John Paulson: The Man Who Bet Against the World and Won

One of the hardest things to do in life is to make a choice and go down a certain path when everyone else chooses the other way. Being left out of the group is so looked down upon that it even has its own acronym, “FOMO”: fear of missing out.

John Alfred Paulson has the complete opposite mindset, supported by the fact that he basically bet against the world, and won.

Born in 1955 in Queens, New York, Paulson had a knack for finance and money. Thus, he got into NYU Stern. From there, he worked incredibly hard, earning himself valedictorian and summa cum laude – both very prestigious awards. Next, this financial god earned himself a scholarship from J.P. Morgan while attending Harvard Business School (one of the most prestigious business schools in the country) and graduated in the top 5% of his class. Now, from here, you can tell that this man John Paulson is legitimately on a different level. But somehow, someway, the story just gets a lot better.

After graduating from Harvard Business School, Paulson became a consultant, but he didn’t like that so much, so he transitioned to Wall Street (Bear Stearns), specializing in mergers and acquisitions – a highly lucrative field.

But, as most ultra-successful people do, he then made his own company: “Paulson & Co.” He only started off with 1 employee and 2 million dollars to invest, but using his knowledge from Bear Stearns, he was great at M&A. More specifically, he was great at minimizing downside risk while being able to seek out large-scale upside. In other words, he has the keys to investing.

Now, we are going to skip to the time point in his life when things really started heating up.

In the early-to-mid 2000s, many individuals started buying homes, but since they couldn’t afford the complete home, they would take out a loan from the bank. Because of low rates and rising home costs, banks had the bright idea of turning these mortgages into items called mortgage-backed securities (MBS), where they would pool mortgages together and investors could invest in them. These MBS were split into groups called tranches. The top-tier (AAA) tranches were paid first, while the lowest-tier (BBB) tranches took losses first if homeowners defaulted. Banks packed together BBB tranches into CDOs (collateralized debt obligations), meaning they would get paid last and lose huge amounts of money if homeowners defaulted (couldn’t pay back their mortgage). Then, firms like S&P and Moody’s actually rated these investments safe and low risk – which is completely untrue. Rating agency risk models assumed national housing prices would always rise or plateau, ignoring the possibility of a nationwide housing collapse.

So how did Paulson get an edge in all of this, and what did he do?

Instead of just looking at the national averages or rating agency recommendations, Paulson and his team really dug deep into the macro-level analysis of mortgages.

Then, there were these things called CDS – credit default swaps – and they enabled Paulson to become extremely wealthy. How it worked was that you bought these swaps and paid a premium of 1–2%. If housing stayed strong, his losses maxed out at the premium’s cost, but if housing toppled, the banks or whoever issued the CDS had to pay 100% of their value. He had a huge upside and extremely low downside – which, as we talked about earlier, is what he specialized in.

Then, as we all know, in late 2006 and 2007 many people who took out loans couldn’t pay them back – they defaulted on their loans, making those BBB tranches worthless but his CDS priceless. In 2007 his firm made 15 BILLION dollars, and he personally made nearly 4 billion. Most investors don’t even make that in a lifetime, and he made that in just one year of investing, truly showing his financial prowess.

To me, this is such a great investment not only because he made so much money on one trade, but because he went against the entire market and even the world in betting that the market would crash. Everyone said it wouldn’t, but it did and he called it. You’ve got to give him props for that.

This trade became his most well-known and biggest, but he goes far beyond finance: he does plenty of philanthropy. He may have even learned from Andrew Carnegie in “The Gospel of Wealth” that when you’re wealthy, it is important to give back to the less fortunate in order to provide them with the keys to success – things like libraries and education. He knows that you don’t want to just give money to poor people; you should invest it in the educational system for poor people.

He has donated to countless universities, including Harvard ($400 million), Hebrew University ($250 million) and NYU, and he even gave $100 million to Central Park.

Ultimately, he is a mentor for me not just because of his spectacular investments and his ability to trust his instincts and go against everyone else when he knew he was right, but because when God blessed him with money, he made sure to bless the less fortunate.