The Man Who Won as Others Lost

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October 13, 2007

Paul Tudor Jones II leans back in his chair and grins. The stock market is going to crash, and he knows it. “There will be some type of a decline, without a question, in the next 10, 20 months,” he says in his rich Memphis drawl. “And it will be earth-shaking; it will be saber-rattling.”

Coming from a financial speculator as prominent as Mr. Jones, a man with about $19 billion of short-term trading capital at his disposal, the words might be enough to send ripples through a stock market that, apparently defying logic, has been hitting new highs each day.

Except that the crash to which Mr. Jones refers occurred Oct. 19, 1987. His prognostication — brazen, and as impudent as the man himself — was made in a documentary called “Trader,” which was filmed in the year preceding that day.

Now, 20 years after the 508-point decline, several strategists are anticipating that the earth will shake again. Valuations are stretched beyond historical comparisons. The market, ever more volatile, is reaching new highs, ignoring a buildup of bad news. Most crucially, the strategists say, the sentiment that the market’s rise is infinite seems to have taken permanent hold.

“The overvaluation of stocks is more extreme than the 1929 high,” said Robert R. Prechter Jr., an independent market forecaster in Gainesville, Ga., and a well-known follower of Elliott Wave theory, which examines the extent to which investor psychology creates stock market patterns. “Which tells me the next bear market will be the biggest in many years, probably since 1929-32.”

At the end of the day Oct. 19, 1987, stocks were down 22 percent — precisely the “Acapulco cliff dive” predicted by Mr. Jones in the video. The day ruined the careers of many, but it made the reputations of Mr. Jones and Mr. Prechter, whose professional relationship dates to the mid-1980s.

In the video, Mr. Jones can be seen huddled over a graph, comparing the market’s peak in 1987 with a previous high in 1929.

As Elliott Wave theory would have it, the two market tops may have been 60 years apart but the herdlike exuberance of investors pushing stocks ever upward was the same. On Oct. 5, 1987, Mr. Prechter, then and now the best-known proponent of the theory, told his subscribers to sell.

While the rest of Wall Street counted its losses, Mr. Jones, at age 32, returned 200 percent for his investors that year and drew a payday of an estimated $100 million for the year, an almost unheard-of sum at the time.

No one, including Mr. Prechter himself, claims that Mr. Jones relied solely on Mr. Prechter’s call. Indeed, in the video Mr. Jones can be seen as early as 1986 making a case that the market would fall. But the crash did not last long. Prices rebounded the next day, and within two years, the market had regained all that it had lost that day.

Now, Mr. Prechter is suggesting that the country is facing not just a market crash, but also a depression. On every measure, he says, the market is more overvalued than it was in 1987 before the reversal. The price-to-book ratio of the S.&. P 500-stock index today is 4.04, compared with 1.73 in 1987. And measures of the bullishness of Wall Street traders confirm Mr. Prechter’s assessment of the overvaluation.

To be sure, the one feature of every long-running bull market is the small clutch of market pessimists whose clamor that the end is nigh seems to rise in pitch with each successive peak.

But Mr. Prechter’s gloominess may resonate, especially in light of Mr. Jones’s high regard for him. “Prechter is the best because he is the ultimate market opportunist,” Mr. Jones said in the book “Market Wizards,” a collection of interviews with successful traders compiled by Jack D. Schwager.

That is not to say that Mr. Prechter has any undue sway over Mr. Jones, who since he started Tudor Investment in 1986 has generated a return of 26 percent a year and has seen his assets grow from $125 million to $19 billion. Indeed, Mr. Prechter’s relentless bearishness has not made him a favorite of bullish hedge fund managers.

At a time when hedge fund trading is dominated by computer trading programs and traders with Ph.D.’s, Mr. Jones, who got his start trading bales of cotton on the New York Cotton Exchange, is of the older style, relying on intuition, market smarts and the force of his personality. A macro trader, he is known for making big sweeping bets on the direction of stock exchange indexes, commodities and currencies.

As for his view on the market, Mr. Jones declined to comment for this article. Over the last 17 years, he has rarely publicly expressed an opinion about stocks, bonds or currencies — a reflection of his influence as a trader.

This summer, his funds were hit by the credit crisis and lost 5 percent in August. Through September, Mr. Jones is barely ahead, up 2.5 percent, and he could end up having his worst year in more than a decade.

“He has had a tough time lately,” said Byron R. Wien, a friend of Mr. Jones and a strategist at Pequot Capital Management, a rival hedge fund. “But he is a talent. You go through cold periods, but you don’t lose it.”

It happens to every fund manager, the spell when the magic touch disappears. And although all the top traders preach the discipline of not letting your losses get to you, the video suggests that even the best feel the almost physical pain of trading defeats.

In one scene, Mr. Jones, his knee jiggling with such violence that his tie sways, is shown losing $6 million in one day, in December 1986. It was a big loss, given that he had only $125 million under management at the time. “This is what is known as the agony,” he says, slumping in his chair. “This is devastating. An intellectual blow.” He stops talking. He looks distant and distracted. “I hate it.”

Mr. Prechter, who keeps in touch with Mr. Jones through e-mail and the occasional phone call, says that Mr. Jones, his recent rough stretch notwithstanding, is best placed to survive a crash.

“He does not go cold and clammy,” Mr. Prechter said. He does not know if Mr. Jones shares his dark view of the market, though he allows that “Paul is certainly aware of the risk of an extensive bear market” and “is well aware that stocks are vulnerable.”

But don’t expect Mr. Jones to relive his 1987 glory. One investor who has spoken with him in the last week, who asked not to be identified because he is not authorized to speak publicly about Mr. Jones’s investment strategies, said that the recent rate cut had made Mr. Jones increasingly bullish. Indeed, as opposed to 1987, Mr. Jones is said to be reminded of 1998, when cuts by the Federal Reserve led to the stock market boom of the late 1990s. “I have not heard him mention Prechter in a long time,” this investor said.

The 1987 video offers an intriguing window into the everyday life of big-league traders, and it has the feel of a time capsule. Full of swagger and braggadocio, Mr. Jones can be seen skiing in Gstaad, Switzerland, or riding a horse on his estate overlooking the Chesapeake Bay — when he is not screaming out orders to his traders. He comes across as a young Gordon Gekko. Greed was not only good; it was fun.

Although the video was shown on public television in November 1987, very few copies exist. Those that do are hoarded by traders who watch the hourlong movie in the hope of gleaning possible trading tips from Mr. Jones. On the Internet, bids for the video start at $295. According to Michael Glyn, the video’s director, Mr. Jones requested in the 1990s that the documentary be removed from circulation.

It is no surprise that Mr. Jones wants some distance from that version of himself. He was a bit of a cowboy, out to prove he was the best. Now, 20 years later, he sits atop the new hedge fund rich. He is married to a former model from Australia, has a mansion in Greenwich, Conn., and owns a big-game reserve in Tanzania. Forbes estimates his net worth to be $3.3 billion.

On Wall Street, the roles are reversed. Mr. Prechter foresees a return to the Depression; Mr. Jones, who himself said a depression would follow the 1987 crash, may well be fully invested.

“People will be gasping,” Mr. Jones says with glee in the video, referring to the 1987 crash that he was sure would come. “It will be total rock ’n’ roll.”