Philosophy, Reflexivity the Pillars of George Soros’ Investment Success

The man who broke the bank of England. With that for a nickname, it’s not hard to decipher that George Soros is a pretty big deal. The Hungarian-American billionaire is one of the most successful investors in the world, and his portfolio is closely followed by many.

Beyond the stock market, Soros is recognized for his philanthropic efforts. He has made significant donations to numerous causes, including arts education, poverty elimination and the fight against disease. Here’s a look at where the investor has been … and where he may be headed next.

Life and Education

George Soros grew up in a middle-class home in Budapest. His mother owned a silk shop, and his father was a lawyer. Following the conclusion of World War II, the Siege of Budapest and the subsequent political fallout, Soros migrated to England in 1947. There, he worked as a waiter and a railway porter.

By 1954, Soros had earned both a Bachelor of Science and PhD in Philosophy from the London School of Economics. He landed an entry-level position at Singer & Friedlander, a small bank.

Career

In 1956, the billionaire moved to New York City, where he worked at several financial firms and at the same time developed a theory of reflexivity (we’ll get to this later). He spent a decade as a vice president at Arnhold & S. Bleichroeder, in the meantime laying plans for his own firms. Soros Fund Management launched in 1970, followed by the Quantum Fund in 1973.

Soros Fund Management averaged a 20% annual return rate over four decades, with the Quantum Fund experiencing similar success as well. In 2011, Soros closed the Quantum Fund to outsiders, and today, Soros Fund Management is structured as a family office.

Investment Philosophy

Soros is more than a money manager — he’s a philosopher as well. And throughout his career, he’s discussed his theories on how markets work.

Reflexivity and Market Efficiency

One of the very early concepts Soros developed was that of reflexivity, where individual biases enter into market transactions, potentially altering the fundamentals of the economy. The billionaire’s perception of the chaotic, illogical behavior of the market and his understanding of how people affect asset prices have been central to his investment strategy.

Soros has stated several times that the profits he has made are closely linked to his understanding of market reflexivity. If, for example, markets are in the midst of heavily bear or bullish moments, they move towards disequilibrium — meaning conventional theories no longer apply.

One recent example of this is that of the debt and equity housing markets in the United States. In the 1990s, lenders made more money available for people to buy houses. In turn, housing prices increased — thus giving lenders balance sheets showing more loans and more valuable assets as collateral. This was amplified by public policy encouraging home ownership. A vicious circle of lending and price increases ensued, inflating a bubble that popped in 2007.

In Soros’ view, the current financial system is flawed. Despite the gains the billionaire has made, he has always believed in a mixed economy with a strong central international government that corrects the deficiencies, which affect underdeveloped countries more than advanced economies.

Notable Plays

In practice, George Soros’ strategy often entails taking big economic movements and playing out large bets for or against them. Speculation is a central piece of this strategy, as well as a view of chaos in markets.

One of his most memorable moves is tied to currency speculation with the British pound sterling. Soros made a billion-dollar profit by short selling $10 billion worth of British pounds on what has come to be known as Black Wednesday — September 16th, 1992. As the British government proved reluctant to raise interest rates or float its currency, the U.K. was forced to withdraw from the European Exchange Rate Mechanism (ERM) and devalue the pound. Soros’ activities related to the event earned him the moniker “the man who broke the bank of England.”

Soros applied similar tactics in the Asian financial crisis in 1997, which shook countries like Malaysia, Thailand and Hong Kong. Soros made heavy investments in the region in real estate and stocks but completely sold off his holdings just as currencies were about to be devalued.

The billionaire was also quite vocal in the economic crisis that hit the U.S. in 2008 — specifically, with respect to credit default swaps (CDS). In 2009, Soros published a piece on the topic, writing “CDS are toxic instruments whose use ought to be strictly regulated.” Later in the year, he went as far as to insist that credit default swaps should be outlawed entirely. “CDS are instruments of destruction which ought to be outlawed,” he remarked.

Quotes

• It is not whether you are right or wrong that is important, but how much money you make when you are right and how much you lose when you are wrong.
• If investing is entertaining, if you are having fun, you are probably not making any money. Good investing is boring.
• Playing by the rules, one does the best he can, irrespective of the social consequences. Whereas in making the rules, people ought to be concerned with the social consequences and not with their personal interests.

Videos

George Soros Lecture Series: Financial Markets

George Soros: Why We Need to Rethink Economics

Soros: Ukraine Crisis a “Wake-Up Call” for Europe

Learn more about George Soros on his iBillionaire investment profile, and make sure to check out the iBillionaire Index at www.iBillionaireIndex.com.