Third Point Management fund manager Daniel Loeb told his investors last night the firm is the target of a formal investigation being conducted by the Securities & Exchange Commission. According to Loeb, the subject of the investigation is his communications with other hedge funds.
The investigation appears to be an outgrowth of a conspiracy theory that a cadre of hedge funds engaged in nefarious campaigns of rumor-mongering and aggressive short-selling aimed at bringing down companies like Bear Stearns. The fact that the companies crying foul have lost billions and suffered from serious transparency problems is deemed irrelevant; bad management doesn't destroy companies, short sellers do, according to this line of thinking.
Loeb wrote that questions about the fund's communications were first raised during a routine audit last year, but added that its lawyers had said that such communications were legal under federal securities laws.
Some market signals are well-known and easily understood. Others are arcane and more-complex, but just as telling.
There's mounting evidence that the "carry trade" is ending, or that at least institutional investors are decreasing their use of it as an investment tactic.
In a carry trade, investors, especially institutional investors, borrow funds in a country with a low interest rate (or borrowing cost) and buy assets in a country where returns are higher. The investment can take many forms, including stocks, bonds, funds, or even the higher-interest currency itself.
Carry trade: A growth confidence indicator
Now, investors/readers may legitimately ask, Why is it important to know what's happening to the carry trade?
Economist Peter Dawson told BloggingStocks that it's important to monitor carry trade flows and data because it's one indicator of investor confidence in a market's ability to produce a return on equity, and by extension, in its economy to grow.
In other words, the carry trade abounds when investors are confident; it wanes when they're not, he said.
Start with a few speculative stocks. Add a distressed-debt corporate bond portfolio, and two quantitative-based hedge funds, and a momentum-based hedge fund for the British pound/Japanese yen currency pairing.
Sounds like a typical, assertive portfolio for a wealth management group or, perhaps, for an accredited investor.
But a public pension fund?
Public pension funds in the United States are increasing bets on high-risk hedge funds and real estate in an attempt to fill deficits in retirement plans and recover ground, due to the worst performance by pension funds in six years, Bloomberg News reported Thursday.
Public funds, which manage more than $2.45 trillion in assets, are trying to reverse losses averaging 5.5% for the year ended June 30, according to Merrill Lynch data, and stem the tide of deficits, Bloomberg News reported. The State of New York's comptroller is asking its Legislature to increase its alternative investment spending cap; in February, the State of South Carolina upped its alternate investment / private equity / real estate cap to 45% from 0%.
'Investment distortions of the very worst sort'
Economist Glen Langan told BloggingStocks Thursday he doesn't like the sound of the new stance by state / local governments, if the aforementioned represents a trend.
"I view it as another manifestation of the U.S. stock market slump," Langan said. "The underperformance of stocks and the drive for outsized return on equity is leading to investment distortions of the very worst sort. We saw this in the mortgage market with their securities. It got to a point that if the interest rate was high enough, banks made the loan. We've seen it in oil, where the unattractiveness of stocks led institutions to dive into oil futures, driving up prices well above historic gains. And now it looks like public pension funds are catching the bug or flu."
Add another case study to the controversy over speculators and market manipulation.
The Commodity Futures Trading Commission is investigating whether cotton prices were 'artificially inflated' in early March, The Wall Street Journal reported Wednesday (subscription required). The March 4 price spiked from about 70 cents per pound to an intra-day high of $1.09 and closed at 93.1 cents.
In Wednesday morning trading, cotton rose about four-tenths of one cent to 70.070 cents per pound.
The Journal reported that the price spike in early March was unusual and baffled traders because cotton inventories were at their highest level in four decades, towel and fabric demand was weakened by the housing slump, and global supplies were high.
On the other side of argument, one which argues that market forces set the price, some cotton merchants themselves were trading aggressively; a little-used exchange rule suddenly required merchants to unwind sell orders; and financial investors, including pension and hedge funds, started to enter the market, which generated an eight-fold jump February 19-26 in net buying, The Journal reported, citing CFTC data.
Like other tier-1 private equity firms, the Carlyle Group has been expanding into a variety of investment categories. After all, with the evaporation of the buyout business, it's really a necessity.
However, it's far from an easy process. For example, in March the Carlyle Group suffered tremendous losses -- $16.6 billion of debt went into default -- from its publicly traded mortgage vehicle (Carlyle Capital Corp.). In fact, the company had to be shutdown.
Well, unfortunately, this hasn't been an end to the bad news. This week Carlyle had to unwind another fund: Blue Wave, which is a $600 million hedge fund (focused on mortgage-backed securities). Last year, the fund posted a horrible 17% negative return. The poor numbers were the result of bad timing and leverage.
True, Blue Wave was able to stabilize things, with a 2% return for this year. But, for Carlyle to generate substantive fees, the returns would need to be much larger – and that would likely require taking on lots of risk.
So, in the end, it looks like Carlyle made the right decision on Blue Wave.
It looks like the economic slowdown that has chopped (or eliminated) returns in many asset classes is set to hit another sector, and a rarefied one at that: the hedge fund sector.
