Risk <> Historical Volatility…
An “unforeseen” risk has once again reared its head globally, leaving many hedge funds and FX brokerage firms facing catastrophic losses from shorting the Swiss Franc. The losses came as the Swiss National Bank removed a three year old cap on the currency, sending the Franc soaring as much as 40% relative to the Euro. The cap had kept volatility on the currency low, allowing traders to take large positions with very limited apparent risk. A hedge fund consultant quoted on Bloomberg said that many hedge funds were leveraged 20 times or more on the trade, meaning a 5% move would wipe out a fund’s capital. While this seems a bit extreme, clearly many firms were leveraged on the trade as every day seems to shine light on another hedge fund suffering large losses. Everest’s largest and oldest fund (the fund launched in 1990 and had more than $800 million in assets) appears to have been wiped out in a single day. In addition to funds, many currency brokers suffered massive losses as margin requirements failed to protect brokerage firms as losses mounted well beyond minimum margin requirements. This left brokerage firms massively exposed to their clients’ ability to post adequate margin.
The lesson taught by this most recent shock to the investment community is one that has been taught over and over in the past, from LTCM to Amaranth to the 2008 financial crisis. Volatility assumptions based on historical volatility plus excessive leverage may lead to catastrophic losses at some point. Unfortunately, it seems this is a lesson almost always quickly forgotten…
Liquid Alts Corner
Market neutral flows during December were dominated by two PIMCO funds, PIMCO Worldwide Fundamental Advantage Absolute Return Strategy Fund and PIMCO Fundamental Advantage Absolute Return Strategy Fund. The two funds accounted for almost $2.3 billion of outflows during the month. However, PIMCO had the largest net inflows in the Long/Short category with the newly launched PIMCO Worldwide L/S Fundamental Strategy Fund bringing in more than $1.6 billion. This leads to a reasonable assumption that the flows were capital moving between PIMCO’s different funds. The Gotham Absolute Return Fund continued to raise assets in the long/short category, bringing in more than $300 million during the month and almost $3 billion for the year. Not faring nearly as well has been the MainStay Marketfield Fund which saw more than $2.5 billion in outflows during the month and nearly $8 billion for the year. Within the multialternative category Absolute Return Strategies Fund, one time category leader, saw $50 million leave in December bringing 2014 outflows to nearly $1.5 billion. The John Hancock Global Absolute Return Strategy Fund was the top multi-alternative asset gatherer for both the month and the year, with inflows of almost $400 million and $1.6 billion, respectively.
Calamos Launches Two Liquid Alts Funds
The Calamos Global Convertible Fund and the Calamos Hedged Equity Income Fund began operations on December 31, 2014, with $5 million and $10 million under management, respectively.
The Calamos Global Convertible Fund blends global investment themes and fundamental research, providing broadly diversified exposure to the global convertible bond universe. The fund seeks to provide upside participation in equity markets with less exposure to downside than an equity-only portfolio over a full market cycle. The fund can also serve a role within a fixed-income allocation, as convertibles have historically performed well during periods of rising interest rates and inflation.
The Calamos Hedged Equity Income Fund continues the firm’s history of providing liquid alternative strategies, including covered call writing. The Calamos Hedged Equity Income Fund invests in a diversified portfolio of stocks and sells options with the aim of generating income while participating in equity market upside with lower volatility over the long term.
Hedge Funds In The News
Pershing Square Top Hedge Fund of 2014
Just 12 months ago articles were being written ridiculing many of Bill Ackman’s 2013 decisions which included an extremely public and painful Herbalife short position. That position turned around, and several other large bets paid off in 2014 leading Ackman’s Pershing Square to the top of the hedge fund field. It’s both amazing and a little frightening the difference that one year can make!
Right now, Ackman is on top of the hedge-fund world. Thanks in part to his move on Allergan, the maker of Botox, Pershing Square International posted a return of 32.8 percent for the first 10 months of 2014, making it the No. 1 fund in Bloomberg Markets’ annual ranking of the best-performing large hedge funds.
And that was before the Allergan battle came to a head in November. By year’s end, Pershing Square International had gained another 10 percentage points.
Other Top Hedge Funds Profit from Wall Street “Mistakes”
Ackman’s close competition last year included a pair of credit focused hedge funds that were able to generate considerable profits on the back of Wall Street mistakes:
Brett Jefferson told his 5-year-old son this about Wall Street recently: “Never will you find a place where so many smart people do so many stupid things.” That’s a good deal for Jefferson, 49, who has been profiting from bankers’ blunders for more than a decade. His hedge-fund firm, Stamford, Connecticut–based Hildene Capital Management, vacuums up complex securities when others are shunning them as toxic junk. So does Michael Craig-Scheckman’s Deer Park Road Corp., Bloomberg Markets magazine will report in its February issue.
“We make money because people on Wall Street make mistakes,” says Craig-Scheckman, 62, whose firm is based in Steamboat Springs, Colorado. Six years after the 2008 debt crisis exposed how clueless the smart people on Wall Street can be, both men are profiting from what could be called the schadenfreude trade — buying for pennies what big investment banks once flogged for dollars. Their bottom-fishing lifted them into the top five of Bloomberg Markets’ annual ranking of the best-performing hedge funds managing $1 billion or more.
Craig-Scheckman’s STS Partners Fund, up 23.9 percent in the 10 months ended on Oct. 31, took third place. Jefferson’s Hildene Opportunities Fund, up 23.6 percent, came in fourth.
In The Classroom
Among the growing number of hedge fund-like strategies appearing in mutual fund form, investors can now choose from a few dozen “global macro” funds. These types of funds can follow a myriad of investment philosophies, as demonstrated by the fact that the most cited global macro hedge fund index, the HFRI Macro Index, has six distinct sub-components, as follows:
- Active Trading Index
- Discretionary Thematic Index
- Systematic Diversified Index
- Commodity Index
- Currency Index
- Multi-Strategy Index
In the mutual fund world, most macro funds have found a home within either Morningstar’s Multialternative or Non-traditional Bond categories. One size most certainly does not fit all in this space; however, there are common factors across global macro strategies.
If you’d like our thoughts on the subject, please click here.
Ending where we started, the quote of the month: “As if millions of macro hedge funds suddenly cried out in terror and were suddenly silenced.”
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