Hedge Fund Street

Fund Of Funds Cheer At Amaranth Fall

There are a few hedge fund managers out there who couldn’t stop rubbing their hands with glee when Amaranth collapsed. No, they weren’t born-enemies of the promoters of Amaranth they are only shrewd businesspersons. These fund of fund managers have only one small regret – that the collapse did not create enough turmoil! A scared client can bring in more business, they believe. I know all this sounds a bit too much and even I had to pause awhile to get my bearings.

Well, getting back to the topic, quite a few hedge fund managers believe that scandals can be good for sales. Amaranth's problems show the dangers of trusting your money to a single manager and vindicate a more diversified approach. And what does that mean – that funds of funds are finally coming into their own. The Amaranth fiasco will encourage more pension funds and other nervous investors to buy what the funds of funds are selling.

But that doesn’t mean that things at the hedge fund market are all hunky dory, far from it. It has become a problem of plenty – plenty hedge funds and fewer options to make money. So, the inevitable happens – reduced returns and greater difficulty making money. Some experts believe this is the reason for the Amaranth fiasco. The company was apparently motivated by a mixture of frustration and greed, and decided to bet on gas prices, with disastrous results.

One thing that’s quite obvious from this entire episode is that we should no longer expect our hedge funds to make double-digit returns. So the next time you decide to invest in a hedge fund, study the market very carefully and try not to invest in one that is too greedy.

Now, A Bill To Study Hedge Fund Oversight

This just had to happen right? How long could the government sit back and watch the hedge fund industry do as it pleased? So, the U.S. House of Representatives recently passed a bill calling for a federal study of hedge funds. House passage of the bill comes days after hedge fund Amaranth Advisors disclosed the biggest hedge fund loss ever -- about $6 billion -- on wrong-way natural gas market trades.

This step marks the latest step in the government's effort to come to grips with a $1.2 trillion industry that has become a powerful financial force. The bill would require a wide-ranging study of hedge funds, their risks and regulation. The President’s Working Group on Financial Markets, a multi-agency committee, will conduct this study. However, markets have largely shrugged off the Amaranth debacle. This has led some officials to say existing rules meant to minimize the systemic economic risk of hedge funds are adequate. Reuters.com reports:

Massachusetts Democratic Rep. Barney Frank said on the House floor that the bill should be seen by the hedge fund industry as a signal that "this is something we want to look at; we will come back next year and deal with this further."

Read more: US House passes bill to study hedge fund oversight

Is Your Hedge Fund Going Bust?

The Amaranth collapse seems to have leant credence to the popular belief that hedge funds like to take big risks and can be quite volatile in nature. However, in reality, most hedge funds primarily aim to reduce volatility and risk while at the same time preserving capital. And irrespective of the market conditions, they want to consistently deliver positive returns. This is quite a tall order and hence it makes it doubly interesting to know how you can manage the volatile with the stable to ensure consistent returns.

People who don’t know much about these funds believe that hedge funds use global macro strategies and use lots of leverage to place large directional bets on stocks, currencies, bonds, commodities or gold. Sadly, the reality is not so romantic. Less than 5 percent of hedge funds can claim to be global macro funds. Most hedge funds use derivatives only for hedging or don’t use derivatives at all. And most importantly, many funds use no leverage. So to put it simply, Amaranth is only an aberration that confirms the rule.

It's A Win-Win For Securities Firms

The debacle at Amaranth has not prevented the biggest so-called prime brokers, like Goldman and Morgan Stanley, from continuing to reap a bonanza in 2006. Securities firms are poised to earn about $8 billion on prime brokerage services to hedge funds. IHT.com reports:

"It looks like there has been no fallout for the prime brokers," said Michael Holland, who manages the New York investment firm Holland & Co. Amaranth "makes those businesses look much more attractive, rather than less attractive," he said.

