Every morning my father and I begin the trading session with a review of our investment strategy. We point out pros and cons and attempt to poke holes in theory. We perform this ritual every day, without fail, for the simple reason that when investing in the stock market those who stand still get steam rolled.

“IF” you have had enough of philosophy let’s get down to business. I have been writing about the rather disturbing trend of low volume rallies and high volume sell-offs in the equity markets. On Oct. 28th I highlighted this negative trend. In this morning’s meeting Gary directed my attention to the following story that offers amazing insight into this volume conundrum. As you will see, market manipulation is clearly present. Don’t be alarmed by that weird sensation you will feel when you finish reading; it’s just your skin crawling, the sensation fades…

WHO IS THE MYSTERY BUYER? By The Pragmatic Capitalist

I don’t know if any characteristic of this massive 6 month rally has been more apparent than the huge futures run-ups we’ve seen at random points during the trading day. Without news, the S&P 500 futures get gunned on huge volume and surge higher. I’ve seen it at least every other day for 6 months. It tends to occur on low volume days such as the one we’re currently experiencing. As you can see in the chart below, the futures are getting gunned on massive volume without any coinciding volume in SPY. This means an institution is jamming the futures higher knowing that they can drive the market higher on no volume. Effectively, they can take out every asking price with a large enough order and immediately create a 0.25% bump in the market in no time. If you’ve been wondering why we’ve seen huge surges on low volume days and conviction high volume selling on down days this explains much of it.

To View Charts discussed above CLICK HERE

So, who is the mystery buyer? We think the answer lies on the 9th floor at 33 Liberty Street.

…The key takeaway from the knowledge revealed above is not to become angry. Fighting against the machine is futile. Instead, the key is to understand the house of cards we are living in and react appropriately when the wind begins to blow.

So far, the weather seems fair with only a slight breeze. However, we hear thunder rumbling in the distance and the winds can pickup quickly. The following are a few stories that show up on our radar and give us pause…

Famed short seller says dump munis - Barron’s
James Chanos, the famed short seller who was among the first to foresee the collapse of Enron, recently sounded the alarm on the municipal-bond market — in the hallowed halls of the New York Historical Society, no less. The “cracking of state and local municipalities is coming,” he predicted at a recent meeting attended by Barron’s staffer Susan Witty, adding that he wouldn’t touch munis. In a subsequent telephone interview with this columnist, Chanos said, “State and local municipal finance are a mess and going to get worse.” It’s not just the recession, which has reduced tax receipts. Rather, he says the poor economy “is masking real problems in municipal cost structures.” The big problem, he says, is “the platinum-plated health-care and retirement benefits” given to state and local workers. “It’s all coming home to roost” as boomers start to retire. California faces a $60 billion deficit, and the politicians there believe that in “a worst-case scenario, the federal government will bail them out,” says Chanos. “If the feds do bail them out, as I believe they will,” the state’s bonds will likely lose their federal tax exemption, he adds.

Paterson: NYS Will Be Broke Before Christmas Delivers Scary News To Legislature, Says Only Way To Fix Problem Is To Have Immediate Cuts To Education, Hospitals

…He said if the Legislature doesn’t cut the budget now the state could run out of money by next month. “We’re going to run out of cash in four and a half weeks. We are going to run out of money. Unless we do something about it, (it will) threaten generations,” Paterson said.

…On Oct. 26th I mentioned three developments that could become a problem for the equity markets. Development Three was about hedge fund unwinds that could possibly add instability to the markets as they did in Q4 2008. At the moment, this development is just a rumble, but as the probe widens and further mistrust of the hedge fund industry mounts trouble could ensue…

Hedge-fund giant surfaces in trading probe - WSJ
WSJ reports the widening investigation of insider trading on Wall Street is expected to examine transactions at Steven A. Cohen’s SAC Capital Advisors, one of America’s largest and most successful hedge funds, according to people familiar with the matter….

Tags: investment strategy, Munis, Not Categorized, stock market investing

Comments feed (RSS 2.0), comment or trackback from your site.

