As the 21st century dawned, a new actor had snuck onto the stage. Sixteen LBO and hedge-fund managers had made the Forbes 400 list, a good snapshot of the sources of U.S. wealth. Sure, they were near the bottom — but they got there not by building businesses but by managing other people’s money and getting compensated on the 2&20 formula. This was only a taste of what was to come. By 2012, 56 hedge-fund or LBO-fund managers had made the Forbes 400 list (eight were in the top 50) by managing money on the 2&20 formula. The second-most-frequent method was building a technology company.
Just around the time that 2&20 talent ascended to the pinnacle of the economic heap, perhaps unsurprisingly, America got its first 2&20 presidential candidate: Mitt Romney. Like those 56 members of the 2012 Forbes 400, his wealth stems from managing other people’s capital.
How do they do it? How do the 2&20 titans get to the top of the list in greater numbers than anybody else? By treating labor and capital as adversaries. For hedge funds in particular, the question is not: How can I serve capital best? It is: How much of the investment returns can I extract for myself before the investor earns his returns?
For Renaissance Technologies founder James Simons, who routinely ranks among the top hedge fund-managers in personal compensation, with north of $2 billion a year, the answer is to charge 5 percent of assets under management annually and 44 percent of upside rather than a piddling 2&20.
For LBO funds such as Romney’s former firm, Bain Capital, the story is more nuanced. Indeed, some LBO funds can legitimately say they have fixed and expanded ailing businesses. But for many of them, their dominant game plan is to grind down and lay off labor to improve the sale value of the companies they buy and flip. As we’ve seen during the presidential campaign, it has been tough to convince voters that Bain Capital did more of the former than the latter.
Romney’s challenge, in selling himself and his private-equity experience, is that talent of this sort is a tiny sliver of America, the very definition of the 1 percent. And the reason the 1 percent is widening the gap in income inequality is that it is extracting more and more value for itself. Unlike capital historically, hedge-fund and LBO talent trades and tolls value rather than building it. To them, the 47 percent is there for grinding down. And the owners of capital are there for greater tolling, especially if you are able to grind down the 47 percent.
Voters may not yet have put their fingers on the reason, but I think that is why they simply haven’t warmed up to Romney. Many Americans can be wooed by a politician who ensures that labor gets a fair shake from the capital for which it toils. Many other Americans can support a politician who prefers an environment in which capital builds value and jobs. But only a few get excited about a politician whose instincts are to ensure that talent gets to exploit labor and capital to the maximum possible extent.
Roger L. Martin, the dean of the Rotman School of Management at the University of Toronto, is the author of “Fixing the Game: Bubbles, Crashes and What Capitalism Can Learn From the NFL.”
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