Multi Billion Fund Blocks Redemptions

In a moment of financial serendipity, earlier today we tweeted that as a result of the sudden collapse in the market's most crowded positions (which as we noted over the weekend, now face the biggest risk of a wipe out), "hedge fund redemption requests re-emerge."

It turns out we were very much spot on, because just a few hours later, the Financial Times reported that Neil Woodford, the UK's equivalent of David Tepper, has blocked redemptions from his £3.7bn equity income fund after serial underperformance led to an investor exodus, "inflicting a serious blow to the reputation of the UK’s highest-profile fund manager."

The freeze on redemptions, exactly five years after Woodford opened his eponymous fund management group, underlines his increasingly precarious position. It follows a steady stream of investor outflows, which have occurred each month for two years, with the fund shrinking by two-thirds to £3.7bn since a peak of £10.2bn in May 2017.

The severity of this latest hit to the hedge fund industry can not be underscored enough. The FT quoted a veteran fund manager who has known Woodford for more than 20 years, who said that "this is one of the bigger events for the UK asset management industry of the last decade. A bonfire of reputation and a terrible moment for investor confidence."

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Silver Hits Key Support Amid Hedge Fund Exodus

While the dollar is down around 3% year-to-date, not all dollar-denominated assets are rallying and in fact, silver is now the biggest loser among the precious metals.

Palladium's recent resurgence has pushed it back above silver for the year (though still in the red) as Gold and Platinum remain in the green for the year.

All of this has happened as hedge funds have abandoned their long positions in silver. As Bloomberg points out, hedge funds and other large speculators cut their long position in silver futures and options for a sixth straight week in the longest string of declines since August 2014.

Notably, the net speculative positioning across silver futures and options is near its lowest level in 20 years...

All of which might be useful timing as Silver is back at a historically important level of cheapness relative to Gold...

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Bridgewater's European Short Grows To A Massive $22 Billion: Here Are The Targeted Companies

In the red corner we have Mario Draghi, who runs the world's biggest and most activist central bank... and in the blue corner we have Ray Dalio, who runs the world's biggest hedge fund and has been systematically betting against the companies backstopped by his opponent.

They are set for a historic clash.

Less than a week ago, we were surprised to learn  that what was until the start of the month "only" a $3 billion short bet against a broad selection of Europe's most popular public companies, had grown into a massive $13 billion basket of shorts. Well, fast forward to today when according to the latest breakdown of his filings by Reuters, Ray Dalio has been especially busy, and since last Friday he added another $9 billion shorts, bringing Bridgewater's total short against some of the continent’s biggest companies to a record $22 billion.

While there was no offsetting data to show whether the $160 billion in AUM Bridgewater holds more European stocks than it “shorts” overall, an investor in the hedge fund firm’s Pure Alpha Major Markets strategy said that the fund had reduced its long exposure significantly this year.

And although the filings do not say when Bridgewater first took out its European short positions - our first report of Dalio's European short was back in October when the fund had a tiny $700 million short - many of its latest disclosures are recent, with some in Germany, Italy and France in the past two weeks.

As shown in the breakdown below, Bridgewater has bet against firms ranging from Anglo-Dutch consumer giant Unilever to French oil giant Total, and virtually every single prominent public bank.

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"Do I Have To Worry About Another Volatility Spike"- A Q&A With Goldman's Head Quant

After a day of conference calls with investors, Goldman's newly-hired quant Rocky Fishman has assembled the most frequently asked questions that are relevant for trading dynamics in the VIX and equities in the coming days.

Here is the result: Goldman's Q&A on the Trading Dynamics of ETPs

1. Do I have to worry about VIX ETPs driving another similar volatility spike?

Not for now, and not likely anytime soon. The large short VIX products were the primary driver of Monday afternoon's late-day acceleration in the VIX, and with them diminished ($300mm AUM now vs $3.9bln peak AUM), the quantity of VIX futures ETP issuers would have to buy on a further volatility spike is diminished as well. Levered long ETPs remain sizable ($1.1bln AUM), but per unit of VIX futures exposure, they trade less on a volatility spike than inverse products would (filling the gap between long futures that have risen and a fund NAV that has risen faster requires fewer units of futures than between a NAV and futures position that are moving in opposite directions). The higher level of VIX futures also makes an N-point move a lower percentage move than it would be with lower VIX futures prices.