Stock Market Investing:

Development One: Economic numbers that suggest recovery begin to outpace negative economic news. This leads to the perception — or possibly, the reality — that the Fed will reverse its stance on easy credit.

If you are a new reader I strongly advise the perusal of past post before you begin your protest. Those of you who are familiar with my work will know the well documented relationship between bad economic numbers, easy credit, weak US$ and strong equity markets. As long as the Fed remains committed to easy credit in all its forms the bull market can continue.

However, I have witnessed a disturbing trend over the last few weeks. Good news on the economy leads to selling. This suggests to me a real fear pervades the markets with regard to the continuation of easy credit. The equity markets are trading at these lofty levels because of liquidity not reality and if the Fed controlled gravy train of easy credit stops then trouble will ensue. When the gravy stops dog will eat dog. What the distribution of the last few weeks may be telling us is that the big dogs are smelling trouble and are preparing.

Today’s trading offers a perfect illustration of Development One. First, good earnings numbers out of Microsoft & Amazon were not able to move the markets higher. Instead the excitement was used by the big players to distribute their holding. Second, the following “good” economic report hit the news wires this morning, but the equity markets sold off almost immediately after the release:

Existing Home Sales Exceed Expectations
Existing home sales jumped 9.2% to 5.57 million units in September. The increase followed an unexpected decline (-2.9%) of sales in August. The consensus was expecting sales to rise by a much more modest 5.1% to 5.35 million units.

We obviously don’t have the answer to these questions. However, this very real possibility must be respected. There has always been a high correlation between long rates and the equity markets. I can think of no better example than the crash of 1987. For four months the bond market was collapsing (rates rising) before the equity markets infamously followed.

Of course, in ’87 bonds sold off because the Fed was tightening. If, however, bonds sell off even in the face of Fed easy credit policies then I hate to see the ensuing equity market response.

Record Auctions Announced…euro 1.5001…yen 91.5060 (3.411% -07/32)
Treasury will sell a record batch of bonds next week with $44B 2-yrs Tuesday, $41B 5-yrs Wednesday and $31B 7-yrs Thursday. The record levels show an increase of $1B on the 2-and-5s, and $2B on the 7-yrs. There will also be $7B reopened 5-yr TIPS going off Monday along with $29B 3-mos and $30B 6-mos. The market may get some relief as the news is over, but the high end of expectations had been for closer to $115B versus the $116B announced, so any relief may be brief.

Development Three: The high profile SEC take down of Galleon may cause a ripple effect leading to hedge fund unwinds.

Galleon had over $3 billion and now according to DJ-Galleon winding down all hedge funds.

Last year we all witnessed what happens when hedge funds are forced to unwind. Many of the big funds are often involved in the same trades and one unwind leads to another. There will be many denials along the way but the equity markets will speak the truth.

I will also respectfully submit to you, the readers, that the derivatives crisis is far from over. The individuals that created the credit crisis are still running the show. If you believe this statement is incorrect or feel President Obama promised you change so his cabinet must be full of new thinkers, I suggest you view the PBS Frontline documentary entitled The Warning .

The Warning brings to mind two obvious questions:

1- What will cause the next derivatives crisis? Could it be the take down of a major hedge fund that ignites the next collapse?

2- Why isn’t Brooksley Born a major member of the Obama administration? If he was truly an agent for change wouldn’t she be a must in the cabinet?

Development Two: A funding crisis unfolds.
Will the US$ decline in value to a point where long rates must increase aggressively for our government to continue funding its debt? How long will China and others tolerate the ruse of quantitative easing before demanding higher rates?

Tags: 2nd stimulus, DOW, earnings, economy, equity markets, Fed, galleon, investment strategy, nasd, Not Categorized, obama, sp500, stock market investing, treasury market, US$

Comments feed (RSS 2.0), comment or trackback from your site.