Read more: Wall Street giants dodge hedge fund's debacle

'Insider Trading' Troubles SEC

Can it get any worse for the hedge fund industry? Just when it was trying to distance itself from the Amaranth collapse and convince investors that hedge funds were a decent lot, news comes in of the enforcement people finding possible evidence of insider trading. Marketwatch.com reports:

SEC enforcement director Linda Thomsen told the Senate Judiciary Committee in written testimony that the agency has brought five insider-trading cases in fiscal 2006 against hedge funds or their advisers. The SEC is currently working on new ways to oversee hedge funds after a court rejected its authority to register fund advisers.

Read more: Hedge fund insider trading 'significant' concern: SEC

Hedge Funds To Monitor Blogs, Gossip

They take even gossip seriously, these hedge funds. It now transpires that market gossip is going to take on a more high-tech form thanks to a new automated system that will trawl through more than 40m Internet sources – from blogs (that’s us, guys!) to regulatory filings. Called Monitor110, the platform, which is being run by a former Deutsche bank executive, is due for an official launch in the first half of 2007. At present, ten hedge funds are trying out the system.

The platform’s main duty is to act as an aggregator and a filter for hedge funds. This will help the funds keep up with the information overkill on the Internet. And they will go through blogs as well.

SEC At It Again, Tightens Hedge Fund Scrutiny

This was bound to happen. I mean, how could you expect the Securities and Exchange Commission to sit back and watch as hedge funds collapse in on themselves? The SEC is now tightening scrutiny of hedge funds by stepping up examination of the links between hedge funds and broker-dealers, particularly where they are owned by a hedge fund. The SEC has been trying for quite some time now to bring hedge funds under the regulation umbrella and until now, its efforts haven’t been particularly fruitful. In June, a US federal court overturned an SEC rule forcing hedge fund advisers to register with the agency.

The SEC's office of compliance already conducts routine inspection of broker-dealers. The enforcement division, which is focused on alleged wrongdoing in the securities markets, will only step up focus on hedge funds. Msnbc.msn.com reports:

The timing of the fresh scrutiny comes as Amaranth Advisors, a hedge-fund manager that lost about $4.6bn in the past month, has become the second largest hedge fund loss since LTCM.

Read more: SEC tightens hedge fund scrutiny

Amaranth's Collapse Met With a Shrug

If my going on about the Amaranth collapse worries you, please bear with me. It’s just that I have been writing about huge losses for a long time, but this is the first time I get to experience a really BIG loss and know its effects. There are so many contradictory views about the effect that this fall would have that I felt it was only fair to present all views to you. The frenzy of activity that surrounded the implosion of a large hedge fund in 1998 is strangely missing this time. When hedge fund Long-Term Capital Management (LTCM) imploded, a huge group of Wall Street's most powerful bankers and brokers assembled with the New York Federal Reserve governor to devise a $3.5 billion bailout plan. This was expected to prevent a bout of panic selling in world markets.

I wonder if Amaranth Advisors LLC officials are ruing the fact that the markets just shrugged their losses off and didn’t give it more than a few moments’ thought. No, I’m not being flippant about this huge loss – just wondering how it happened that J.P. Morgan & Co. and Merrill Lynch & Co. just quietly took over and started selling off Amaranth's portfolio of ill-timed natural gas futures.

So, what’s different this time around? Analysts put it down to a belief that the market can absorb this ‘minor hiccup’! One big difference is that LTCM borrowed heavily and its failure threatened the stability of banks. So a fire sale of its assets would have hit securities held by almost every fund and investor. While Amaranth engaged in a similar form of rash trading as LTCM, it borrowed less heavily. Moreover, its positions were smaller and focused mostly in natural gas futures. So, the firm's downfall hasn’t hurt the broader markets.

Amaranth Loss Is Tip Of Melting Iceberg: Analysts

The industry seems to have taken the Amaranth loss quite badly. Analysts are now predicting even more financial carnage after Amaranth told its investors that it is facing severe losses from enormous bets in the energy futures market, just a month after another fund went bust over its wagers in the same market. Theglobeandmail.com reports:

Amaranth Advisors LLC, a hedge fund with $9.5-billion (U.S.) in assets, warned its investors that the value of its two main funds fell nearly 50 per cent this month because of falling natural gas prices. Its warning followed last month's collapse of MotherRock LP, a $400-million (U.S.) fund that blew up after gas prices fell 68 per cent from their peak last December.

