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Some hedge funds lose millions in run-up to war

Date: Thursday, March 20, 2003

Reuters - Before the first shot was even fired in Iraq, a handful of hedge funds lost hundreds of millions of dollars when markets turned against them on hopes the fighting would end quickly. So-called commodity trading advisors, or CTAs, who rely on computer models to track long-term trends, were hurt badly when stocks and the dollar suddenly swung around and raced higher. Some of these funds recorded declines of as much as 25 percent in five days, sources familiar with their trading said. "For many CTAs, this was the perfect storm," said Philippe Bonnefoy, head of alternative investment strategies at Commerzbank Securities. "Most of the CTAs suffered double-digit reversals because all of the trends changed in one fell swoop, in one day, in fact." CTAs pursue a style that can, and most recently did, pay off when markets were being pummeled. But their bets on currencies, interest rates, and commodities also are considered to be more volatile than other strategies. AN ENEMY CALLED SPEED- Fund managers agree that what undid their otherwise strong performance was the speed with which certain markets skyrocketed, leaving no one any time to sense that the momentum on their established trades was ebbing away. Hopes that the war would be brief had boosted the blue-chip Dow Jones industrial average by more than 700 points in six sessions. So while mutual fund managers celebrated the stock market's rally, their hedge-fund cousins, who had bet on more bad news, scrambled to cover their short positions. And that frenzy of short-cover buying, ironically, helped fuel the stock market's rally even further. Last year, more than half of the market's roughly 200 CTAs posted double-digit returns, handily outpacing money-losing mutual funds. Some of the top performers were John W. Henry, Willowbridge Associates, Dunn Capital and Graham Capital. This month, they suffered together when their trades soured. "This hit all of us equally hard," said Christian Baha, whose funds at Quadriga Asset Management are mostly down for the month. "We have seen downturns before, but none as fast as this one." Baha's flagship fund is down about 16 percent so far in March, although it still is up 13 percent year to date. A LITTLE LESS LEVERAGE, PLEASE- But Baha is optimistic that the chance of further losses at his funds is limited now. "We were stopped out of the market and our positions are neutral now," he said. The recent losses at these funds, coupled with other hedge funds' lackluster returns, will hurt overall March performance numbers for the industry, observers said. "They did not jump on this rally with any great degree and their performance will not have been up to the extent that the general market was up in March," said Charles Gradante, principal at the Hennessee Group, hedge fund consultants. While CTAs already have taken their hits, other hedge funds are trying to play it safer. Many managers say they now prefer to use less leverage, or borrowed money, to turbo-charge trades. Many are even sitting on the sidelines on piles of cash out of fear the war will drag on or that there might be attacks on the United States to retaliate for the U.S. strikes against Baghdad. "People are more reluctant to have on trades that will wake them up at 3 in the morning to find that the whole thing has reversed against you," Bonnefoy said. "There is a sensitivity toward longevity. They want to be around in a month."