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  In Sachs’s 1956 musings about how to win investment banking business and its future emerge the first stirrings of a way of doing business—call it this notion of being “long-term greedy”—that would form the bedrock of the Goldman Sachs partnership for the next fifty years, even as it transformed itself into a global behemoth that would be unrecognizable to Sidney Weinberg and Walter Sachs.

  CHAPTER 5

  “WHAT IS INSIDE INFORMATION?”

  On April 1, 1957, when Goldman moved to 20 Broad Street, the New York Times also included a large photograph of the firm’s latest technological acquisition—the previously mentioned telephone-turret trading desk designed especially for the firm by New York Telephone. Essentially, the innovation was little more than a group of bulky, vertical rotary phones with 120 different access lines and the ability—by pushing a button—to tap into the conversations of any of their fellow traders on the desk “for greater flexibility in transacting business.” This was a material innovation at the time. In the picture, thirteen Goldman traders can be seen sitting at their “turrets,” and every one of them has on his suit jacket. Standing behind one of the traders and dressed elegantly in a suit and pocket square, with a tight-collared shirt and a tie bar under the knot of his tie and slicked-back black hair, was Gustave Lehmann Levy, forty-seven years old, and the partner then in charge of the firm’s fledgling trading efforts. The athletic, nearly six-foot-tall Levy was looking particularly patrician that day. Although he was anything but that, there was no mistaking his importance to Goldman Sachs. A year earlier, during one of his “reminiscences” about his banking career, Walter Sachs had described Levy as the firm’s “new brilliant genius” with “a great flair for the security business” and then added that Levy was “the fourth genius in the firm.”

  Despite Levy’s appearance in that cleverly staged photo, there was nothing the slightest bit polished about his upbringing. Born in May 1910 in New Orleans, Levy was the only son of Sigismond, known as Sigmund, Levy, a box manufacturer, and Bella Lehmann Levy. Somehow the fact of Levy’s father being a box manufacturer got transformed over the years. “His father was a middle-class doctor,” was what L. Jay Tenenbaum, who for years worked directly for Levy at Goldman, remembered being told.

  In June 1924, Sigmund Levy died at age forty-seven. Sigmund Levy’s death brought some insurance money to the family, and Bella moved them to Paris, where Gus attended the American School. “She wanted to show the people in New Orleans that the Levys were somebody,” Tenenbaum said when asked why the family moved to Paris. He said Bella was trying to marry off one of the daughters to European royalty, but that did not go so well. She was “sort of an ugly sister to tell you the truth …,” Tenenbaum said. “Gus spent six months going to bars and doing nothing,” which was quickly decided was not best for him. “He was unsupervised and undisciplined,” according to The New Crowd, Judith Ramsey Ehrlich and Barry Rehfeld’s 1989 book about Jewish bankers on Wall Street. “His favorite pastime was skipping off to the racetrack instead of attending school.” In 1927, the family moved back to New Orleans, at least in part so that Levy could attend Tulane University, where he tried out for the football team. But Gus was not much of a student and his mother could not afford the tuition. “His mother was a real flake,” according to Betty Levy Hess, Levy’s daughter. “He had to go to work to support the family. His father had died … and his mother took the kids to Europe and spent all the money.” Levy left Tulane after three months and headed to New York City in 1928 to find work if he could. His mother became a seamstress and lived in the Bronx. Levy lived at the Young Men’s Hebrew Association on Ninety-second Street and Lexington Avenue and was so poor that at one point he stiffed the Y on a two-dollar balance. Tenenbaum remembered Levy always telling him, “I had two dollars in my pocket. That’s all I had, that’s all I had was two dollars and lived at the Y.”

  His first job in New York was as a runner on Wall Street in November 1928. “It was the thing to do in those days,” he told the Times in a 1961 interview. The writer then added the thought—which obviously had come from Levy—“His decision to make Wall Street his career is not too surprising, since he is distantly related to the Lehman family.” (His mother was not, in fact, related to the Lehman Brothers clan.) He started as a runner at Newborg & Company, a small brokerage located on Broadway, but quickly worked his way up to being an assistant in the firm’s arbitrage department as well as a trader. He attended New York University at night but never graduated from there or from any college. He later told a New York Times reporter he was one of the few people not to lose money in the 1929 Crash. “I didn’t have any money to lose,” he said. The 1930 census showed that Bella, Gus, and Rose, his sister, lived in Manhattan and that Gus, age twenty, was a “broker” in “art” and “bronze,” but without any elaboration.

  In 1931, in the aftermath of the Crash, Newborg’s trading department went out of business, and Levy left to join a “two-man shop in Wall Street” named Pringle & Company, where he stayed “for about a year” and worked as a securities trader. He also told the newspaper that this was when he roomed at the Y. “It may be emotion,” Levy said, “but the Y gave me more than a room. It gave me friendship and confidence in myself at a time when I needed it badly.” In 1933, he heard that Goldman—still reeling from the Trading Corporation scandal—was looking for a young trader, a job that paid $27.50 per week, or $1,400 a year. “With a friend’s help,” the Times reported, Levy “landed it.” He began at Goldman on the foreign bond desk and then moved over to the arbitrage desk, working for Edgar Baruc, a cousin of Bernard Baruch, under Walter Sachs, where he contributed a “wealth of ideas” and “added substantial profits to what would have been otherwise very lean years.” His job was to buy and sell foreign securities. “I was known as a foreign arbitrageur,” he explained. The next year, Levy married Janet Wolf, a chorus girl and the daughter of Alec Wolf, a limited partner at Goldman from 1935 to 1945. They had two children, Peter and Betty.