If you ask ten different hedge fund professionals to explain the difference between third party marketing and capital introduction, you are bound to get ten different answers.  Though often confused, each practice serves a vital role in attracting capital to the industry.  Recently in his Hedge Fund Capital Introduction Blog, Evan Rapoport, Co-founder of HedgeCo Networks, spent some time dissecting the two practices.

Capital introduction, according to Rapoport, is typically done by prime brokers.  The largest prime brokers, such as Goldman Sachs & Co., Morgan Stanley, and Merrill Lynch all have teams assembled within their ‘prime services’ divisions that help clients of the firm to find investors suitable for their funds.

In order to properly utilize the services of a prime broker, you need to meet a few parameters:

First, your fund must be doing enough business with the prime brokerage firm to be able for the firm to afford their employees time, and risk. That’s right risk. Most hedge fund managers do not understand what it means to have a series 7 and therefore have never had to worry about a client suing them for a poor recommendation. This is exactly the risk these licensed individuals and firms take on when making introductions to your fund. If your fund fails, they are at risk of client complaints and lawsuits, and if you commit fraud…..whoa boy! They can say goodbye to their career, or at least thousands of dollars defending themselves as to how they had no knowledge that this low life manager decided to run off with their clients money. Anyway, point is, if you are not trading or borrowing, don’t expect too many investor introductions from your prime broker.

Second, your fund needs to perform. It is hard to make investor introductions for a fund that is down thirty percent. Stellar performance obviously makes it easier to make investor introductions.

Next, your fund infrastructure must be solid whereas no one can question the integrity of the information coming out of your firm. This includes having an independent fund administrator, industry recognized auditor, larger firm prime broker and custodian, and knowledgeable legal team. With these providers in place the capital introduction team can feel more confident their investor referrals will have access to the proper information when needed regarding your fund.

In contrast, Third party marketers are individuals, licensed by FINRA, that raise capital on behalf of multiple hedge fund products.  Typically, they work for a fee that amounts to about 20% of the hedge fund’s fees.  In essence, they receive a portion of all management and performance fees throughout the relationship with the investor client.  Similar to capital introduction, third party marketers set up all investor meetings, conference calls, and road shows.  However, unlike the cap intro business, where the representative is responsible for making the introduction, third party marketers assume a much more active role.  Not only do they pique the investor’s initial interest, but they also follow up with potential investors after manager meetings and conference calls, update the prospective client with monthly performance, and do everything they can to facilitate the investment (provided, of course, that it makes sense for the client).

Just like with capital introduction, there are a few requirements for a fund to work with a third party marketer:

One is length of track record. As a result of taking on the risk of marketing your fund to investors, third party marketers typically like to work with funds that have several years worth of track record. I would say the typical minimum to be considered for most third party marketing platforms is around eighteen months worth of track record that is actual to the fund (no pro-forma!) with the standard being thirty-six months.

Assets under management are also important. The smaller the fund the harder it is for the third party marketer to raise assets. Again typical minimums to be considered for most third party marketing platforms are about fifty million USD and average about one-hundred million USD plus.

Hedge fund strategy is the next item of importance. There are specific times that certain strategies are simply out of favor. If your strategy is out of flavor currently, don’t expect many third party marketers to come to your rescue. However, if your strategy is this year’s Miss Universe, then you may not need to go looking for third party marketers, they will come finding you.

Fund manager pedigrees are another factor third party marketers look at before representing a new fund. If the manager was a plumber and now has decided to start a hedge fund because he doubled his money at Ameritrade, chances are, third party marketers will pass. However if the fund manager was formerly at one of the larger hedge funds, and has a portable track record and strategy, this certainly will help to move him to the top of the marketers list.

Fund infrastructure is equally important to third party marketers. The reasons are the same as mentioned for capital introduction, but maybe even more so being that third party marketers are paid a fee by the fund and therefore are perceived to have more responsibility for their recommendations as opposed to capital introducers that simply make a referral. Having top tier providers makes due diligence much easier for these firms and their clients.

