Hedge Funds Seeking Gains in Greek Crisis

Date: Monday, July 4, 2011
Author: Julie Creswell, The New York Times

It has been a tough year for the London-based hedge fund Algebris Investments.

Algebris, a $1.3 billion fund that focuses on global financial stocks, was down about 7 percent for the year through late June because of shares it held in European financial companies. Those stocks fell sharply recently amid fears they could have losses if Greece defaulted on its debt.

Still, undaunted by the risks that the Greek crisis could spread to other countries, managers at Algebris decided to buy more shares of European financial companies on the cheap.

“The volatility in the market gave us the opportunity to buy a number of stocks of European banks and insurance companies where we think there is tremendous value and the risk of systemic meltdown was very low,” said Eric Halet, a co-founder of the fund.

As Greece’s fiscal turmoil has rattled global equity, bond and currency markets, hedge funds have scrambled to figure out how to make the big score.

Last week, financial markets rebounded sharply on news that the Greek Parliament had approved a tough austerity package, a move that staved off a default and was a condition for further international assistance.

Over the weekend, European ministers agreed to finance Greece through the summer but deferred crucial decisions on a second bailout.

After a two-hour conference call late Saturday, the finance ministers from the 17 euro zone countries said they would sign off on an 8.7 billion euro, or $12.6 billion, loan to Greece, part of a 110 billion euro package agreed upon last year. The board of the International Monetary Fund was expected to approve its part of this installment, 3.3 billion euros, or $4.8 billion, within days.

Without the loans, the Greek government faced the prospect of insolvency in weeks. But with Greece still struggling to shore up its finances, European finance ministers also need to put together a second package of loans to help it through 2014. That bailout is expected to amount to 80 billion to 90 billion euros but, because of conflicts over the extent of private sector involvement in the effort, the package may not be agreed upon until September.

Wolfgang Schäuble, the German finance minister, said that the new program could “be completed before the release of the next tranche in the autumn — provided, as always, that the implementation of the program in Greece takes place as planned,” Reuters reported from Berlin.

“Greece has enough cash over the summer so the very acute worry that Greece would be unable to pay in July has gone,” said Nicolas Véron, senior fellow at Bruegel, an economic research institute in Brussels. “But Europe has not been proactive for some time, and it will probably remain in strong crisis management mode over the next few weeks.”

Constrained by the unpopularity of bailouts at home, political leaders appear able to act only at the 11th hour, when they have no alternative, Mr. Véron said.

“The E.U.’s institutions are not effective, and the bigger the crisis, the less effective they are,” he said. “Discussion is driven by governments accountable to domestic constituencies and not to the E.U. as a whole.”

The twists and turns of the crisis and the whipsaw market activity are making it tough for some hedge funds to maneuver.

While it is possible that a hedge fund received a hefty payday from betting that the euro would rise in value against the dollar or that Greece would not default on its debt, no big winners have emerged, several hedge fund investors and managers said.

Only nine out of the more than 300 hedge funds tracked by HSBC’s private bank through mid-June showed double-digit returns this year, and the best-performer, Jat Capital, which bets on high-flying technology and Internet stocks, was up about 19 percent. In a separate survey, hedge funds tracked by Lyxor Asset Management showed that almost every fund across nearly every strategy lost money in June.

Some investors said that many hedge funds appeared to have sat out much of the euro zone crisis, particularly in bets involving Greek sovereign debt, concluding it was a “no-win situation,” said Gerlof de Vrij, the head of the global asset allocation team at APG Asset Management in the Netherlands, which oversees $395 billion in investments for seven Dutch pension funds.

“If you were long Greece, your investors are going to ask, how could you be long? Why didn’t you see all the difficulties? And if you’re short, people will blame you for being a speculator and for all of the problems the country has,” Mr. De Vrij said.

Those sentiments were echoed by Philippe Jabre, the former star trader of British hedge fund GLG, who now oversees Jabre Capital Partners, which is based in Geneva.

“The hedge fund industry, in general, is being sidelined because we know things will be tougher, we’re just not sure where it’s going to come from, so we’re trying to reduce our exposure,” Mr. Jabre said. He noted, for instance, that his firm had reduced its holdings of European banks.

“The problems could come from stocks, could be bonds, could be banks, could be the illiquidity of the market or a change in the short-selling rules. All of these things could come back and hurt hedge funds,” he said.

Concerns that European regulators could suddenly ban short selling or take another unusual step to shore up their banks caused Pedro de Noronha, the manager of the $36 million Noster Capital Fund in London, to close out short positions, or bets he had made that European bank shares would fall, some time ago. He positioned his fund instead to bet that the sovereign debt of emerging-market countries could run into trouble.

“The problem with being short the European banks is that politicians will do everything they can to save them,” said Mr. De Noronha. “You’re fighting against people who can change the rules of the game in the middle of the game.”

Still, investors say hedge funds were active as much as 12 to 18 months ago in putting on positions through credit default swaps — contracts that would pay out in the event of a default — to benefit from rising concerns about the fiscal health of Greece, Ireland and Portugal.

As the price of those contracts became too expensive, some hedge funds moved into credit-default swap contracts for the sovereign debt of larger, more stable European countries, like Germany or even France, betting that those contracts could become more valuable. Others used credit-default swap contracts to bet that certain European banks that held Greek debt would run into trouble.

In June, amid the Greek crisis, the cost to insure Greek sovereign debt more than doubled from a year ago while the cost to insure German sovereign debt was virtually the same, according to Markit, a financial data business in London.

“I don’t think Germany is going to default, but I think the threat of default is going to increase massively,” said Mark Yusko, the president of Morgan Creek Capital Management, which invests in hedge funds.

Investors say hedge funds that bet the euro would tumble in value against the dollar, as countries in the euro zone came under pressure from high debt levels and low economic growth, had losses as the euro rose against the dollar.

“There were hedge funds who viewed that the Greek problems might lead people to question the survival of the euro as a common currency,” said Eric Weinstein, who oversees $4 billion in investments in hedge funds at the asset manager Neuberger Berman. “They shorted the euro, believing it would drift lower towards a possible breakup,” he said. “Those who shorted the euro versus the dollar have had that trade work against them as it has gotten stronger.”

Mr. Halet and Davide Serra, a former financial analyst star with Morgan Stanley, co-founded Algebris in London in 2006, and decided to focus strictly on investing in global financial stocks.

Some bank stocks have been under pressure from potential losses and downgrades from the ratings agencies because of the Greek debt they hold. In addition, investors have worried the additional capital requirements that regulators in the United States and Europe are demanding to shore up the banking systems and prevent broader systemic risk will sharply reduce profits.

Still, the Algebris co-founders said the market overreacted to those concerns.

“The market has been very concerned and very spooked about the possibility of a Greek default in July, whereas the decisions that have taken place in the last three weeks made that outcome less likely,” Mr. Halet said in an interview before the Greek Parliament voted last week.

“Yes, we do have exposures to European financials. We are not doing great,” he said. “But we’re not doing worse than many other hedge funds.”