  Walter Sachs put Levy in charge of the firm’s relationships with the New York Stock Exchange as well as its arbitrage business, which the legendary mergers and acquisitions banker at Lazard, Felix Rohatyn, described to Congress in 1969 as a business “age-old in concept and execution [that] represents essentially the hedged short-term investment of funds at fairly high risk with commensurate rewards.”

  According to The New Crowd, “Arbitrage as a form of trading had a long history dating back to medieval times, when Venetian merchants traded interchangeable currencies to profit from price differentials.” Ehrlich and Rehfeld wrote that Levy “led the way from traditional to risk arbitrage,” where “arbs” bought “shares in companies being reorganized or merged into other companies, based on the premise that if the transaction was completed, they would be holding a new stock worth considerably more than their investment. It was not a game for the timid, but the payoffs could be huge.” In his congressional testimony, Rohatyn described how the game was played. “The classic example in present-day markets is the arbitrage of a merger between two publicly traded companies after the exchange values have been announced,” he said. “Theoretically, since one security is soon to be exchanged at a specific ratio for other securities, the two values should be identical but for reasons enumerated later they are not.” Among these reasons, he explained, were “abrupt changes in securities and money markets,” “various warranties and other ‘outs’ in the merger agreement,” “governmental opposition,” and “shareholder opposition.” He continued, “The arbitrageur is willing to take the risk that the transaction will go through and to profit by the difference between the present market and the ultimate realized value.”

  According to Charles Ellis in his book about the firm, by the end of the 1930s, Levy had already made his first million dollars. “Despite a distinctive lisp that complicated the bayou drawl,” Ellis wrote, Levy used his “aptitude for math, extraordinary memory, ability to connect with many, many people, and capacity fo
r long hours of highly concentrated hard work” to get ahead at the firm in the years after the Trading Corporation scandal. With the advent of World War II in Western Europe “and the opportunities in arbitraging of foreign bonds diminished,” the Times wrote, “Mr. Levy became active in arbitraging of railroad reorganization securities and of convertible debentures.”

  While largely profitable, Levy’s focus on trading in risky railroad and utility bonds was not a business with which Sidney Weinberg, or Goldman Sachs for that matter, had much familiarity or interest. Levy “had collected a group of rough-and-tumble entrepreneurial clients that Weinberg thought of as ragtag,” according to former partner Roy Smith. Levy’s bets also required capital—and tied it up for potentially long periods of time—unlike an equity or debt underwriting, which generally used capital only sparingly (during the short period between purchasing the securities from an issuer and then selling them to investors), or advising on a merger or an acquisition, which required no capital whatsoever. Since Goldman’s capital at the time was modest—around $9 million in the early 1950s—and it came from the partners’ wallets, there was necessarily plenty of caution about how and when it was used and for what purposes. This led to a natural tension between Weinberg, the ultimate investment banker, and Levy, the younger, equally ambitious and hardworking trader and arbitrageur. For instance, in an interview Weinberg gave in 1967, he noted that the $100,000 in capital he invested when he became a Goldman partner in early 1927 came from the money he had earned as a banker. “None of it was from trading,” he said. “I never traded.” He then proudly reiterated that he was an “investment banker.”

  Sandy Lewis—a onetime Wall Street arbitrageur and the son of Salim L. “Cy” Lewis, a longtime senior partner at Bear Stearns & Co.—knew Gus Levy from the time he was a child growing up in Park Avenue splendor. Gus Levy and Cy Lewis were very close friends, in large part because they shared many of the same interests, whether playing golf or bridge, supporting Jewish philanthropic causes around New York City, or making money through arbitrage.

  Cy Lewis’s big break at Bear Stearns came after the bombing of Pearl Harbor, when the United States decided the time had come to enter World War II. “The war came and Roosevelt needed to arm the nation and deliver whatever he needed to the factories and then take the product to the ports and get it out of here,” Sandy Lewis said. “He was trying to produce airplanes, tanks, trucks, millions of things. They had to seize the railroads and force traffic over the railroads and make sure that the railroads were working just for the government to move product. You had to make sure you got it when you needed it. This was war. They broke the railroads. They put credit controls on. You couldn’t borrow money.” Cy Lewis noticed that before Roosevelt commandeered the railroads for the war effort, railroad bonds were trading at par because interest payments were still being made. “But, all of a sudden, they can’t pay the coupon,” Sandy Lewis said. “So they start trading what is called ‘flat.’ You can buy and sell a rail bond any way you please, but the coupon’s not accruing. It’s dead.… If you buy it, you can call it a future and maybe it’ll be worth something someday.” With these railroad bonds no longer paying interest, they were trading as low as five cents on the dollar. Lewis started to think about whether to buy the bonds at these severely depressed prices. He figured either Armageddon was imminent—in which case nothing much would matter—or the United States would end up winning the war and the country would desperately need its railroads back to rebuild and supply the victorious nation. In the latter instance, railroad bonds bought at a steep discount during the war would be worth a fortune.