Read more: Analysts fear hedge fund losses in energy market tip of iceberg

Overheated Energy Market Makes Hedge Fund Lose Billions

Amaranth Advisors, a leading US-based hedge fund says that volatile energy prices may cost it billions of dollars. The firm, which had invested in energy and commodities to capitalise on soaring prices, is now aggressively reducing its exposure to natural gas to protect its investors. Bbc.co.uk reports:

There has been a sharp fall in energy prices on international markets during the past six weeks as concerns over oil and gas supplies have eased. US natural gas prices, called futures, have slipped 40% since August. They had risen sharply after hurricanes disrupted supplies last year.

Read more: Hedge fund takes hit for billions

Hedge Fund Wants To Make Market Foray

First they cornered the market and ensured that they got the lion’s share of revenues. Now that they’ve crossed the million, billion and trillion markets, some of them have decided that it is time to share their wealth. Well, don’t worry, your hedge fund is not indulging in any charity. For the first time, a hedge fund business wants to enter the market with an initial public offering (IPO).

While the news is yet to be confirmed, it is believed that Fortress Investment Group, a $24 billion private investment firm, is considering an initial share sale. Several investment banks are supposed to have approached the firm about an offering. However, the final decision is yet to be made and no IPO underwriters have been hired as yet. Marketwatch.com reports:

If Fortress went ahead with a public share sale, it would be the first IPO by a hedge fund business in the U.S. An offering could value the firm at $5 billion to $7 billion, the New York Times reported, citing unnamed people who had been briefed on the plans.

Read more: Fortress mulls going public, but hasn't hired banks

To D.C., To D.C. Ahoy!

Why are hedge fund managers pumping in millions into the political game in Washington? The reason’s not far to seek – one thing you must admit about hedge fund managers is that subtlety is not a priority with these guys. So when there was a hustle and bustle in the power circles and a few powerful guys (Securities and Exchange Commission) cleared their throats and delivered what they thought was a solution to combat the ‘Big Issue’, hedge fund managers decided to show their might in the only way they knew.

The biggest problem is that they’ve become too visible. Hedge fund managers have emerged as players on this scene due to their rapid growth -- assets under management have doubled in the past five years. Worried, SEC adopted a rule forcing many hedge fund advisers to register with the investor protection agency and submit to occasional inspections. Only to be beaten by a federal appeals court. But this was enough for the hedge funds, which are now trudging the beaten path to power circles. Guess it’s time to sit back and enjoy what promises to be a long drawn battle of equals (?)

Are Hedge Funds Hedging On Politics?

If you are flush with money, and don't want the government to interfere too much into your dealings, what do you do? Pump money into politicial campaigns. And that's exactly what top hedge fund managers are doing -- they are pouring millions into U.S. political campaigns ahead of November's congressional elections as the government considers what to do about the lightly policed hedge fund industry. Msnbc.msn.com reports:

Campaign finance records show 20 of the most successful U.S. hedge fund managers have pumped more than $3.1 million into campaigns so far in 2005-2006, up from about $1.1 million by the same group in the last mid-term election cycle.

Read more: Hedge fund cash flows ahead of U.S. election

Better Than A Hedge Fund

Since I’ve written about hybrid mutual funds and how you can invest in them, I think I have stoked up enough interest in this particular product. So, I guess it is time to elucidate on the subject. Firstly, let us look at certain figures I got of the web: Diamond Hill Focus Long/Short, one of the best performers in this type of fund has returns of 17.93% and 9.93% for three and five years, respectively.

How do they manage such returns? Well, they invest in all kinds of market with the ultimate goal of making money even in the case of a meltdown. Another good thing about these funds is that they strive to get absolute returns – but herein lies their greatest weakness. This need for absolute returns makes them especially volatile. So if you don’t have the stomach for such returns, you’d do better to stay away from these funds.

