Value and Activist hedge funds hurt by making concentrated bets

Discussion in 'Wall St. News' started by makloda, May 9, 2008.


    May 9 (Bloomberg) -- When Jon Wood opened his Monaco-based hedge fund, the former UBS AG trader told investors he'd beat the market by buying stakes in no more than 40 companies -- the same way he made $2.4 billion in six years for his old employer.

    Instead, holdings such as failed U.K. bank Northern Rock Plc and Calabasas, California-based Countrywide Financial Corp., the largest U.S. mortgage lender, imploded. From its start in late 2006 with $3 billion, Wood's SRM Global Fund lost about 70 percent through March 31, said two investors, who asked not to be identified because the firm doesn't publicly disclose returns.

    ``These concentrated funds scare the hell out of me,'' said Brad Alford, head of Alpha Capital Management LLC, an investment consultant based in Atlanta. ``Either the manager knocks it out of the park or he strikes out.''

    Other managers who follow the approach of betting big on out- of-favor stocks are also struggling as market volatility hits historic highs. Edward Lampert's ESL Investments Inc. dropped 27 percent last year and an additional 1.3 percent in the first three months of 2008, investors said. The 45-year-old Lampert, who oversees $17.5 billion, has been hurt primarily by a $6.1 billion stake in retailer Sears Holdings Corp. of Hoffman Estates, Illinois, that has fallen 48 percent in the past year.

    Investors expect that Wood and Lampert, who both declined to comment, will survive their losses because clients can't pull their money for three to five years. The lock-ups leave investors no choice but to wait for a turnaround. Other funds that concentrate their wagers haven't been so lucky.

    Endeavour Liquidation

    Paul Matthews, head of Endeavour Capital LLP in London, told investors last month he would liquidate what had been a $2.9 billion hedge fund after losing money on Japanese government debt. The fund lost about a third of its value in March when the spread on yields between 7-year and 20-year Japanese government bonds ballooned to their widest in nine years.

    ``We thought we were dispersed enough and we weren't,'' said Matthews, 47, who plans a new fund with better risk controls. ``It's a very expensive lesson to learn.''

    Thomas Hudson, founder of Pirate Capital LLC, learned a similar lesson. Assets at his Norwalk, Connecticut-based firm reached a peak of almost $2 billion in August 2006, when he owned stakes in about 20 companies. Half his money was in our stocks, including Brink's Co., the Richmond, Virginia-based armored-truck provider, and mining company James River Coal Co., also of Richmond.

    Investors Exit

    Investors began fleeing after five of Pirate's 10 employees quit in 2006. Hudson's firm held board seats in eight companies at the time, so his ability to sell those shares was limited by securities law. Instead, he liquidated other positions to raise cash, making his biggest holdings an even larger percentage of his portfolio.

    Now his only holdings are Brink's; Philadelphia-based Pep Boys - Manny, Moe & Jack, which runs automotive-parts and repair shops; and military contractor Allied Defense Group Inc. of Vienna, Virginia, which had a combined market value of $154 million as of March 31, according to a May 5 filing with the U.S. Securities and Exchange Commission. In the past several months, clients who exited his funds received stock, rather than cash, because Hudson, 42, is still a director at Brink's and Pep Boys.

    Even with such well-publicized losses, investors seem willing to continue to back concentrated funds.

    Whitney Tilson who runs concentrated mutual funds and hedge funds at New York-based T2 Partners LLC, said that although his T2 Accredited Fund has lost money this year, there have been only ``minor'' net redemptions because of frequent communication with his investors.

    Barakett's Atticus

    Lampert's ESL raised $4 billion last summer even as the Greenwich, Connecticut-based manager was losing money. Lampert has produced an average annual return of almost 30 percent since 1988.

    ``He's had a spectacular long-term track record by focusing his analysis and mental capability and knowing a few situations extremely well,'' said Tilson, 41.

    Timothy Barakett's Atticus Capital LP, which oversees $19 billion, lost 14.8 percent in its global fund and 11.5 percent in its European fund this year through April, according to investors. The New York-based firm's returns have been dragged down by a 12 percent stake in Deutsche Boerse AG, currently valued at 2.4 billion euros ($3.7 billion). The stock of Europe's biggest exchange by market value has tumbled 25 percent this year.