Lastly, and probably most important again, is positive fund performance. It simply is harder to sell a hedge fund with poor performance as opposed to one that has performed. As a third party marketer, we usually have access to multiple products and being that my pay is often tied to their performance….well, nuff said. I do always keep in mind however what is right for individual clients portfolios. and also do realize sometimes the best time to invest in hedge funds is when they have had a short term losing period, especially if this type of strategy has paid off in the past. If I don’t include that last disclaimer I will get tons of hate mail from poorly performing managers.

Bear in mind, using a third party marketer does not make sense for all hedge funds.  For some funds, they may be small and growing in size and cannot afford to pay hefty fees.  Meanwhile, others may already employ their own marketing teams internally.  This approach, while more expensive in the short term, actually tends to be more cost effective over the long run.

In summary, there are a number of effective means of raising capital for your fund.  A few key points to consider when deciding between using capital introduction or third party marketing include:

-Hedge Fund Track Record
-Hedge Fund Monthly Trading Volume
-Current Firm/Fund Assets Under Management
-Hedge Fund Age
-Hedge Fund Capacity
-Current Marketing Budget

Decide what is most important to your fund, and take action accordingly.  Then, watch (and hope) the capital introduction or third party marketing teams work for you!

If you are looking for help with capital introduction, prime brokerage, or third party marketing for your fund feel free to email me for consideration at evan@hedgecosecurities.com.

Evan Rapoport is a registered principal and offers securities through HedgeCo Securities LLC. Member FINRA, NFA, SIPC.

Tags: administrator, auditor, Capital Introduction, custodian, FINRA, fraud, fund administrator, fund infrastructure, Goldman Sachs, Hedge Fund Capital Introduction Blog, HedgeCo, Merrill Lynch, Morgan Stanley, Not Categorized, prime brokers, prime services, series 7, third party marketing

Comments feed (RSS 2.0), comment or trackback from your site.

We received an interesting question from one of our members earlier this week:

“I was wondering if someone could give me an idea of where hedge funds are on the totem pole as far as risk with intangible investments. My guess is that they rank with growth mutual funds and are less risky than stocks but I would like a more descriptive census of where they stand amongst stocks and mutual funds.”

Hedge funds are uniquely difficult to assign risk profiles because they employ many different strategies. Some hedge funds buy up illiquid assets when liquidity is at a premium, and these assets are selling at pennies on the dollar. In some situations, the fundamentals are still very sound, but the hedge funds are purchasing the assets at a deep discount further lowering the risk and raising the potential return on investment. When done properly, this strategy is low risk and similar to a corporate bond fund. Other hedge funds will invest in highly speculative strategies, specializing in risky assets like distressed debt and emerging market equities, or risky derivatives like commodity futures. These strategies tend to have risk profiles similar to investing in individual stocks, but better managers will be able to reduce risk and stabilize returns to a degree.

To develop an accurate risk profile for a specific hedge fund, investors need to gather as much information about the underlying assets and fund strategy as possible. Usually, investors only have access to the types of assets used, but increased transparency in hedge funds is the current trend, and hedge fund managers will probably start disclosing more and more information about their trading positions. For each strategy, certain levels of risk are inherent, and remember that leverage increases risk just like returns. While strategy will tell investors a lot about the hedge fund’s risk profile, implementation of the strategy is another important piece to hedge fund risk.

Therefore, investors have to develop a risk profile of the hedge fund manager. This profile should include information about the manager’s historical performance for all his funds, including statistical analysis that measure standard deviations, maximum drawdowns, downside deviations, and all the risk-adjusted return ratios like Sharpe and Sortino ratios. Particular attention must be paid to the hedge fund manager’s performance in similar strategies to the fund of interest. Investors need to identify how the fund manager performed when using a “low risk” strategy or a “high risk” strategy.