2. What’s the impact of the XIV (and Japan-listed 2049) redemption? What’s the impact of the SVXY continuing to trade?

The previously sizable short VIX ETPs no longer have a significant impact on the VIX futures market because Monday's sell-off pushed their AUM down so much that their VIX futures holdings would be immaterial to the broad market (the SVXY is short less than 1% of VIX futures open interest), regardless of whether or not they continued trading.

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The "World's Most Bearish Hedge Fund" Has A "Stunning" Theory What Happens Next To The Dollar

After a rollercoaster year, the clients of Horseman Global, which in 2016 we dubbed  the world's most bearish hedge fund when its net exposure hit over -100%

...... finally got some good news when in his December letter, CIO Russell Clark announced that after returning 5.54% for December, the month emerged back in the green for the full year, up a modest 2.27%.

However, what caught our attention was not the fund's performance, which after a -24% 2016 barely closed in the green in 2017 (and suffered a dramatic plunge in AUM as a result), but Russell Clark's comments on the plunging USD, a topic which seemingly everyone has an opinion on.

Specifically, we found his comments notable because if he is right, the dollar slide will only accelerate, and will have profound consequences not only for assets, but for the US and global economy in the not too distant future.

Here is Clark's "fascinating" - as he puts it - theory about the source of dollar weakness, and more troubling, why what is about to happen next will make the recent collapse in the USD seem like a walk in the park.

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Visualizing How Billionaire Investors Hedge Against Geopolitical Black Swans

Sometimes this risk flies under the radar and isn’t as pronounced as it probably should be. However, as Visual Capitalists's Jeff Desjardins notes, in other cases, the topic of risk can catapult to the forefront of discussion. There can be specific events or signals unfolding that give investors the jitters – and during these times, investors will make adjustments to their portfolios to avoid getting caught off guard.

HOW BILLIONAIRES ARE HEDGING

In the following infographic from Sprott Physical Bullion Trusts, we explain the particular geopolitical risks that have the world’s most elite investors concerned today – and what moves they are making to protect themselves from black swans.

The world isn’t predictable at the best of times – but after unanticipated occurrences such as Brexit and the election of Trump in 2016, the geopolitical tea leaves are getting even more difficult to read.

The world is approaching a major inflection point and the intense amount of global angst we’re experiencing now stems from deep, structural forces that have been building over decades. – Reva Goujon, VP Global Analysis of Stratfor

According to Reva Goujon, VP Global Analysis of Stratfor, we are experiencing the perfect storm of “-isms”: nationalism, nativism, protectionism, and isolationism.

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"We Need More Suckers At The Table" - Quant Funds Stumble As Dumb-Money Disappears

The omniptence of artificial intelligence is unquestioned. The 'future' is automation, robotization, and algorithmic domination is the mantra of the new normal prognosticators - and anyone who challenges this world view is a luddite or 'denier'.

There's just one problem - those quantitative, AI-based, computerized algos, that are supposed to be making people obsolete in the financial markets, are in trouble. As Bloomberg reports, program-driven hedge funds are stumbling, a promising startup has closed, and once-reliable styles are showing weakening returns.

This isn’t just normal volatility confined to a single month, according to noted quant fund manager Neal Berger, the founder and chief investment officer of Eagle’s View Asset Management, a $500 million fund-of-funds that invests with 30 managers, half of them quants. Returns have been decaying for a year, suggesting the rest of the market has figured out what the robots are doing and started taking evasive action, Berger said.

Bloomberg notes that June was the worst month on record for Berger’s fund, as usually robust strategies lost their footing and the firm fell 2.4 percent. The worst pain has been among quants in the market-neutral equity space, which take long and short positions to isolate bets on price patterns and relationships.

