How do you make money in a world where history is meaningless? The answer, for a growing number of big fund managers, is that you don’t.
Hedge funds, generally the most aggressive species of money manager, do a lot of “black box” trading in which bets are placed on previously-identified patterns and relationships on the assumption that those patterns will repeat in the future.
But with governments randomly buying stocks and bonds and bailing out/subsidizing everything is sight, old relationships are distorted and strategies that worked in the past begin to fail, as do the money managers who rely on them. A few recent examples:
(Value Walk) – Ending its foray into mutual funds, Whitebox Advisors LLC, said it has shuttered all three of its three mutual funds after poor results. According to Amara Kaiyalethe, a spokeswoman, the three mutual funds, which collectively held over $300 million, were closed on December 17th, and will be liquidated January 19th. She said the decision to close the mutual funds was related to performance and the concentration risk investors that remained in the funds faced as redemptions accelerated.
The Whitebox Tactical Opportunities Fund is the biggest among the three mutual funds, which less than two years ago managed over $1 billion, but tumbled by over 21% this year. The fund has suffered a rush of investors heading towards the exits. The fund managed about $240 million at the time it was closed.
(Bloomberg) – Lutetium Capital LLC, a hedge-fund firm that invests in distressed securities, is liquidating its two credit funds and returning all of the money it was managing to investors by next month, according to co-founder Michael Carley.
The Stamford, Connecticut-based business told investors it would liquidate the funds in a letter last week following redemption requests from some of its clients and losses, Carley said. Investors in Lutetium’s liquid alternatives product had wanted their money back and the firm decided to liquidate its hedge fund holdings as well, he said.
“We returned capital to every one of our investors to treat all investors equally,” said Carley, the former co-head of distressed debt at UBS Group AG. The firm invested money from its liquid-alternatives fund and its hedge fund in the same debt securities, meaning that selling the holdings from one of the funds would likely push down the value of the assets in the other, Carley said.
The firm’s funds lost 4 percent this year, Carley said. Hedge funds that invest in distressed debt globally have lost an average of nearly 6.8 percent this year, according to data compiled by Bloomberg.
(Bloomberg) – Scott Bommer, founder of SAB Capital Management LP, is returning all client money from his hedge fund after 17 years so that he can focus on managing his own wealth.
SAB Capital will return most money before mid January, Bommer said in an investor letter Tuesday, a copy of which was obtained by Bloomberg. The firm posted a 10.6 percent loss in the first eight months of the year in its SAB Overseas Fund, according to an investor document. Bommer started New York-based SAB Capital in 1998, and oversaw $1.1 billion as of the end of last year, according to a government filing.
(Bloomberg) – Doug Hirsch, one of the founders of the Sohn Investment Conference, is returning money to clients from his hedge fund after almost 20 years.
Seneca Capital Investments, which managed about $500 million, is returning most capital by today, according to a client letter obtained by Bloomberg. Seneca, which made wagers on corporate events such as mergers, spinoffs and restructurings, a strategy called event-driven, said it lost 6 percent this year in its domestic fund.
(Wall Street Journal) – More “liquid alternative” mutual funds closed in 2015 than in any year on record, according to research firm Morningstar Inc., as inflows dwindled and performance weakened.
The results show that enthusiasm is fading for what had emerged in recent years as one of the hottest products in asset management—funds that combine hedge-fund strategies like shorting stock with the daily liquidity of mutual funds.
In all, 31 liquid-alternative funds have been closed this year, up from 22 a year earlier, according to Morningstar.
The host of funds liquidated this year included strategies run by J.P. Morgan Asset Management and Guggenheim Partners LLC. The closed funds were a range of unconstrained bond funds; managed future funds, which bet on futures contracts in a number of markets; and equity funds that bet on stocks rising and falling.
“You had so many funds that were launched in the last couple of years and hadn’t really been tested by market volatility and you’re starting to see the cracks in them,” said Jason Kephart, an analyst at Morningstar.
Fund companies aggressively pitched liquid-alternative products, saying they could help protect investors from volatility and offer better returns.
Assets in liquid-alternative funds grew to $310.33 billion at the end of 2014 from $124.44 billion at the end of 2010. But the inflows have slowed as performance faltered this year.
The average liquid-alternative fund was down 1.64% this year through the end of November, compared with losses of 0.38% for the average actively managed stock fund and 0.5% for the average actively managed bond fund. Just $85.1 million has flowed into liquid-alternative funds this year, down from $37.7 billion in 2014, according to Morningstar.
The MainStay Marketfield Fund, managed by Michael Aronstein, exemplifies the sector’s struggles. Started in 2007, MainStay Marketfield rose quickly to become the largest liquid-alternative mutual fund, with $21.5 billion of assets at its peak in February 2014, according to Morningstar. But the fund has been hit by poor performance and heavy withdrawals since then. It had $2.9 billion in assets at the end of November.
Why should regular people care about the travails of the leveraged speculating community? Because these guys are generally considered to be the finance world’s best and brightest, and if they can’t figure out what’s going on, no one can. And if no one can, then risky assets are no longer worth the attendant stress.
In response, a system that had previously embraced leverage and “alternative” asset classes will go risk-off in a heartbeat, and all those richly-priced growth stocks and trophy buildings and corporate bonds will find air pockets under their prices. And since pretty much everything else now depends on high asset prices, things will get ugly in the real world.
A case can be made that such a contagion is already underway but is being hidden from Americans by the recent strength of the dollar. According to Deutsche Bank, when measured in dollars the rest off the world is now deeply in recession and falling fast.
In other words, Main Street is vulnerable to leveraged trading algorithms and Brazilian bonds because it’s not just exotica that is overleveraged. Virtually all governments have to refinance trillions of short-term debt each year. Corporations have borrowed record amounts of money in this expansion (and wasted much of it on share buy-backs). Pension funds (the last remaining leg of the middle-class stool for millions of Americans) are grossly underfunded and will have to slash benefits if their portfolios decline from here.
Risk-off, in short, is no longer just a temporary swing of the pendulum, guaranteed to reverse in a year or two. As amazing as this sounds, we’ve borrowed so much money that as hedge funds go, so goes the world.