotcom bubble blows and this tenant disappears. And, I should have recognized we were paying well over physical replacement cost. The quality here was poor, and the tenant didn't have much in the way of revenue. It had very few people in the space, and in my enthusiasm of what had come before it, I sort of lost sight of that. Now, we ended up getting a letter of credit. I think we got about a third of our money back, but it was really the first time I experienced financial loss in an investment. And I don't know, we lost $20 or $25 million, but it was embarrassing to tell your investors, to tell your colleagues and to look at it after the fact. It was like, oh my gosh, how stupid could I be? Why would I have paid that price for this? And there, it's a little bit of the danger of the mania of crowds, right? Where things were going so great that in that moment in time, we became disconnected from fundamental value.

Dan Simkowitz: And did someone come to you in that instance because you're not as senior as you were in ‘07 and say, you know, Jon, these are the lessons that have to happen and hang in there, or did you have to learn that yourself?

Jon Gray: I think that we all sort of talked about it. It was pretty clear after the dotcom bubble burst, it was pretty clear to look back and say, gosh, when companies are trading at hundreds of times revenue, they're not making any money, the business model isn't viable. This was way too speculative. And what's interesting is I know today there's a lot of are we in the same kind of environment? The only thing I would say is it feels very different to me. I mean, back then, as you know, Cisco, I think was the biggest company they traded at 130 times earnings. Nvidia, the biggest company today I think is less than 30 times earnings. And so, I don't think we're in that kind of time. Now, if this runs for five more years and people think trees grow to the skies, that's always a risk. But I think as an investor, again, when you go through those experiences, it reminds you to question yourself that the danger is sort of the winning hand thing, that you keep doubling down, you keep doubling down because it's working. But at some point, the prices move too far, the assumptions move too far, and just because something's worked for a long period of time doesn't mean that's going to continue.

Dan Simkowitz: Blackstone probably has great people joining all the time, but if they've joined since 2010, yeah, away from the Covid period, which is, you know, pretty V-shaped, they may not have experienced the same challenge that you did. How important is it to go through one of these drawdowns or real hard lessons?

Jon Gray: I think you learn so much more because when you have success, what it teaches you, you’re a genius, right? Like you buy something, it goes up, it doubles in value. Look how smart. You don't even think about it. It's when something goes wrong that you sit down and say, why did that happen? Like, what did I lose sight of in fundamental value? What did I miss about this business? Shouldn't I have known that? And you tend to really dwell on it and it makes you better. And then you begin to have pattern recognition. You begin then as you get more senior to say, oh, I've seen this before. And so the danger, of course, is when people get burned sometimes they have a hard time going back. Right. And so they bought an asset at 100. It now trades at 40. And they're like oh no no I'm still scared. But you're like wait, wait. The risk is much lower. And as you know, the psychology is people are more enthusiastic investing as the prices go up, is people perceive risk is lower. And one of the good things I think about the current environment is there's so much negativity. Everybody there's a bubble in private credit, there's a bubble in AI, there's a bubble in the stock market. In some ways, that sort of caution that lingers over everything is helpful to stop things from getting out of hand.

Dan Simkowitz: Jon, these are incredible investment perspectives. But if you think about your career, your adult life, what's the hardest situation or lesson that you've faced?

Jon Gray: Well, I would say certainly in my career, was what happened this summer. We lost an amazing colleague in Wesley LePatner. We had a horrific shooting at our building. Um, random act of violence. And, um, you know, to lose somebody who was an amazing professional, but an even better human being, mother, wife, daughter, great mentor to so many of our people. And then, you know, to have your people go through the trauma of one of these mass shootings, that was really hard because there's not really a playbook. It's not like an investment thing. Oh, here's what we're going to do. And the only thing you could do is sort of express your humanity. Try to give people support, mental health support. Do all sorts of things bringing people together and then honor Wesley's legacy, which I think is really important. So for me, that was that was the toughest moment, I would say, certainly in my career, because it went well beyond financial into the human. And, um, hopefully you never endure anything like that again.

Dan Simkowitz: That's very tough.

Jon Gray: But the really important thing, again, is to connect with people. And the the thing about our firm, I felt has always been special. It's always run like a small business. And we can emphasize over and over again the importance of delivering for our clients, the performance that we operate with integrity. But if you think about an investment organization or financial services company, at its core is the culture of the place, and that's what we're desperately trying to hold on to.

Dan Simkowitz: Jon, that was incredible. Amazing lessons. Thank you for the partnership. We really appreciate it. It was fun.

Jon Gray: Dan, it was great. Thank you, thank you, Morgan Stanley, great partnership as well. Thank you.

Narrator: You've been watching Hard Lessons, an original series from Morgan Stanley. You can listen to an extended audio version of this episode on Apple, Spotify, or wherever you get your podcasts. For more information about the series, visit MorganStanley.com/Hard Lessons.