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"It’ll Be An Avalanche": Hedge Fund CIO Sets The Day When The Next Crash Begins

While most asset managers have been growing increasingly skeptical and gloomy in recent weeks (despite a few ideological contrarian holdouts), joining the rising chorus of bank analysts including those of Citi, JPM, BofA and Goldman all urging clients to "go to cash", none have dared to commit the cardinal sin of actually predicting when the next crash will take place.

On Sunday a prominent hedge fund manager, One River Asset Management's CIO Eric Peters broke with that tradition and dared to "pin a tail on the donkey" of when the next market crash - one which he agrees with us will be driven by a collapse in the global credit impulse - will take place. His prediction: Valentine's Day 2018.

Here is what Peters believes will happen over the next 8 months, a period which will begin with an increasingly tighter Fed and conclude with a market avalanche:

“The Fed hikes rates to lean against inflation,” said the CIO. “And they’ll reduce the balance sheet to dampen growing financial instability,” he continued. “They’ll signal less about rates and focus on balance sheet reduction in Sep.”

Inflation is softening as the gap between the real economy and financial asset prices is widening. “If they break the economy with rate hikes, everyone will blame the Fed.” They can’t afford that political risk.

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How A Major Bank "Calculated" That 20x P/E Is Now "Fair Value"

Carbon-based traders of a certain vintage - which excludes today's 20-year-old hedge fund managers - may recall a time when a 15x P/E was considered "fair." Not any more. In fact, according to a new analysis by Barclays' equity strategist Keith Parker, which tries to factor in so-called "animal spirits" as a driver of valuation has found that 20x P/E is perfectly normal and fair for the current market, further demonstrating just how deep into the goalseeking rabbit hole US capital markets have fallen.

First, to prove we are not joking, here is Barclays explaining why it is important to quantify animal spirits as a input factor of "permanently high plateaued" P/E multiples:

Core drivers of the P/E multiple and animal spirit indicators

In order to estimate the effects of “animal spirits”, or the potential effects of some of President Trump’s agenda, we first model the S&P 500 P/E using the core fundamental drivers of equity valuations. We then compare the residual from the model (actual minus fitted P/E) to various indicators of “animal spirits” or potential policy changes, including: tax policy, credit spreads, inflation, macro volatility, long-term growth expectations and corporate/consumer sentiment data.

Rates, growth and payouts are the core drivers of the P/E. Using a dividend discount framework, an equity price is the present value of future dividends. Dividing both sides of the equation by earnings, the P/E multiple is equal to the dividend payout ratio divided by the cost of capital minus the growth rate. Accordingly, the US 10y yield, US real GDP yoy and the dividend payout ratio explain 57% of the movement in the S&P 500 trailing P/E multiple from 1955 to 1997. We use the 1955-97 sample period because confiscatory tax policies prior to 1955 distorted returns to equity holders (excess profit taxes, etc), and thus affected valuations, while the 1998-2001 tech bubble would also distort results.

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How Hedge Funds Closed Out 2016, And Why Hopes For A 2017 Rebound May Disappoint

2016 was a year most hedge funds would be happy to forget. And while the same goes for 2015, 2014, 2013, 2012, 2011, and 2010, in fact virtually every year since the financial crisis in which the vast majority of the two and twenty crowd have failed to generate alpha, in 2016 - a year many said would mark a renaissance for active managers - the "flash hedge fund return" according to a report by BofA's Paul Ciana from Friday was a paltry 3.34%, which as BofA conveniently calculated meant they "underperforming the S&P 500 index by 6.2%" at which point your average underperforming hedge fund manager complains that they shouldn't be benchmarked against the S&P, even as the redemption notices flood in and the AUM gets ever smaller.