  Cy Lewis had a great influence on Gus Levy. He encouraged Levy to trade in distressed railroad bonds and in other forms of arbitrage, including so-called block trading—the buying and selling of large blocks of stock, ideally at a profit—and in so-called merger arbitrage, which as Rohatyn described was the trading in the stocks of companies involved in corporate mergers, generally after the mergers had been announced publicly.

  Many institutional shareholders that owned the shares of companies involved in mergers often chose to sell those shares into the market—shares would trade up to near the offer price after a merger had been announced—since the time and risk involved in waiting often many months for a merger to close to get slightly more cash or stock was not generally worth doing. Merger arbs were willing to buy the stock being sold quite simply because they hoped to make an attractive return on the money invested. They were willing to take the chance a deal might not close, or the financial consideration might change unfavorably, in the hope of making money on their bet. There were risks, of course—if they bought the stock of a company being taken over and then the deal failed to close, such a mistake could be devastating financially. But such mishaps were rare, and experts in the art of merger arbitrage did their best to avoid them.

  Why Cy Lewis would give away one valuable trading idea after another to a competitor—albeit someone who was also a friend—may never be known for sure. Perhaps it was just friendship, perhaps it helped create a market for the products Lewis was selling.

  In 1941, with the United States on the verge of entering World War II, Levy was anxious to see action. He did not have to go to war because by then he had two children. But he was determined to do it. “I’m goin’ in,” he reportedly told his wife, and then he arranged to become a mission observer in the Civil Air Patrol. Levy was a pilot who used to fly his own Stinson Voyager single-engine plane. He hoped that experience would get him a gig flying fighter planes during the war. But it was not sufficient. “I didn’t have enough experience to qualify as a pilot,” he once told the New York Times, “and at thirty-two, I was too old for training. I ended up as a lieutenant colonel in the ground office of the Air Force in Europe.” He was in the war for twenty-six months.

  While Levy was off at war, his colleague in the arbitrage department, Baruc, remained behind at Goldman to try to keep whatever meager business the firm had moving along. When Levy returned to Goldman after the war, in November 1945, he and Baruc resumed their work together in the firm’s arbitrage department and, according to Walter Sachs, “built one of the most active over-the-counter trading departments on Wall Street.” Levy became a Goldman partner on January 1, 1946. Al Feld, who started working at Goldman as an office boy in July 1933, recalled how skillful Levy was at making money from trading railroad and utility bonds. “Gus was very smart, and an innovator,” he told Ellis. “He built a good business because he recognized the opportunity in all the when-issued paper that came out on the big railroad and public utility financings of the 1940s. And he built a reputation for making good markets—in size. And if he had to take a loss, he took it.”

  Among Levy’s best clients when he returned to Goldman after the war were two Dallas, Texas, brothers, the Murchisons—John D. and Clint W. Jr.—heirs to a Texas oil fortune established by their father, Clint W. Murchison Sr. Levy and Goldman’s involvement with the Murchison brothers had its origins in the March 1933 bankruptcy filing of the Missouri Pacific Railroad.

  The Missouri Pacific bankruptcy went on for twenty-three years, making it one of the longest running on record. During that time, investors could buy and sell its debt or buy and hold it, with an eye toward getting control of the company when Missouri Pacific emerged from bankruptcy in the hands of its former creditors. Sometime after the war, the Murchison brothers became the principal owners of the general mortgage bonds of Missouri Pacific. They were recommended to Levy and Goldman Sachs since they “were seeking the assistance of a Wall Street arbitrageur …,” the Times reported, “and Mr. Levy … is generally regarded as tops in the field.” The article then explained that “an arbitrageur is one who deals in equivalents of currencies, securities and the like. He stands between the two parties in transactions involving equivalents and guesses”—guesses!—“how the opinions that each man has of what the other man wants will vary. If he guesses right he can make a great deal of mone
y. If he guesses wrong he doesn’t stay in the arbitrage business very long because the sums involved generally are too large.” The paper noted that Levy had been an arbitrageur since he joined Goldman in 1933 and “by guessing right he has made a great deal of money.”

  The Times observed that during the long pendency of the Missouri Pacific bankruptcy, there “were plenty of opportunities for arbitrage transactions in the securities” since the railroad’s bonds “were to be exchangeable for other securities of the to-be reorganized company. Because of the uncertainty that the reorganization would be effected as proposed[,] the bankrupt railroad’s bonds often sold at a variance from” what the financial experts involved with the bankruptcy predicted they might be worth when, and if, the company ever emerged from bankruptcy. “The Murchisons and other investors all the through the years were quick to take advantage of the price differences … whenever it appeared to be to their advantage.” Levy helped the Murchisons with their buying and selling and with their analysis—guessing—about the value of the railroad’s bonds.