    While investors say clients are not asking for their money back, Barakett, 42, took the precautionary step of placing shares of Frankfurt-based Deutsche Boerse into a special account known as a side-pocket. That means that even if investors do redeem, their stake in Deutsche Boerse remains at Atticus.

    Barakett's European fund has climbed an average of 30 percent a year since opening in 2001 and has never had a losing year. The global fund has returned 20 percent a year, investors said. Andy Merrill, a spokesman for the fund, declined to comment.

    Atticus's lock-ups generally range from one to five years, depending on the share class, although the longest-standing clients can redeem their money quarterly. The side-pocket sends a message to Deutsche Boerse board members that the hedge fund will remain a long-term investor.

    For Wood's investors, the news isn't getting any better.

    In the first quarter, the fund sold off holdings in at least seven companies, according to regulatory filings.

    Immediately after Wood culled those positions, the shares jumped. At the end of the year, SRM owned 4.9 million shares of Bermuda-based Nabors Industries Ltd., the world's largest onshore oil and natural-gas driller, then worth about $135 million. Since the end of March, those shares have jumped 17 percent.
  2. maxni


    Paul Matthews, another hedge fund manager to remember (and perhaps avoid?).

    "It's a very expensive lesson to learn'' at clients' expense!?

  3. oh shock.

    all in with other people money.

    it fails.

    start up another hedge fund with different peoples money.

    pay yourself a huge bonus if it succeeds or if it loses go and set up another hedge fund.

    oh shock it fails.

    all in with other people money.

    it fails.

    start up another hedge fund with different peoples money.

    pay yourself a huge bonus if it succeeds or ir if it loses go and set up another hedge fund.

    repeat to infinity........................................
  4. There are no failures, only comebacks! :D
  5. truth
  6. poyayan


    Translation : we screw up. It's a very expensive lesson to learn for our clients who are stupid enough to trust us

    Now, after I legally change my name, we will plan a new fund and hope the new group of suckers don't know what we did before.
  7. And THIS is why a real trader never lets anyone else manage his money.
  8. You are forgetting that a lot of these managers (the good ones, anyway), have 50%+ of their net worth tied up in their fund. Eddie Lampert, for example, basically invests his own cash and has investors along for the ride.

    Second problem - concentrated bets are necessary for really good performance. A diversified portfolio of 50+ stocks is pretty hard to lose big on, but it's also unlikely to make 30%+ per annum. It makes no sense for your 45th to 50th best ideas to have the same capital allocation as your top 5 ideas.

    Third problem - some of the best investors ever have pursued the concentrated strategy. Buffett, Greenblatt, Lampert etc, along with the new hotshots like Pabrai, Hohn and others like them. They have returns that have annihilated the S&P, and the vast majority of hedge funds.

    So what exactly is your problem? You are criticising some of the top minds with the best records in the whole investment arena. Of course they are going to have drawdowns from time to time when a bear market comes along. But drawdowns are the price you pay to get eye-popping returns of 20%+ compound. Risk is necessary to get great returns.

    The problem with your point of view is that not only is your main point kinda weak, but you actually totally mischaracterize the way these guys operate. They are doing the exact opposite of going all in with other people's money, blowing up, then trying the same charade again. Rather, they are wagering most of their net worth side by side with their investors, they have never blown up, and they get paid only if they really perform. Buffett and Pabrai, for example, never even charged a management fee - they only got paid if they beat a government bond return. How you can say that is fleecing investors is beyond me.

    The only conclusion I can draw is that you are bitter, vindictive, clueless ignoramus who rushes to snap judgements, based not on knowledge but on sheer narrow-minded prejudice. For a financial pipsqueak to belittle some of the best and fairest operators in the business is just laughable.
  9. A real trader does not bet the ranch on any one thing, including himself. Finding a handful of good money managers to diversify your risk and get uncorrelated returns is a great idea, even if you are already a great trader.
  10. Brandonf

    Brandonf ET Sponsor

    He is a politician?
    #10     May 16, 2008