Sunday, December 31, 2006

The Private Lives of Hedge Funds

The Private Lives of Hedge Funds
December 29, 2006

Hedge fund managers, let us toast the triumphs and travails of your secretive world as the year draws to a close.

Tom Starkweather/ Bloomberg News
Phillip Goldstein was an unknown hedge fund manager at Bulldog Investors until he sued the Securities and Exchange Commission.
Already I can hear some of you yelping. You hate being called secretive. You insist that it is federal laws that prohibit you from talking to the public, and in fact you would like the world to know more about you (except who you are, what you trade and what kind of returns you have generated).

In 2006, however, some of you discovered the one thing more valuable than your secrecy: permanent money. The Fortress Investment Group, which runs both hedge funds and private equity funds, and Citadel, a multi-strategy hedge fund, both filed prospectuses this year to offer securities to the public. To some, this is preferable to raising more money from investors in the fund because they can redeem their money, with certain restrictions, when they want.

The trend to lock down permanent capital gained even more traction abroad. Funds and funds of hedge funds raced to market, ready to sop up all demand for investments deemed alternative. Exchanges in Britain and Amsterdam raised $4.2 billion in 2006, compared with $454.2 million in 2005, according to Dealogic.

That outpouring of money into hedge funds mirrors another trend in hedge-fund land: that institutions like pension funds and endowments continue to dump money into the sector. But that means hedge funds are themselves becoming institutions, real grown-up businesses, with offices around the globe and extensive legal teams, rather than a few traders and a Bloomberg terminal.

Institutional or not, hedge funds are still more colorful, more outrageous, more impressive and more bizarre than other asset managers. They are the new, new money thing. And they deserve special recognitions of their own.

So let’s hand out the hedge fund awards for 2006.

THE HOUDINI AWARD To Amaranth Advisors and its founder, Nicholas Maounis, for overseeing the evaporation of $6 billion in less than one week at the hands of a 32-year-old Ferrari-driving energy trader. Amaranth had been a respectable fund; investors loved it for its high returns and energy exposure, until the high returns turned into epic losses and its energy “exposure” turned out to be a bunch of concentrated bets on the direction of natural-gas prices (bets that did not work out well).

Soon after $6 billion went poof, Mr. Maounis tried to pull a rabbit out of his hat. On a brief, carefully lawyered phone call with investors, Mr. Maounis suggested that he intended to win back the trust and faith of his investors. “We have every intention of continuing in business generating for our investors the same consistently high risk-adjusted returns which have been our hallmark.” Right.

THE BETTER-THAN-BARINGS BLOW-UP AWARD Amaranth’s energy trader, Brian Hunter, blew through more cash in less time at Amaranth than, well, than anyone I can think of. When Nicholas Leeson, a young trader at Barings Bank in Singapore, blew up Barings, he burned through $1.3 billion. When Long Term Capital Management imploded in 1998, its $4.8 billion quickly shrank to $600 million (although enormous leverage magnified the losses and brought the financial system to its knees). Bayou lost $460 million, $100 million less than Amaranth lost on Sept. 14.

THE BRAVEHEART AWARD Phillip Goldstein was an unknown hedge fund manager at an unremarkable hedge fund, Bulldog Investors, until he sued the Securities and Exchange Commission, contending that the agency did not have the authority to regulate hedge funds, and won. As a result, the court vacated the controversial registration requirement and left the S.E.C. with little authority over hedge funds.

The S.E.C. is now contemplating a rule that will prohibit all but 1.3 percent of Americans from investing in hedge funds. It also rewrote a fraud provision that at least allows it to go after, well, fraud.

THE DEBUTANTES AWARD The Citadel Investment Group filed a prospectus to raise as much as $2 billion in bonds, a creative financing strategy that when accomplished, makes Citadel slightly less dependent on Wall Street and slightly more similar to a normal company that has various forms of debt. The Fortress Investment Group also announced its intention to sell shares to the public. The upshot from its offering documents? The people running alternative investment groups make boatloads of money.

THE GRETA GARBO AWARD She just wanted to be left alone. So did Christopher Hohn, the founder and brainpower behind the Children’s Investment Fund, a $9 billion activist fund based in London that donates a portion of its fees to a foundation run by Jamie Cooper Hohn, Mr. Hohn’s wife. When provided an opportunity to talk about the fund’s charitable work, neither Hohn returned any calls — those who did answer phones would not acknowledge that a foundation existed; yet, in June, former President Bill Clinton spoke at a fund gathering and praised the foundation.

THE BUYER BEWARE AWARD Shakespeare questioned the power of a name and so should investors. Viper Capital Management, a fund in San Francisco, has been sued by the Securities and Exchange Commission for fleecing investors out of $5 million. Pirate Capital, whose letters to investors discuss “treasures” and “shipwrecks” accompanied by matching pictures, suffered a mutiny of talent and disappointing returns (5 percent through November for the flagship Jolly Roger fund). Investors not tipped off by the name perhaps should have been warned by a New York magazine article that featured one of the fund’s 27-year-old analysts, a former snowboarding champion, yelling at a chief executive that he was the boss. Capt. Jack Sparrow take heed.

THE $100 MILLION WEEKEND AWARD On a Friday in November, a $13 billion fund, Atticus Management, owned or controlled through options 9.9 percent of Phelps Dodge. Two days later, when Freeport-McMoRan Copper and Gold announced that it would acquire Phelps, Atticus made over $510 million. That number understates the fund’s real return, which is based on its previously acquired stake, done when the stock was cheaper. Since hedge fund managers take 20 percent of the profits, Timothy Barakett, Atticus’s founder and lead manager, made more than $100 million. New television series: Who Wants to Be a Decamillionaire?

THE HYPOCRITE’S AWARD For all the talk about wanting to be more open, a lot of you are still secretive. One of you stopped me on my way into your Greenwich, Conn., offices and insisted: “You were never here, right?” I joked that such metaphysical requests were beyond my abilities. Upon gaining entry into your secret kingdom, you suggested the press was unfair, perhaps even inaccurate, for calling hedge funds secretive.

And for that, I award you the hypocrite’s award for 2006.