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Hedge funds flaming out- Savoy latest casualty?

Date: Wednesday, September 27, 2006
Author: Lori McLeod, Financial Post

Hedge funds operating in the frothier parts of the market continue to show signs of distress, and the latest Canadian casualty appears to be Savoy Capital Management, run by well-known Calgary-based stock picker Gene Vollendorf.

While the future of Mr. Vollendorf's 'Gladiator' funds is unclear at this point, sources said the money manager known for his prowess in picking small-cap stocks, has frozen redemptions and may be in the process of winding up his funds. Mr. Vollendorf wasn't immediately available for comment.

"A real alpha stock-picker guy, [Mr. Vollendorf] blew up in terms of returns," and has been liquidating his holdings for about a month, a source said. The funds' performance was hurt by risky micro-cap stocks, and more recently by the drop in energy prices, he added.

One of these funds, the Savoy Gladiator Absolute Return Canadian fund, was down 9.38% in the six months ended Aug. 31, according to Fundata Canada.

The S&P/TSX composite was up 4.61% in the same period.

Savoy, which a source estimated has between $100-$200-million in assets under management, is much smaller than another troubled fund with a Calgary link, multi-billion-dollar hedge fund Amaranth Advisors LLC. This month Amaranth revealed a US$6-billion loss based on a bad bet on the direction of natural gas prices by the Calgary-based head of its energy desk.

The highly competitive money-management business may be leading some small and large firms to take on more risk than they can handle in their quest for so-called "alpha," or returns that aren't linked to the market. This includes making bets on the hottest parts of the market, most recently mergers and acquisitions and commodities, without adequate risk management.

"The problem is there are tons of these guys that have no handle on their risk controls," one hedge fund analyst said.

The pressure to perform gets even stronger with the approach of year-end, when money managers have to file their yearly audited results.

"If you're a manager whose fund is up 4% on the year and your investors could be up 5% in a GIC, you have to do something to justify your fees," said Peter Hodson, investment strategist at Sprott Asset Management.

Despite the name of the asset class, there are also many hedge funds out there that really aren't hedging out risk for investors, Mr. Hodson added.

This includes some of the activist hedge funds, which buy stocks on the hopes of an event such as a takeover but may not have a backup plan if nothing happens. Volatile markets and impatient copy-cat investors can also conspire to hurt these firms' investment returns.

"Some of these funds are struggling, since if they don't get what they want, what they could end up with is simply an investment in a crappy company," Mr. Hodson said.

Since these funds often take large stakes in the companies they target, trying to back out of their investments without triggering a fire sale can be tricky. Connecticut-based Pirate Capital LLC, known in Canada for encouraging the sale of Whistler ski resort owner Intrawest Corp., is reportedly being investigated by the U.S. Securities and Exchange Commission over an alleged failure to properly disclose its sale of shares in a U.S.-based chain, OSI Restaurant Partners.

All of this recent bad news is more likely to trigger concerns about investment performance than the hedge fund industry as a whole, Mr. Hodson said.

"This isn't so much a crisis of confidence as a case that people will be watching funds much more closely because they aren't generating better returns," he said.

For example, fund of funds, which invest in a number of hedge funds on behalf of investors, are likely to step up their due diligence on money managers' holdings and strategies, another hedge fund manager said.

While other industries have similar issues, the "grandiose personalities" of some hedge fund managers has probably drawn these firms more than their fair share of attention, he said.

"There's clearly evidence that some people have been stretching, but drawing a correlation between these recent headlines is very tough to do. Amaranth probably won't help the industry, but people have to remember, hedge funds are made up of many, very different, strategies."

Savoy Freezes Redemptions
Canadian hedge fund firm Savoy Capital Management has frozen redemptions and could be in the process of winding up its funds.

According to a report in the National Post, the Calgary-based firm has been liquidating its positions for about a month and has suspended all redemptions. A call to the firm was not immediately returned.

Savoy's Gladiator funds, run by stock guru Gene Vollendorf, have had negative returns of nearly 10% for the last six months, the report said.

The funds were reportedly hit by the drop in energy prices, but not nearly as hard as another Calgary-based manager, Brian Hunter, who lost billions of dollars for multi-strategy fund Amaranth on bad bets on natural gas prices.

Vollendorf founded Savoy in 2000 after leaving Bissett & Associates Investment Management. Unlike Amaranth, the firm uses a maximum leverage of 50%. Amaranth's energy portfolio was leveraged more than 10 times that amount.