Hedge funds may post their worst monthly performance result in five years in July, after trade calculations on financial stocks and crude oil backfired, according to data provided by Hedge Fund Research Inc., Bloomberg News reported Monday.
With the plunge in the equities markets, there are certainly some compelling opportunities. Just look at Napster Inc. (NASDAQ: NAPS), an online music operator. The company has $69.8 million in the bank and a market cap of $66.4 million. Yes, Wall Street is valuing the business at below zero.
Well, hedge funds are taking notice (this is a according to Bloomberg.com). For example, Eminence Capital LLC has increased its equity stake to a cool 9%. This is usually the first step in forcing a company to sell out.
One possibility is for Napster to go private. However, this will probably not carry much of a premium.
Instead, I'm sure the hedgies want Napster to get an offer from a strategic player, such as RealNetworks (NASDAQ: RNWK). Oh, and another possibility is JDS Capital Management Inc., which owns eMusic.com. Keep in mind that the firm purchased one million shares of Napster in Q1.
Actually, Napster controls about a majority of the U.S. online music subscription market. The problem: it's a niche market.
So, with hedge funds swarming, it's going to be tough for Napster to ignore things. In fact, in Friday's trading, the company's shares spiked 27% to $1.39 as the rumors buzzed.
On Tuesday, the Securities and Exchange Commission threw a brushback pitch at those who are betting on the further collapse of our big financial institutions. Instead of suggesting better oversight of the companies, the SEC is going after short sellers.
For 30 days starting Monday, short-selling will be restricted on 19 financial companies. Financial regulators are also cracking down on "sensational rumors." To put the short-selling rule in perspective, consider that even when the market re-opened after the September 11th attacks, the SEC considered, but didn't implement, short sale restrictions.
Since Bear Steans collapsed and Vanity Fair bought the company's story that short-sellers did them in, everyone is worried that short sellers are bringing the market down. And I'm sure they are, but short-selling, after all, is legal. The SEC just loosened rules on it last year.
Yesterday, SEC chair Steven Cox testified that he's worried about short-selling in connection with spreading false rumors to manipulate the market. OK, that's not legal, but as Cox pointed out, the SEC brought its first case -- EVER -- for this sort of deception this year. And it still hasn't gone after anyone for spreading false positive rumors about a company.
The Wall Street Journalreports (subscription required) that the SEC has subpoenaed 50 hedge-fund advisers as part of its probe into allegations that traders spread negative rumors to drive down the share prices of stocks they were short.
It seems especially zealous given how little the SEC has done to crack down on a multitude of other problems harming investors, like the inadequate disclosures of serious risks that have sent shares of companies like Lehman Brothers (NYSE: LEH) and Washington Mutual (NYSE: WM) tumbling.
Maybe there was some foul play at hedge funds, and maybe it's a good use of SEC resources to go after it. But it's worth noting that, throughout history, every time a bubble has burst, the short sellers who profited from its demise have been scapegoated for their foresight. The men who were at the helm of Bear Stearns (Yes, it was men. Women would never foul anything up that badly!) when it collapsed can blame rumor-spreading short sellers for causing a run on the bank. It's the same excuse that former Enron CEO Jeff Skilling invoked in his testimony before Congress.
Read the financial media and all you will hear about the best way to invest for your retirement is to buy ETFs and hold them. Well for the last nine months, investors have watched their savings plummet by more than 20% following that bit of advice. Even though we are still in the midst of the ETF growth explosion, it may be that with all the market volatility, active management of funds is the way to go.
According to a report in Bloomberg: " Hedge funds declined by an average 0.7 percent in June, bringing the year-to-date loss to 0.75 percent, data compiled by Hedge Fund Research Inc. shows. It's the worst start to a year since the Chicago-based firm began tracking returns in 1990."
Equity hedge funds lost about 3.3% during the first half of the year. That thoroughly crushes the S&P 500 which dropped 19% from the October peak. This actually mean that the hedge funds are doing what they are supposed to do and be a hedge against falling markets.
It will be interesting to see returns for the mutual fund industry. If actively managed mutual funds were on average able to seriously outperform the broader indices, then I think investors will start taking a real look at moving away from ETF investing and back into more traditional actively managed accounts.
How many buy and hold investors wish that they would have only lost 3.3% so far this year?
Aaron Katsman is the lead Portfolio Manager and Managing Director of America Israel Investment Associates, LLC. and Senior Editor of IsraelNewsletter.com. DISCLOSURE: Writer's fund has no position in any stock mentioned, as of 7/10/08.
Hedge funds recorded their worst first-half performance in 18 years, as the credit crisis and the start of a bear market weighed on alternative investment fund gains, according to data compiled by Hedge Fund Research Inc., Bloomberg News reported Wednesday.
Hedge funds declined an average of 0.7% in June, which brought their first-half loss to 0.75%. It's the worst start for the sector since HFR began tracking hedge fund returns in 1990.
The Credit Suisse Tremont Hedge Fund Index is up a scant 0.52% for the year, and economist David H. Wang, who consulted for two hedge funds during 2002-2005, said the hedge fund sector is attempting to vault two formidable hurdles: a weeding-out of sub-par performers in the sector and the U.S. and global economic slowdowns.
