Monday, March 31, 2008


Generally, I don't think we should enjoy the misfortunes of others - it seems like bad Karma to me - but if ever a group deserved a comeuppance, it is hedge fund managers. They are overpaid and arrogant and no doubt I would be too if I could convince rich people to pay me 2 and 20 on several billion dollars. Fortunately, I don't have this problem; my fees are low and I'm always worried that I'm charging too much, especially when we go through a period of negative returns as we have recently. And I worry more when we're up because maybe I've just been lucky and it could all go away tomorrow. Anyway, hedge funds run by supposedly very smart people are blowing up right and left and it's hard not to feel a little schadenfreude (via The Telegraph):

The leverage that magnified gains in the rising markets has had the same impact on the way down. Weaker funds were the first victims. But now the squeezing by the lenders has meant that a far bigger number have had no cushion or protection against short-term swings.

Beller wrote to his investors: "Because of their own well-publicised issues, credit providers have been severely tightening terms without regard to the creditworthiness or track record of individual firms, which has . . . made it impossible to meet margin calls."

In the aftermath, others have a different view. One observer says: "The only way to generate 90 per cent returns off AAA-rated bonds is if you are taking too much risk. Simple as that."

Another friend says that he often boasted that Peloton was sailing close to the wind. "I once asked Beller how he would cope if the market suddenly turned and he was forced to mark to market. He said he'd be in trouble but that would never happen."

Focus Capital, the fund that liquidated two weeks ago, was managed by Tim O'Brien and Philippe Bubb, who formerly worked at Pictet & Cie in Geneva. Focus won a EuroHedge industry award after returning more than 100 per cent in 2006. O'Brien and Bubb told investors that they had been the victims of the credit crunch and short selling. But observers disagree: "Focus took large stakes in very small, illiquid companies. In these markets that's a dangerous position to be in."

Two weeks ago funds were caught out when the so-called "box trade" - betting that 20-year bond and swap spreads would widen as seven-year spreads narrowed - moved against them. Endeavour Capital, run by former Salomon Smith Barney fixed-income traders, told investors that 27 per cent of the value of the $3bn fund had been wiped out. The fund is thought to have been 18 times leveraged.

Meanwhile, Platinum Grove, the $5.5bn New York-based hedge fund set up by former Long Term Capital Management co-founder Myron Scholes, fell 7 per cent when Japanese prices moved suddenly. Investors said that London-based London Diversified had lost between 4 per cent and 5 per cent, too. The fund's founders, led by David Gorton, famously took £55m in management fees after the fund's first year in 2004.

So, our returns so far this year are beating a Nobel Prize winner. That doesn't mean that Myron Scholes is no longer smart or that I'm smarter; it does mean that owning a Nobel Prize for theoretical work in economics does not make you a good fund manager. And that very few fund managers are worth the price they charge.

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