For a brief moment, it looked like the coronavirus and its associated market, uh, let’s go with “volatility,” might be just the thing hedge funds have been looking for, oh, a decade-plus. There was giddiness. There were some positive early signs. Things looked good, as long as we kept Steve Cohen safe.
Alas, like other early optimistic outlooks, this one has not aged well. Ray Dalio is in self-quarantine. The first hedge fund fatality was reported. Bill Ackman caused the stock market to (continue to) collapse. And since it’s Friday, it seemed like a good time to see how things are going in hedge fund land.
“We are looking for a 56% drop from the top in February. That just gets us to a reversion to the mean for historical market valuation,” [Crescat Capital chief investment officer/not-the-Silent-Bob-one Kevin Smith] told MarketWatch. “Honestly, we think a more reasonable target for this global recession that is only beginning is at least a 74% decline from February’s highs to mark the bottom. There were just too many excesses in this one. The purging... has only just begun.”
The basis trade is a long-running investment that seeks to exploit pricing gaps between Treasury securities and futures. It has been pitched as a stable, reliable source of returns with low volatility. While most of the funds have since rallied, their sudden and significant declines last week show there are heightened risks during times of market volatility.
Citadel LLC’s global fixed-income unit last week was among those stung by the trade. A person familiar with Ken Griffin’s firm said the unit lost hundreds of millions partway through the week, with basis trade losses contributing to the decline….
Other hedge funds that also were hurt by the trade, said investors or other people familiar with the firms, include: Capula Investment Management, a $20 billion fixed-income firm based in London; LMR Partners, part-owned by a Goldman Sachs Group Inc. private-equity fund; and New York-based ExodusPoint Capital Management LP, the largest hedge-fund startup to date.
The firms use borrowed money from the repurchase market for the popular basis trade, which exploits price differences between cash Treasuries and futures. Though individual firms’ borrowing is a closely guarded metric, people familiar with the transactions said some of them levered up as much as 50 times their own wagers.
Industry titans are getting caught wrong-footed. Bridgewater’s All Weather fund, which pioneered the risk parity trade, is down 12% so far this year. Meanwhile, Izzy Englander’s Millennium Management has closed more than 10 of its “trading pods.”
Schonfeld Strategic Advisors, a prominent computer-driven hedge fund manager, has recorded double-digit losses this year… Its Partners fund has lost approximately 15 per cent this year, and part of those losses have come in recent days, said people familiar with its performance.
Enjoy your lonely, isolated weekend.
Hedge Funds Hit by Losses in ‘Basis Trade’ [WSJ]
Before Fed Acted, Leverage Burned Hedge Funds in Treasury Market [Bloomberg]
Hedge-fund manager: Market ‘purging’ could lead to a plunge of ‘at least 74%’ [MarketWatch]
If Ray Dalio Isn’t Making Money Now, Neither Will You [Bloomberg via Yahoo! Finance]
Hedge fund Schonfeld hit as investors slash risk [FT]