Not everyone did poorly: credit related strategies lead HF performance, including Distressed Credit, Convertible Arbitrage and Event Driven strategies. On the other end, predictably, dedicated Short Bias was down 5.10%

In recent weeks there has been a fresh burst of hope that 2017 will be better for the HF community as a result of the recent collapse in cross-asset correlation; it is hoped that the resulting returns dispersion will make it easier for hedge funds to stand out in a world in which due to central bank intervention, correlations had been abnormally high following the financial crisis.

But is that an accurate description of events?  To a great extent, the answer is no.

While correlation between diversified HF performance and S&P 500 price return declined from the May 2016 high (Chart 1), the 1-year correlation (83.7%) was slightly above the 3-year correlation (83.0%) as of the end of November. Overall, correlation remained far higher than it has been historically. Which as BofA redundantly explains, means that "when S&P 500 declines, performance of HFs with higher positive correlation is expected to suffer."

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October Was The Worst Month For Hedge Funds Yet This Year

Another month, and the pain for the hedge fund industry just keeps getting more intense.

According to the latest Evestment report, investors redeemed an estimated net $14.2 billion from hedge funds in October. Year-to-date, there has been  a net $77.0 billion removed from the industry.  October’s outflow was the fourth month of redemptions in the last five and seventh in 2016. Due to the  breadth of products experiencing outflows, and the persistence of redemptions outweighing new allocations, it is clear the industry is experiencing a crisis -like wave of negative investor sentiment.

One almost wonders how much higher the market can keep rising with redemption requests flooding countless back offices. We hope to find out soon.

Here are the rest of the details on the latest, ongoing, troubles facing the hedge fund industry which, unless something drastically changes soon may end up being a "zero hedge" industry:

The breadth of redemption pressure in October was the industry’s largest in 2016 with 61% of reporting funds estimated to have net outflow during the month. The last five months have accounted for the majority of the industry’s redemptions in 2016, a time frame which aligns with investors’ processes for analyzing 2015 results, and taking actions on those decisions.

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Private Equity Energy Funds Did So Badly They Might Have to Do the Unthinkable – Pay Clawbacks

The law firm Akin Gump issued a warning that might chill the bones of some private equity general partners: clawbacks may be a-comin’. From the firm’s website:

In recent months, managers of private equity funds in the energy sector have been facing a scenario they likely never imagined: having to return millions of dollars of their “carried interest” earnings back to investors.

For newbies to this private equity practice, private equity funds typically pay the profit share, prototypically 20% once a target rate of return has been met. What creates the possibility of a clawback is the fact that for most US funds, the profit computation and any payouts are made every time a portfolio company is sold. By contrast, in “European” deals, the carry fees are paid only at the end of the fund’s life.

The conventional US approach, combined with strong general partner incentives to realize profits on at least some promising deals early in the fund’s life, means that the general partners can pay themselves carry fees that are more than they deserved once the impact of doggy companies, which are sold late in the fund’s life, are factored in. Hence the limited partnership agreements provide for “clawbacks,” as in the recovery of overpayments of carry fees.

Yet as we’ve written, clawbacks are almost never paid in practice. Why? First, the clawback provisions have tax language that is very favorable to the general partners, and has the economic effect that they can hang on what are excessive carry fees based on raw cash flows. Second, possession is 9/10ths of the law. In those instances where the general partner owes limited partner clawbacks, the general partner usually goes to the limited partners and offers them a special deal (details often unspecified!) on their next fund. Needless to say, this approach has the desirable effect of pre-committing those limited partners.

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OPEC Ignites Biggest Short Squeeze In History: Hedge Funds Cut Oil Shorts By Most On Record

Ever since the February crash, when oil tumbled to 13 years lows, and when OPEC started releasing tactical headlines at key inflection points about an imminent oil production freeze (which not only never arrived but has since seen Saudi Arabia's output grow to record levels) which we first suggested were meant to trigger a short squeeze among headline scanning HFT algos, our suggestion was - as is often the case - dismissed as yet another conspiracy theory.

Six months later, this conspiracy theory is now a widely accepted fact, and as Bloomberg reports tonight, "well-timed" OPEC talk of a potential deal to freeze output, has "forced bears" into a historic squeeze and helped push oil close to $50 a barrel, prompting West Texas Intermediate from a bear to a bull market in less than three weeks.