Like any traditional fund, a hybrid fund also own stocks or bonds. What’s different is that they may also bet on share prices falling by using hedge fund techniques like "shorting" stocks. This earns them profit from declines in the stock market. So why should anyone go in for a hybrid mutual fund instead of a hedge fund? Here’s why:

• Any hedge fund has an entry fee of at least $1 m. Not everybody has that kind of disposable money. Hybrid funds require you to pay around $25,000.
• With a mutual fund, you have access to the net asset value of your fund on a daily basis. This means you can add or withdraw money daily. This facility is not available with hedge funds, which usually have longer waiting periods during which you cannot get your money. So liquidity is at a low with hedge funds.
• Another big advantage is that with a hybrid mutual fund, you may have to pay hefty annual fees, but you will not have to give the fund a cut of your profits – whereas with hedge funds, you may have to shell out not only a fee, but also around 20% of any profits. There are more benefits, which I will write about later.

Hybrid Mutual Fund -- For The Hedge Fund Experience

Want a hedge fund experience but don't have the budget to support your desires? Don't worry, hybrid mutual funds represent a practical way to get hedge-fund-like exposure. Fool.com reports:

Hybrid mutual funds, which strive for absolute returns in all kinds of markets, are similar to hedge funds, since both have the ultimate goal of making money even if markets tumble. Hybrid funds seek absolute returns; they're not focused on beating a particular benchmark. This emphasis on returns can make hybrid funds volatile, so they aren't for everyone.

Read more: Hedge Fund Wannabes

Citigroup Revamps Hedge Fund

Citigroup Inc., the biggest U.S. bank, replaced Tribeca Global Management LLC head Tanya Styblo Beder with Dean Barr in an effort to jumpstart the hedge-fund unit's sagging returns. Citigroup's hedge funds had negative trading revenue in the three of the past six quarters. Bloomberg.com reports:

"We believe these changes will further enhance the investment performance, operational efficiency and the strategic development of the business,'' Barr and Lew Kaden, Citigroup's chief administrative officer and interim head of the alternative- investments division, said in a Sept. 7 memorandum to employees.

Read more: Citigroup's Barr Replaces Beder as Head of Tribeca Hedge Fund

No More Roar, Only Purr

Title’s confusing? Well think of evolution. We all admire the lion, but we prefer to have cats as pets because they are not only beautiful but also manageable. It’s the same with hedge funds. Over the decades, they’ve been domesticated to suit the requirements of the investors. As the hedge fund industry has grown into a trillion-dollar industry in the past few years, it has become the focus of increased attention both from investors and regulators. Most investors believe that hedge funds are their ticket to high returns and this belief has led just about everyone to jump onto the hedge fund bandwagon.

Of course, everyone wants to invest in a hedge fund once they are convinced that the term is synonymous with 25 percent-plus annual returns. But they don’t want the risks associated with such high stakes – if you win big you also lose big. How many investors have actually asked themselves what makes hedge funds so special? Are the high returns on investment due to certain techniques, mode of investment or is it something else. I’m sure most investors are just too happy earning their high ROIs to bother about modes and methods. But to understand how the high returns come, it is important to understand hedge funds.

One of the biggest misconceptions about hedge funds is that it can provide high returns on the invested amount. Yes, the rate of return is quite good when you compare it with mutual funds. However the ability of hedge funds to generate high returns diminishes as with larger asset holdings get larger. Also, there is an increased need among investors to protect their holdings. So they still want the returns, but don’t want to play too dangerous. See how the lion slowly transmogrifies into a kitten!

Hedge Funds On Mission Hollywood

You would imagine that hedge funds, which deal in billions of dollars, take innumerous risks and are at best, involved in a fun game, would have no need for glamour. At least I did. But I guess it is not easy to remain unfazed when faced with Hollywood dazzle. So what do you have now? Hedge funds that are pouring their billions into the film industry, hoping to find block-buster returns in the film business.

One reason could be that plain corporate investments are not providing the spectacular returns that a Hollywood blockbuster can. Anyway, whatever the reason, in the past three years more than $4 billion of hedge fund money has been invested in Hollywood movies, with the lion’s share going to mainstream studios looking for new sources of finance. Another reason for this growing interest in Tinseltown is that after all, even these guys – the hedge fund managers – are humans after all and cannot be immune to the stars.

