SAC Capital – Too Much Of A Good Thing

SAC Capital – Too Much Of A Good Thing [10]

Courtesy of The Banker [10]

[11]I covered the mortgage bond side of SAC Capital in the early 2000s, and I remember half-kidding, half-probing my client about Steven A Cohen’s seeming inability to miss. Back then Cohen’s SAC had put together a string of annual monster returns like no other hedge fund.[1] [12] Cohen’s SAC Capital was the Mark McGuire of stock trading, and we knew enough to think the home run records of 1998 looked mighty suspicious.

My client was one of the nicest and most straight-forward men I ever worked with, and his team of bond portfolio managers were really not the beating heart of SAC’s fund, which at its core was a high volume, stock-trading firm.

My client honorably defended his employer Cohen, marveling at his ability to stand in the middle of his trading floor in Stamford, CT and synthesize all the trading inputs and react unerringly with his ‘feel’ for the markets.

SAC was known then to produce an inordinate amount of volume on the NYSE for just one fund,[2] [13] making Cohen’s fund the top equity client for a number of broker-dealers who earned extraordinarily high commissions on his stock trading. The implication of high volume like this, at the time, was that a top client like SAC could command top coverage from the Street.

According to the honest way of looking at things, this meant SAC might receive a phone call,[3] [14] tip-off, or access to the Street’s best research ideas, first.

According to the dishonest way of looking at things, this meant SAC might get information that nobody else had access to, possibly – unethically – the client-flows of rival funds, or – illegally – straight-up insider information.

With yesterday’s accusation of one of SAC’s portfolio managers [15], we have what some believe to be the first major chink in the armor of Steven Cohen’s code of silence around his trading success.

This has got me thinking again about hedge fund cheaters and too-good-to-be-true results.

The first investing lesson of the Madoff scheme was this: If your hedge fund manager is flawless, if he never endures a down month, if he beats the competition month after month and year after year, then he’s not a genius, he’s a crook. Real investing sometimes involves losses, and sometimes involves volatility. Fake investing by contrast offers you steady, non-volatile wins every month. Until all the money’s gone.

The second investing lesson of the Madoff scandal was that investors will look the other way with their own crooked hedge fund manager, if they think it benefits them. Investors turned out to be wrong about Madoff (he wasn’t cheating on their behalf!) but many people inside the financial community have long wondered if SAC fits in this category of acceptable cheaters.

Insider trading is a kind of ‘everybody wins’ cheating[4] [16] that investors hope benefits them, so they are willing to not ask too many questions.

Steven A Cohen’s unrivaled success over the years brought the unwelcome attention of securities crime prosecutors long ago, as the Lance Armstrong of the hedge fund world.

As we learn more about Cohen’s proximity to insider trading, the parallels with Armstrong hold. Armstrong enforced a code of silence among his fellow riders for nearly ten years at the top of the cycling world, as who wants to be the first Judas to admit the whole operation depends on cheating? Too many people’s livelihoods depended on maintaining appearances and not asking questions.

Cheating on the kind of scale of Armstrong, or the SAC scale, however, involves so many people that eventually a few can be peeled away to talk to prosecutors. Based really on a gut feeling, and on no particular personal knowledge of the situation over the years, I wouldn’t be surprised if Steven Cohen eventually gets his 7 Tour de France titles taken away as well.

[1] [17] With the possible exception of Jim Simonds’ Renaissance Fund, but that managed no outside money.

[2] [18] This was ten years ago, and SAC was alleged to generate 25% of equity commissions on the NYSE. These days, its all run by Skynet [19] so I can’t believe any one fund could have that kind of influence.

[3] [20] Back when, you know, people used phones. It’s all so quaint.

[4] [21] It’s not really ‘everybody wins,’ it’s just that winning is concentrated in the hands of a few interested parties with quantifiable benefits, while losing is diffusely shared by the entire system of unknowing, losing, participants. Kind of like tax loopholes [22].