"This is all courtesy of some very well-timed comments from the Saudi oil minister," said John Kilduff, partner at Again Capital LLC, a New York hedge fund focused on energy. "They’ve been successful over the last year in jawboning the market, and this is the latest example."

And while one can debate whether OPEC's "headline" leaks are timed to coincide with near-record short positions on WTI, one thing is certain: the past week saw the biggest crude oil short squeeze on record as money managers cut bets on falling prices by the most ever.

According to Bloomberg, Hedge funds trimmed their short position in WTI by 56,907 futures and options during the week ended Aug. 16, the most in data going back to 2006. And, as one would expect following yet another record short squeeze similar to the one experienced earlier in the year, WTI futures rose 8.9% to $46.58 a barrel in the report week and closed at $48.52 a barrel on Aug. 19. WTI is up more than 20 percent from its Aug. 2 low, meeting the common definition of a bull market.

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The SEC Fines a Private Equity Firm for Broker-Dealer Fee Violations. Are KKR, Apollo, Blackstone, TPG, Carlyle and Lots of Others on Its Hit List?

We’ve been writing for some time about the peculiar failure of the SEC to target private equity firms for acting as unregistered broker-dealers. The agency has finally roused itself and has fined an itty bitty firm, Blackstreet Capital Management. Needless to say, it’s not clear whether the agency is simply putting the industry on notice that it needs to clean up its act and register if they continue to collect transaction fees from portfolio companies, or whether it is warming up for larger enforcement actions.

If the latter, it would be a very big deal, because this is considered to be a serious violation of securities laws and the punishment is therefore hefty: dollar for dollar for the amount of fees impermissibly charged. The SEC applied the classic dollar-for-dollar formula in the case of Blackstreet. If you read the order, the total amount to be disgorged of $2,339,000 is the sum of the transaction fees of $1,877,000 (p. 5), plus the impermissible operating partner fees of $450,000 (p. 5), plus the political contributions of $12,000 (p. 6).

We discussed in a 2014 post how widespread this misconduct is:

The Bloomberg story acknowledges that the billions in fees collected by the PE industry over decades appear to have been illegal, noting that an SEC official “…signaled in a speech last year that transaction fees the private-equity industry had been taking for decades may have been improper because the firms weren’t registered as broker-dealers….

The industry flack also claims that the billions paid in transaction fees were not for broker-dealer services (although the argument is so absurd it doesn’t seem to be made with much enthusiasm). Yes, Washington DC is a generally fact-free zone, but let’s look at the language from an actual transaction agreement:

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Hedge Funds Want a Pony, Um, Permanent Capital, as More Investors Exit

The latest fantasy, even as funds are facing high levels of redemptions when super-low and negative rates ought to make them on of the places to be, is that they should get even better terms. Their pet ask is “permanent capital” as in really long lockups. Yes, and I would like to have a pony. When times are tough, vendors give concessions rather than increase their demands. There’s no indication that the fund managers who want to tie up investor money are prepared to give a big break commensurate with the loss of liquidity, like considerably lower fees.

The Financial Times story does point out that many funds now have monthly redemptions, which looks like a symptom that the fundraising environment has become more difficult than hedgies want to admit. In the early 2000s, only fledging funds offered monthly liquidity; quarterly was the norm, and some funds could limit redemptions to once a year. Monthly redemptions can be highly disruptive, since investors will be tempted to use the hedge fund as a source of liquidity independent of fund performance. Having investors sell (and put funds back) on short notice not only makes it hard to run an investment strategy (which assets do you sell?) but it can lead to cascading sales. If one investor sells enough, it may put another investor at over 10% of fund assets, which is prohibited by the investment policies of many institutional investors. So that investor will have to sell to get back down to 10%, which has the potential to trigger more partial exits.