Hedge Fund to buy out Rival Fund

There seems to be quite a bit of activity on the European hedge fund front. Once this volatile industry got a foothold into the European market in general and the UK market in particular, there have been rapid developments. It is today one of the most influential markets in Europe. And this upward surge has ensured that today London alone handles nearly $200 bn in funds under management.

Continuing this growth strategy is RAB Capital, the European hedge fund management and investment firm, which plans to acquire $500m fund, Northwest Investment Management. RAB, which was founded in 2004, has grown rapidly and this latest buyout marks a phase in the firm’s growth making it the second and largest acquisition. Last June, it bought Cross Asset Management, which had around $200m assets under management, for £9.5m. This latest move will increase the firm’s exposure to the emerging markets. Hedgeco.net reports:

Northwest was created in 1998 and manages a number of funds, some investing in Asian emerging markets, with one focused specifically on Japan.

Read more: Hedge Fund to buy out Rival Fund

Oppenheim Introduces Fund Of Hedge Funds To Germany

Oppenheim KAG recently launched the first fund of hedge funds in Germany in the legal form of a ‘spezialfonds’ for an institutional investor. An anonymous investor has placed €60 million into the vehicle, which is the first of its kind in Germany since BaFin, the Federal Office for Financial Services, authorised the creation of such an investment back in June. Citywire reports:

'We expect a very positive response from the market for tailor-made investment solutions in the hedge fund area,' said Rupert Hengster, spokesperson for Oppenheim KAG.

Read more: Oppenheim's new fund of hedge funds is first of its kind in Germany

In Hedge Fund V/s Mutual Fund Battle, Hedge Rules

A recent study shows that when risk was measured similarly for hedge funds and mutual funds, global hedge funds achieved higher returns than mutual funds with lower risk of loss. The study looked at more than 1,600 hedge funds for five years. Over that five-year period, almost all hedge fund styles also managed to earn much higher returns than mutual funds and with less risk of loss. Is this a conspiracy by hedge funds worldwide to show that they are a better option and offer lesser risk than the staid mutual funds? You’d be forgiven if you thought like that.

However fact is hedge funds manage to pull it off more often than not, thanks to their investment strategies. Hedge funds, unlike most conventional funds, aren’t limited to a single asset class such as stocks. Within the hedge fund universe there are a wide variety of funds with a wide range of strategies and styles. Magnum.com reports:

The strong results can be linked to performance incentives in addition to investment flexibility. Unlike many mutual fund managers, hedge fund managers are usually heavily invested in a significant portion of their funds and share the rewards as well as risks with the investors. An "incentive fee" remunerates hedge fund managers only when returns are positive, whereas mutual funds pay their financial managers according to the volume of assets attracted, regardless of performance.

Read more: Hedge Funds: Protection Against An Aging Bull

We Don’t Need No Managers

Imagine a calm trading floor – sounds quite like a paradox doesn’t it? A trading floor and calm just don’t go together; but wait till you hear the rest about this unique firm. At Sugar Quay, a former dock on the north bank of the Thames, is the headquarters of the hedge fund giant Man Group, a small number of traders quietly handle tens of millions of dollars at a time, around the clock, following directions generated by the fund’s black-box trading system, known as AHL. Revolutionary? You bet! Until now, hedge fund managers were hailed for their quirky, daring trading styles, which were supposed to be central to their success. So, have these guys, some of the smartest brains in the trade been beaten at their own game by a trio of physics majors?

AHL, named for the initials of its three founders boasts of a brain that is made up of a room full of man-high Hewlett-Packard computers. This system, which was created by three analysts who studied physics at Oxford and Cambridge Universities, boasts an annualized return of 17.9 percent since December 1990. Total returns during that time are more than 1,000 percent. Black-box trading systems, as they are known, are responsible for a growing percentage of market trading around the globe, including an estimated half of all United States stock trades and a quarter of worldwide currency trades.