Lastly, investors need to inspect the fund’s infrastructure. Check to make sure the hedge fund is using high quality third party administration, legal advice, auditing services, and brokerage services. Performing due diligence on a fund’s infrastructure goes a long way towards identifying counter party risk and preventing fraud

I’m pretty sure my answer to the above question is a little more technical and in depth than what was asked for, but the point is that hedge funds can’t be fitted to neat little risk profiles or mutual fund style boxes. However, hedge funds were originally designed with the intention of preserving capital for the ultra-wealthy. Because the hedge fund manager ultimately has control of the fund and can utilize in style he deems appropriate, he is the key differentiator in measuring risks of hedge funds and risks of other investment vehicles. So, my short answer is hedge funds are as risky as the hedge fund manager wants them to be.

Tags: Counter Party Risk, Downside Deviation, hedge fund, Hedge Fund Manager, Hedge Fund Risk, Hedge Fund Strategy, Identifying Hedge Fund Risk, Not Categorized, Risk, Risk Profile, Sharpe Ratio, Sortino Ratio, Standard Deviation

Comments feed (RSS 2.0), comment or trackback from your site.

While the debate rages on as to whether the economy is, indeed, displaying evidence of “green shoots,” numerous hedge fund firms appear to be taking matters into their own hands, repositioning themselves to benefit from any signs of improving investor sentiment.  In particular, several firms have gone on recent hiring sprees in an attempt to lock in the best and the brightest minds from the considerably large pool of unemployed hedge fund workers.

Recent struggles within the hedge fund industry are well documented.  In addition to the estimated 1,500 funds which were forced to close in 2008, a vast majority of funds experienced a significant fall in assets under management.  Unable to generate substantial profits from fee generation, this forced numerous firms to cut expenses and/or lay off workers.  However, a renewal in industry hiring could signify optimism amongst some of the industry’s major players.

As the markets rebound from their lows of the past year, once-wary investors are beginning to retest the markets.  Repositioning themselves for an impending rebound, many firms are actively raising capital, while adding staff to fill sales and marketing roles.  In fact, Citadel, RBC Capital Markets, Artradis and Tribridge have all announced recent hires.

Furthermore, the prime brokerage business, which offers fund managers a variety of services ranging from clearing to securities lending to financing services, is another area experiencing growth.  Firms such as Credit Suisse Group AG and BNP Paribas SA, in particular, have announced their plans to expand prime brokerage services.  This expansion is especially pronounced in Asia, where the region’s hedge fund industry is expected to resume its prolific growth.

Hedge fund hiring by some of Wall Street’s biggest players could also signify to makings of a turnaround for the hedge fund industry.  Citigroup Inc. and Bank of America Corp.’s Bank of America Merrill Lynch have also added new hires to their hedge fund businesses.  Meanwhile, in one of the largest hiring moves to date, Morgan Stanley announced late last week its intentions to add 400 new hedge fund hires in areas ranging from sales to trading.

Recent hiring patterns would suggest that hedge fund firms are retooling their infrastructure, positioning themselves to benefit as investors return to the industry.  In the process, this news perhaps offers a glimmer of hope to the throngs of idle and out-of-work former hedge fund employees.

Tags: hedge fund, hedge fund industry, infrastructure, investor, Not Categorized, prime brokerage, Wall Street

Comments feed (RSS 2.0), comment or trackback from your site.

The American people are receiving a true education from our president regarding the various uses of the baffling word that is ‘Change‘.

And that brings me to the next use of the word ‘change‘. If anyone actually believed that Obama was going to change Washington then I respectfully request you review the phrase, ‘A leopard can’t change its spots.”

Read the rest of this entry »

Tags: ben bernanke, central bankers, China, Not Categorized, obama, tax increases, UK

Comments feed (RSS 2.0), comment or trackback from your site.