However, there is a world of difference between getting away from disruptive monthly liquidations and “permanent capital.” George Soros, one of the fathers of the hedge fund industry, always ran his funds with the view that he could liquidate them readily if needed. Despite his successes, he’d never seemed to have forgotten his childhood experience of fleeing the Nazis. Being able (in theory) to shutter his business and take his winnings on short notice was important to his sense of security.

Yet we hear unsubstantiated claims that hedge funds are just about to become the place to be:

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Hedge Fund Comeuppance: Firms Hunker Down, Start to Cut Fees as Investors Wise Up and Withdraw Money

Some Masters of the Universe are having their wings clipped. Hedge fund have continued to charge rich fees even as their results not only became more correlated with stocks but have undershot them. In other words, they’ve repeatedly failed to deliver on their raison e-etre: superior results, or failing that, useful diversification.

Investors, who’ve historically been dazzled by the promise of hedge fund alchemy, are finally realizing that what they have bought is dross and have finally decided enough is enough. In late 2014, CalPERS stunned the investor community by saying it was exiting hedge funds. Last month, the New York City pension system said it was terminating its $1.7 billion program. The Illinois State Board of Investments decided to cut its hedge fund commitments by $1 billion in 2016, while AIG said it will trim its $11 billion allocation by 50%. The New York Post reported that the $3.2 trillion industry could see as much as $500 billion in withdrawals this year.

These gloomy forecasts come on the heels of the marquee annual hedge fund conference, the SkyBridge Alternatives at the Bellagio in Vegas. But even a bad year does not look all that bad from Hedgistan. From Institutional Investor:

… industry titans rubbed shoulders with business legends like T. Boone Pickens, political heavyweights such as John Boehner and Hollywood celebrities including Will Smith and Ron Howard. But despite the A-list delegates and luxe environs — some 2,000 conference guests enjoyed lavish pool parties, VIP dinners, private concerts with the Killers and the Wailers, a pop-up salon and free spin classes — the mood this year was almost somber. And it’s easy to see why: After years of mediocre aggregate performance, followed by a terrible first quarter, hedge fund managers are enduring withering criticism from investors. And some of these investors are voting with their feet.

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"This Is Much Larger Than Subprime" - Here Are The Legendary Hedge Funds Fighting The Chinese Central Bank

One month ago, we first revealed that for one prominent winner from the subprime crisis, Hayman Capital's Kyle Bass, "the greatest investment opportunity right now" is to short the Chinese Yuan: as he explained "given our views on credit contraction in Asia, and in China in particular, let's say they are going to go through a banking loss cycle like we went through during the Great Financial Crisis, there's one thing that is going to happen: China is going to have to dramatically devalue its currency." He even went so far as to give a timeframe: "we think it's going to be in the next 12-18 months."

Then, during the Davos boondoggle, none other than the man who broke the Bank of England, George Soros, noted that he too is shorting the Yuan, which in turn prompted China's communist party mouthpiece, the People's Daily to officially warn Soros to back off adding in a petulant, schoolyard bully-ish voice "You Cannot Possibly Succeed, Ha, Ha." Yes, China really said that.

Then, just last week, in a sad letter in which Bill Ackman blamed everyone and everything for his pathetic performance in 2015, most notably hedge fund herding and hotels, which he was so eager to exploit on the way up with presentation-filled idea dinners, and so eager to blame for dumping his names on the way down, we found out that Ackman had also decided to put on a Yuan devaluation trade just days before the Yuan devaluation announcement (perhaps he read our post from August 8, which said that a devaluation is imminent 3 days before it was revealed):

"Last summer, we built large notional short positions in the Chinese yuan through the purchase of puts and put spreads in order to protect the portfolio in the event of unanticipated weakness in the Chinese economy...Two days after we began to build our position in the Chinese yuan, China did a 2% surprise devaluation which substantially increased the cost of the options we had intended to continue purchasing. We continued to build the position thereafter by buying slightly more out of the money puts and selling further out of the money puts so as to keep the cost and risk/reward ratio of the position attractive."

Sadly, Ackman has still to make money on this trade.

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