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Scholes Among Losers as Hedge Funds Slump in October

Date: Monday, November 10, 2008
Author: Saijel Kishan and Katherine Burton, Bloomberg

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Hedge funds run by Jeffrey Gendell and John Burbank III posted their worst monthly losses in October. Peter Thiel gave back gains made earlier in the year. Nobel-prize winner Myron Scholes froze his biggest fund.

The managers, like many in the $1.7 trillion hedge-fund industry, were caught in a downdraft of market declines, client redemptions, demands from lenders for more collateral and forced asset sales that accelerated after Lehman Brothers Holdings Inc. collapsed in mid-September.

Funds fell by an average 5.4 percent last month, pushing the year-to-date drop to 15.5 percent, according to the HFRI Fund Weighted Composite Index compiled by Chicago-based Hedge Fund Research Inc. Investors have been handed losses for five straight months, the longest streak since HFRI started the index in 1990.

``October was the perfect storm for liquidity drying up, especially in the credit markets,'' said Gary Vaughan-Smith, co- founder of London-based SilverStreet Capital LLP, which has $600 million invested in hedge funds for its clients. ``We are through the worst and the turmoil should be gone by the end of November.''

Buffett Losses

While hedge funds have held up better than actively managed mutual funds or index-based investments, losses in 2008 are almost certain to be the biggest on record. U.S. global equity mutual funds fell by an average of 39 percent in the first 10 months of the year, according to data compiled by Bloomberg. The Standard & Poor's 500 Index was down 34 percent. Warren Buffett told investors last week that Berkshire Hathaway Inc.'s stock and derivatives contracts tumbled by $9 billion, or 8 percent, in October.

The hedge-fund industry's only unprofitable year was 2002, when the HFRI index shed 1.45 percent and the S&P 500 tumbled 23 percent.

Hedge fund investors have reacted by requesting withdrawals that may reach 15 percent of assets in the U.S. and 25 percent in Europe, Huw van Steenis, a Morgan Stanley analyst in London, told clients last month. Combined with investment losses, industry assets may drop by 24 percent to $1.3 trillion in the fourth quarter, van Steenis said.

Funds Not 'Broken'

``I don't think the hedge fund model is broken,'' said Jaeson Dubrovay, head of the $19 billion hedge-fund group at Cambridge, Massachusetts-based consulting firm NEPC LLC. ``We just need to loosen the credit spigots to get the system working again. We don't anticipate that they will be loosened in any way like they were before.''

Hedge funds are private, largely unregulated pools of capital whose managers can buy or sell any assets, bet on falling as well as rising asset prices and participate substantially in profits from money invested. They typically charge fees of 2 percent of assets and 20 percent of investment profits.

Hedge funds' 5.4 percent loss in October was the second- worst month for the industry this year, after a decline of 5.96 percent on average in September. The index's worst month since inception in 1990 was August 1998, when it lost 8.7 percent as hedge fund Long-Term Capital Management LP imploded.

Convertible-bond hedge funds were the worst-performing category, losing 19 percent in October and 35 percent for the year, according to the HFRI Fixed Income Convertible Arbitrage Index.

Gendell's Tontine Capital Partners LP fund, based in Greenwich, Connecticut, plunged 65.7 percent in October, extending its decline for the year to 76.8 percent, according to investors. Burbank's Global Strategy fund fell 38 percent in the month and 44 percent year-to-date, according to a letter to clients of his San Francisco-based based Passport Capital Management LLC.

Citadel Declines

Ken Griffin, founder of Citadel Investment Group LLC, lost 22 percent last month in his Kensington and Wellington funds, extending the year-to-date-slide to 39 percent, according to people familiar with the firm.

Chicago-based Citadel, which oversees $16 billion, held a conference call with investors Oct. 24 to dispel speculation that it was liquidating. Griffin, 40, told Citadel bondholders that the firm had $8 billion in untapped bank credit and 30 percent of its assets in cash, and faced ``modest'' client redemptions.

Some managers have seen gains from the first half of the year evaporate. Clarium Capital Management LLC, the hedge-fund firm run by PayPal co-founder Thiel, slumped 18 percent in October, according to estimates given to investors. The San Francisco-based firm's Clarium LP fund reported a year-to-date decline of 2.8 percent, wiping out the 58 percent gain from the first half.

Erased Gains

Harbinger Capital Partners Fund, run by Philip Falcone, dropped about 5 percent in October, bringing its loss for the year to about 13 percent, according to investors. The New York- based fund was up 42 percent at the end of June.

Blue Mountain Capital Management LLC of New York and London, Scholes's Platinum Grove Asset Management LP in Rye Brook, New York, and Deephaven Capital Management LLC of Minnetonka, Minnesota, were forced to freeze investor withdrawals after a surge in redemptions.

``We continue to re-evaluate hedge funds,'' Brad Alford, head of Alpha Capital Management LLC in Atlanta, which invests in hedge funds, said in an interview. ``They should do better.''

Managers that made money last month include Christian Levett, whose Clive Capital LLP fund advanced 19.8 percent, bringing its annual return to 43 percent, according to investors. The firm manages more than $2.5 billion from London.

October Money-Makers

Ionic Capital Management LLC, a $3.5 billion hedge fund run by former Highbridge Capital Management LLC executives Bart Baum, Adam Radosti and Dan Stone, rose 8 percent in October, extending its gain to 16.5 percent for the year, according to a person familiar with the New York-based firm.

John Paulson's New York-based Advantage Plus Fund, which rose 3.8 percent last month, extending its increase for the year to 29.4 percent, according to investors.

Bruce Kovner, who runs Caxton Associates LLC in New York, posted a 2.6 percent return in October for his Caxton Global Investment Ltd. fund, which has climbed 7.25 percent so far this year.

Chris Shumway, who runs Shumway Capital Partners LLC, made 0.85 percent last month in his CP Ocean Fund Ltd., bringing the fund's loss for the year to 8.24 percent.

Officials at all the hedge funds declined to comment. Below are selected hedge-fund returns for October and this year:

Fund                     Oct. (%)            YTD (%)
Tontine Capital Partners -65.7 -76.8
Passport Global Strategy -38 -44
Platinum Grove Contingent -29* -38
Citadel Kensington -22 -39
Clarium -18 -2.8
Greenlight Capital -13 -26
Third Point Offshore -10.3 -26.9
Farallon Capital -9 -23
Harbinger -5 -13
SCP Ocean Fund Ltd. +0.85 - 8.24
Caxton Global +2.6 + 7.25
Paulson Advantage Plus +3.8 +29.4
Ionic Capital +8 +16.5
Clive Fund +19.8 +43
BlueGold Capital +29.5 +162

*Through Oct. 15 Source: Investors, Fund letters

To contact the reporters on this story: Saijel Kishan in New York at skishan@bloomberg.net; Katherine Burton in New York at kburton@bloomberg.net