Emerging Markets as a Whole

I recently wrote an article on the emerging markets across the globe, and looking at the charts of performance for each country, I couldn’t help but notice one thing. While magnitude of volatility varied from country to country, every chart had the same shape. Every trend line moved together. MSCI Barra provides charts of the individual emerging markets based on the listed equities of each country. Each emerging market was booming up until 2008, took a sharp decline in the middle and end of 2008, and bounced back at the beginning and middle of 2009, which probably isn’t surprising to anyone reading this. “Some of emerging markets hedge funds were down almost 50 percent,” according to Andrew Schneider, managing partner of HedgeCo Networks. “Take the Tarpon All Equities Fund for example. They lost 43 percent in 2008.” While this type of volatility is expected in the emerging markets universe, fund managers and investors don’t have to withstand these massive losses to access the spectacular gains of better years.

The Emerging Markets Market

Because each country’s equity market moved in such a similar pattern, I began to think we could start looking at the whole basket of emerging markets as a unique market, like the US equities market. The broad movements imply market or systematic risk. When the emerging markets market (EM market) moves, individual emerging markets face pressure to move in the same pattern.

The movements of the emerging markets as a whole are mainly due to foreign investors’ capital moving into and out of the EM market based on the perception of emerging countries in general or as emerging market investors’ capital is fluctuating, which was the case in 2008. Investors in developed countries lost money domestically and liquidated their foreign holdings. These types of fluctuations are artificial, since a country’s economy does not become less productive and innovative just because foreign investors are pulling out capital. I would equate these artificial movements to a stock that loses ten percent market value when it misses its earnings forecast by a penny.

Read the rest of this entry »

Tags: Beta, Correlation, Emerging Countries, Emerging Market Strategy, Emerging Markets, Emerging Markets Market, hedge fund, Hedge Fund Strategies, Investing Strategies, Investors, Market Neutral, Not Categorized, Paired Trade

Comments feed (RSS 2.0), comment or trackback from your site.

Despite a series of ongoing challenges, a variety of environmental effects have recently swung in the activists’ favor.  First, as mentioned in my previous blog post, stock prices have taken a tremendous hit over the past year.  Yet while the news media tend to tout the market’s recent resurgence, in reality the S&P 500 still remains more than 25% below its level of one year ago.  This has unlocked a variety of value opportunities for investors, and activist hedge funds have taken notice.  In Ackman’s case, it has allowed him to add considerably to Pershing Square’s stake in Borders Group (its current economic interest consists of 40% of shares outstanding), as well as earn him a seat on the company’s board.  In doing so, he has lowered his investment’s average cost basis by purchasing shares at lower prices, thus setting the stage for a substantial profit opportunity if and when the book retailer’s shares rebound.

In addition, activist investors are benefiting from a recent groundswell of support for corporate governance reform, following a rise in publicity over corporate excesses.  Corporate carelessness and excess, which includes outrageous bonus payouts and golden parachute provisions paid out to management, as well as the stacking of corporate boards with the close friends of leadership, essentially robs shareholders of their right to share in a firm’s success.  In one more egregious example, Robert Nardelli received a $210 million severance package from Home Depot in 2007 as its departing CEO; yet, during his six years with the firm its share price failed to appreciate in any meaningful way.

In response to such corporate excess, a variety of changes are in the works.  In July, the SEC enacted a series of proposals aimed at corporate transparency, such as allowing shareholders of companies participating in the Troubled Asset Relief Program (TARP) to vote on executive pay.  In addition, the SEC is now considering reforms intended to “remove impediments so shareholders may more effectively exercise their rights under state law to nominate and elect directors at meetings of shareholders.”

Read the rest of this entry »

Tags: activist investor, Bill Ackman, hedge fund, Not Categorized

Comments feed (RSS 2.0), comment or trackback from your site.

Reuters reports British pension funds are joining the battle against European Union’s proposed regulations on the hedge fund and alternative investment universe. The National Association of Pension Funds (NAPF) and a director at Hermes, manager of the largest corporate scheme in Britain, said the rules could restrict investment choices and returns, further affecting the ability of pension funds to provide ample returns to support the aging population.