"The hedge fund sector is in the midst of a competitive downsizing, and I don't doubt that lower-quality and lower-performance funds depressed the sector's performance for the first half of 2008. These funds will also weigh on the average in the second half of the year because the sector's rightsizing is likely to continue for at least another year, probably longer," Wang said. "Many hedge funds have also been hurt by the same economic factors that have hurt other investment funds and businesses, and the economy in general, and mortgage defaults and related asset-backed bond defaults are at the top of the list. Some models that thought that increased volatility would lead to higher net gains performed considerably below expectations when that volatility arrived."
One of the major economic debates on Main Street and in Washington concerns the influence of speculators during oil's record price rise. (Oil currently trades above $140 and is up 100% during the past year, and more than 400% since 2000).
More than one Congressional committee is investigating the role of speculators, who critics say have 'distorted' or artificially boosted oil's price -- driven it higher than a level the commodity would trade at if the price were based solely on supply and demand fundamentals.
New York Times columnist Paul Krugman, while not denying speculators have contributed to oil's record rise, nevertheless offers perhaps the strongest evidence regarding how a commodity's price can rise a great deal, without the influence of speculators. His evidence: iron ore.
This is the part of a new series of columns called "The Naked Truth," by retirement expert Dan Solin. Please bring him your questions, in the comments box, and he will answer as many as he can.
Ralph Cioffi and Matthew Tannin were indicted on June 18, 2008. They are accused of a litany of fraudulent activities in connection with the demise of two hedge funds they managed for Bear Stearns.
Cioffi and Tannin are entitled to the presumption of innocence. The obligatory "perp walk," staged for the benefit of the press, is offensive to traditional notions of justice. Not only does it demean and humiliate them, it taints the jury pool and intrudes upon their right to a fair trial.
Nevertheless, the indictment offers an insight into conduct that would otherwise be inexplicable.
Here are two highly educated, sophisticated, fund managers who achieved the American dream -- and then some. Why would they risk it all by, as alleged, misrepresenting the risk of these funds, and their personal stake in them?
The Wall Street Journal reported that after years of rapid grows, many hedge funds are shutting their doors or merging with others, as expansion has dramatically slowed. As a result, the industry is being dominated mostly by big firms, such as Och-Ziff Capital Management Group LLC (NYSE: OZM), D.E. Shaw & Co., and Paulson and Co.
Shares of Ctrip.com International Ltd (NASDAQ: CTRP), China's major Internet travel booker with about 58% of the country's online travel business, have dropped about 30% in the last six weeks alone creating a possible buying opportunity, according to the Wall Street Journal's "Heard in Asia". Travel in China is expected to grow solidly in the long-term and Ctrip.com said it expects revenue to grow 30% for the three months ending June 30 from a year earlier.
In a move that could potentially usher in a new phase in the credit crunch, the Financial Times reported that The Goldman Sachs Group Inc (NYSE: GS) is said to be close to finalizing a plan to restructure a $7B investment vehicle formerly run by Cheyne Capital, a London-based hedge fund.
Investors are taking their money out of hedge funds more now that at any time over the past 10 years, according to the Wall Street Journal. Firms are bracing for the end of June when the next big wave will hit.
First it was a demand for management changes, and now shareholders, including one time director Eli Broad and fund managers Shelby Davis of Davis Selected Advisors and Bill Miller of Legg Mason Inc (NYSE: LM), are again upset with American International Group Inc (NYSE: AIG) and want changes in the boardroom as well, the Wall Street Journal reported.
Spotlight Capital is increasing pressure on Chico's FAS Inc (NYSE: CHS) and said it has been in touch with 25 major shareholders in order to oust CEO Scott Edmonds and unseat board member John Burden, who are accused of having a conflict of interest, the New York Post reported.
WEB SITES:
Advanced Micro Devices Inc (NYSE: AMD) denied reports certain of its new dual-core chip, code-named Kuma, have been canceled, according to CNet. A spokesman for the company said that the launch of Kuma, scheduled for the second half of 2008, remains on track.
Third Point Management fund manager Daniel Loeb told his investors last night the firm is the target of a formal investigation being conducted by the Securities & Exchange Commission. According to Loeb, the subject of the investigation is his communications with other hedge funds.
Some market signals are well-known and easily understood. Others are arcane and more-complex, but just as telling.
ulative stocks. Add a distressed-debt corporate bond portfolio, and two quantitative-based hedge funds, and a momentum-based hedge fund for the British pound/Japanese yen currency pairing.
Add another case study to the controversy over speculators and market manipulation.
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With the plunge in the equities markets, there are certainly some compelling opportunities. Just look at 
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This is the part of a new series of columns called "The Naked Truth," by retirement expert Dan Solin. Please bring him your questions, in the comments box, and he will answer as many as he can..gif){kind=logo}
The week in preview: Chicken soup (or a doughnut) for the recession-weary soul?
Comfort Zone Investing: Oil's down, which is a start, but not good enough
Stocks have their worst week in six years
