In a 1987 speech on economic issues, U.S. President Ronald Reagan cited a poem by the matador Domingo Ortega. Contrarian investors might agree that it sums up their battle to prevail against the market tide: “Bullfight critics, ranked in rows,/ Crowd the enormous plaza full./ But only one is there who knows,/ And he’s the man that fights the bull.”

Activist short sellers could be deemed the ultimate contrarians. Their strategy is frequently at odds with historical performance, popular opinion, management incentives, and—in its essence—optimism. Like the bullfighter in the poem, practitioners who engage in activist short selling are often the subject of intense popular criticism. Ortega’s words would have been a fitting epigraph to Fooling Some of the People All of the Time: A Long Short Story , David Einhorn’s detailed account of his short sale of Allied Capital equity and his subsequent attempts to expose alleged fraud by Allied management.

Einhorn, co-founder of the hedge fund Greenlight Capital, engagingly describes efforts to publicize misdeeds at Allied and its subsidiary, Business Loan Express, between April 2002 and December 2007. Allied Capital and Business Loan Express (later renamed Ciena Capital) operate business development companies—investment funds that make debt and equity investments in private middle-market companies.

At times, the pacing of the book resembles that of a Hollywood movie, with Einhorn narrating events that are evocative of a John Grisham novel “without the sexual tension or chase scenes.” Fooling Some of the People All of the Time recounts numerous examples of extraordinary financial guile carried out by managers intent on maintaining their company’s market value. Some of the tactics are old—and legal—standbys, such as aggressive accounting, massaged earnings, and corporate spin. But Einhorn charges Allied with many instances of outright fraud, including falsified business appraisals, loans to nonviable businesses, and employing a convicted felon in a key position.

During his intense struggle to expose corporate misdeeds, Einhorn encounters multiple hurdles, including a public relations campaign aimed at discrediting his reputation, an exhausting inquiry by the U.S. SEC (which found no wrongdoing on his part), journalists who are indifferent to his evidence against Allied, slow-acting regulatory agencies, and the discovery that his phone records have been accessed illegally. Even Einhorn’s wife, Cheryl, suffers collateral damage when she loses her job as a journalist at Barron’s during the SEC investigation. Not to empathize with his obvious sense of frustration would be difficult.

For the practitioner, Fooling Some of the People All of the Time serves as an excellent reminder of what truly comprehensive fundamental research is. The breadth and depth of detail that Einhorn and his associates unearth while conducting their investigation should impress even the most thorough investor. Moreover, the Allied Capital case study provides rare insight into a money manager’s investment process—an invaluable aid to investors who wish to improve their own practices.

One problem with such books as Fooling Some of the People All of the Time is the risk of rampant braggadocio—the investor’s equivalent of a fish story. At its worst, the book falls into recurring diatribes, yet Einhorn’s purpose in writing appears to go beyond mere character self-defense. Although Fooling Some of the People All of the Time highlights shortcomings in enforcement of securities regulations (seemingly an issue of limited staff), it also supports the notion that activist short sellers are a vital component of a free market. One can infer from Einhorn’s story that these investors act as de facto regulators, motivated by their much-maligned appetite for profits.

If poor stock performance is any vindication, then Einhorn fought the good fight with Allied Capital. As of 30 April 2009, Allied stock was trading near $2.46 a share, down approximately 90.5 percent since 15 May 2002, when Einhorn first publicly discussed his short sale of Allied equity. Over the same period, the S&P 500 Index was down 20.0 percent whereas the Financial Select Sector Standard & Poor’s Depositary Receipts Fund declined by roughly 60.1 percent.

Although many members of Allied management are still in place, the company’s latest 10-K discloses that Allied is dealing with several civil lawsuits involving Business Loan Express, as well as ongoing investigations by the U.S. Department of Justice and the U.S. Small Business Administration Office of Inspector General. Business Loan Express filed for Chapter 11 bankruptcy in September 2008, a Business Loan Express employee was sentenced to prison for fraud in November 2008, and Greenlight Capital’s case against the company is currently under appeal.

This bullfight appears to have reached its moment of truth.

—A.A.