The current draft of legislation would require hedge funds to register and disclose leverage levels, according to Reuters. Furthermore, non-EU managers would be restricted in sales of funds in Europe. The Alternative Investment Management Association (AIMA) estimates could create a 25 billion euro hit for European pension funds and as much as 2.5% decrease in returns. We are seeing attempts at regulating the hedge fund industry across the globe with proposed legislation by the US Treasury. Hedge funds have successfully lobbied to keep these types of regulations from affecting the industry in the past, but mounting pressure from legislators and their constituents is on the rise due to failures of funds and fraudulent fund managers in recent years.

Investors would benefit from registration of funds requiring leverage ratios and returns to be disclosed along with risk statistics. As failures and fraudulent managers gain media attention, look for proposed regulations to gain traction with legislatures.

Tags: European Union Regulation, hedge fund, Hedge Fund Regulation, Not Categorized, Pension, Pension Fund, Pension Funds, Regulation, United States Regulation

Comments feed (RSS 2.0), comment or trackback from your site.

Bill Ackman, the forty-three-year-old founder of hedge fund firm, Pershing Square Capital Management, has had a rough go of late. Readers may recall that in 2007 he raised $2 billion from private investors in order to start a new hedge fund, Pershing Square IV.   Employing a highly-leveraged mix of common stock and call options,  Ackman invested the proceeds in trendy discounter, Target Corp.  Since its launch, Ackman has pursued a public campaign against Target, pressuring it into not only selling off its credit cards division, but also spinning off the land underneath its stores into a separately-managed real estate investment trust.  However, his attempts to unlock value on behalf of Target shareholders have thus far proven to be a colossal bust, as evidenced by his failed attempt in May to nominate several fresh faces (including himself) to the company’s board of directors. The current poster boy of hedge fund activist investing, Ackman’s plight reflects, or at least resonates with several key themes currently affecting the activist landscape.

First, one major challenge affecting today’s activist investor involves access to capital and leverage.  As a primer, activist funds are typically considered longer-term, illiquid investments. This is because the average activist fund enforces a 2-3 year lock-up period to new investors when launching the fund. Managers do this so that they can more easily concentrate on building long term value for investors, and thus minimize short term distractions caused by fund maintenance, redemptions, and reporting monthly performance. After all, raising media attention, influencing corporate governance, and generating further value from a target company is no overnight project! In Ackman’s case, he was fortunate-enough to raise capital for the fund in 2007, when market conditions were much more favorable and investors were much more willing to part with their capital for long periods of time.

In contrast, in today’s environment activist hedge funds face a tougher time raising large sums of cash from investors. Unwilling to part with their capital for the long term, risk averse investors are resorting to placing funds in liquid investments.  On top of this, banks and other lending firms are increasingly refusing to lend to hedge funds.  This is the combined result of new heightened lending standards, as well as need by these institutions to shore up cash reserves.  As a result, many activist managers, or raiders, are putting to use smaller sums of capital.  With capital so difficult to access, most new players are either waiting on the sidelines for now, or picking their battles with much smaller-sized corporations.

Another challenge faced by activist managers involves the exit strategy.  Obviously, the goal of any activist investor is to acquire a stake in an undervalued company, force it into implementing changes which unlock value for its shareholders, and then exit out of the position.  However, the stock market selloff of late 2008 left many activist investors in a precarious position.  Due to the declining markets, their positions have lost a considerable amount of value.  In the case of Ackman, he started acquiring shares in Target during 2007 when it was priced in the 60′s.  Yet, by this past spring, his levered investment had lost over 90 percent of its value as Target (TGT) shares plummeted.  Since that time, Target’s share price has rebounded into the mid-$40 range, and Ackman has pledged more capital to his investment (including $25 million of his own).  Nonetheless, while plummeting share prices can momentarily aid an activist investor in his attempt to drum up opposition to corporate boards or policies, it also renders him and his investors helpless in realizing any near-term profits.  What Ackman may have intended to be a quick profiting opportunity is slowly developing into a potentially long and drawn-out battle.

To be continued…

Tags: hedge fund, Not Categorized, start a new hedge fund

Comments feed (RSS 2.0), comment or trackback from your site.