Some hedge funds post mega-gains, brighten industry gloom

October 19, 2016 8:19 PM EDT

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By Svea Herbst-Bayliss and Lawrence Delevingne

BOSTON/NEW YORK (Reuters) - Hedge funds have suffered a steady drumbeat of bad news this year: poor performance, withdrawals, prominent closures, bribery and insider trading charges, and accusations from a state regulator that the whole sector is a "rip-off."

Yet amid the gloom there are still a few managers posting the double-digit percentage gains that turned hedge funds into an elite asset class more than a decade ago, according to performance data provided by fund investors.

For instance, Eric Knight's activist-oriented Knight Vinke Institutional Partners is up nearly 50 percent before fees this year, while the Russian Prosperity Fund, which picks stocks in the former Soviet Union and is led by Alexander Branis, has climbed 43 percent.

Then there are Jason Mudrick's Mudrick Distressed Opportunity Fund and Phoenix Investment Adviser's JLP Credit Opportunity Fund, which are both up 38 percent. Energy-oriented Zimmer Partners' ZP Energy Fund is up 27 percent, while Gates Capital Management's ECF Value Fund has risen 26 percent and Michael Hintze's CQS Directional Opportunities Fund has climbed 20 percent.

By contrast, the average hedge fund returned a little more than 4 percent over the first nine months of the year, according to data from Hedge Fund Research. That is about half of what the S&P 500 Index has returned over the same period, including dividends, and compares to a 7 percent increase for the Barclays Capital U.S. Government/Credit Bond Index, a common measure of the credit markets.

"In general there is no doubt this has been a tough year in terms of performance, but there are still winners out there," said Mark Doherty, a managing principal at PivotalPath, an investment consultant.

LITTLE-KNOWN VICTORS

The winners are harder to find. They tend not to be multi-billion-dollar household names whose managers appear on television and at industry conferences, attracting money to invest from the largest pension funds.

Although they pursue a variety of strategies, they are united in their relatively small size, investors said.

Gates Capital manages $1.8 billion, while Mudrick Capital oversees $1.5 billion and Phoenix's JLP Credit Opportunity and Zimmer Partner's ZP Energy Fund are smaller, with about $1 billion in assets, investors in the funds said. Representatives for the firms declined to comment.

There are a number of even smaller firms delivering blockbuster returns. Former Paulson & Co partner Dan Kamensky's $125 million Marble Ridge, which started trading in January, is up 23 percent. Svetlana Lee's Varna Capital, which invests less than $100 million, is up 20 percent. Halcyon Capital's $200 million Halcyon Solutions Fund, managed by Jason Dillow, is up 22 percent.

"These funds may be able to capitalize on smaller and more inefficient securities that are too small for the larger funds," said Michael Weinberg, chief investment strategist at New York-based Protégé Partners, which invests in smaller funds.

VARIED BETS

Knight Vinke's gains were largely driven by the merger of French electronics company Fnac with electrical retailer Darty, which the hedge fund pushed for, its most recent letter said.

Bets on steelmaker Evraz, Russian airline Aeroflot and Federal Grid Company, which manages Russia's unified electricity transmission grid system, helped the Russian Prosperity fund, its investment chief Branis said.

Some of the winners, including Dallas-based Brenham Capital, which manages $1.3 billion and is up 19 percent this year, also scored big by betting on the beaten-down energy sector as it recovers. Mudrick Capital won with bets on Alpha Natural Resources as the coal miner exits bankruptcy and closely held driller Fieldwood Energy, a fund investor said.

To be sure, this year's strong returns were preceded by big losses in 2015 and early in 2016 at some firms. Mudrick Capital, which made early bets on distressed energy and commodity companies, lost 26 percent last year, and Gates' ECF Value Fund lost 19 percent.

Some clients have not had the patience to stick around. Last month Rhode Island's pension fund voted to cut its hedge fund allocation in half following in the footsteps of New Jersey, which voted for a similar reduction in August. This week New York's financial regulator called hedge funds a "rip-off" in a report that said the state pension fund lost $3.8 billion on them in the last eight years.

Investors pulled an estimated $23.3 billion from hedge funds over the first half of the year, according to Hedge Fund Research, less than 1 percent of the industry's $2.9 trillion overall assets.

(Story corrects to show Gates Capital Management's ECF Value Fund lost 19 percent last year, not 26 percent.)

(Reporting by Svea Herbst-Bayliss and Lawrence Delevingne; Editing by Bill Rigby)



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