Famous Hedge Funds Withdrawn From the Market

All major funds are susceptible to collapsing, however, in the case of hedge funds this is more frequent and the losses tend to be substantially higher. It is therefore quite informative to understand some of the incredible hedge fund losses that have taken place in the past. The following are descriptions of previously available hedge funds on the market but have now ceased trading.

George Soros’s Quantum Fund

Perhaps the most famous Hedge Fund investor is Soros, who in 1 day made US$1 billion on Sept 6, 1992 by short selling the British pound. In 1992, England was part of the ERM (European Exchange Rate Mechanism) and Soros was able to anticipate the currency devaluation of the British Pound.

Consequently by employing the Global/Macro investment strategy, Soros managed to net a profit of US$1 billion in 1 day. However years later, his fund suffered massive losses; in 1998 Russia’s defaulting crisis created a loss of US $2 billion. Then in 2000 Soros withdrew from Hedge Fund investing.

Robertson’s Tiger Management Fund

Robertson’s Hedge Fund invested by going long on undervalued stocks whilst simultaneously short selling what it considered overvalued stocks. For years this strategy was extremely successful, giving annual returns of 43% from 1980-86, so it continued applying this strategy during the technology boom.

During the tech boom, Robertson rightly considered many stocks to be overvalued and so began short selling such stocks with the expectation overvalued stocks would eventually fall. Yet during the tech boom a speculation bubble formed, causing the overvalued stocks to continue to rise beyond expectation. Consequently Robertson’s fund collapsed in 2000 after heavy losses, just before the speculative bubble itself collapsed.

Long Term Capital Management (LTCM)

Long Term Capital Management is discussed in detail in the following section as it set the precedent for hedge fund failures. Much of the precautions taken today arose from the event of this hedge fund.

LTCM was the premier quantitative-strategy hedge fund, and its managing partners came from the very top tier of Wall Street and academia. From 1995-1997, LTCM had an annual average return of 33.7% after fees. At the start of 1998, LTCM had $4.8 billion in capital and positions totalling $120 billion on its balance sheet. LTCM largely used relative value strategies, involving global fixed income arbitrage and equity index futures arbitrage.

For example, LTCM exploited small interest rates spreads, some less than a dozen basis points, between debt securities across countries within the European Monetary System. Since European exchange rates were tied together, LTCM counted on the convergence of the associated interest rates.

Its techniques were designed to pay off in small amounts, with extremely low volatility. To achieve a higher return from these small price discrepancies, LTCM employed very high leverage. Before its collapse LTCM controlled $120 billion in positions with $4.8 billion in capital. In retrospect, this represented an extremely high leverage ratio (120/4.8 = 25). Banks were willing to extend almost limitless credit to LTCM at very low no cost, because the banks thought that LTCM had latched onto a certain way to make money.

LTCM was not an isolated example of sizeable leverage. At that time, more than 10 hedge funds with assets under management of over $100 million were using leverage at least ten times over. Since the collapse of LTCM, hedge fund leverage ratios have fallen substantially. In the summer of 1998, the Russian debt crisis caused global interest rate anomalies. All over the world, fixed income investors sought the safe haven of high-quality debt. Spreads between government debt and risky debt unexpectedly widened in almost all the LTCM trades. LTCM lost 90% of its value and experienced a severe liquidity crisis. It could not sell billions in illiquid assets at fair prices, nor could it find more capital to maintain its positions until volatility decreased and interest rate credit spreads returned to normal.

Emergency credit had to be arranged to avoid bankruptcy, the default of billions of dollars of loans, and the possible destabilisation of global financial markets. Over the weekend of September 19-20, 1998, the Federal Reserve Bank of New York brought together 14 banks and investment houses with LTCM and carefully bailed out LTCM by extending additional credit in exchange for the orderly liquidation of LTCM’s holdings.

The aftermath of the Russian debt crisis and LTCM debacle temporarily stalled the growth of the hedge fund industry. In 1998, more hedge funds died and fewer were created than in any other year in the 1990s. The number of hedge funds as well as assets under management declined slightly in 1998 and the first half of 1999. Hearings were held on LTCM, resulting in recommendations for increased risk management at hedge funds, but without new legal restrictions on their practice.

LTCM proved to be a bump, rather than a derailing of the hedge fund industry. The appeal of hedge fund investing remained, and the industry rebounded. Less than a year after the Federal Reserve Bank of New York unravelled LTCM, Calpers (California Public Employees’ Retirement System), the largest American public pension fund, announced they would invest up to US$11 billion in hedge funds.

As it can be seen in the above cases, hedge funds have had a significant failure rates. Few strategies like managed futures and short only funds, typically have higher probabilities of failure given the risky nature of their business operations. High leverage is one more factor which can lead to hedge fund failure when the market moves toward an unfavourable direction. One cannot deny that failure is an accepted and understandable part of the process with the launch of speculative investments, but when large, popular funds are forced to close, investors tend to be the ones who suffer.

Other hedge funds which have failed in the past and not mentioned above are.

  • Amaranth Advisors
  • Bailey Coates Cromwell Fund
  • Marin Capital
  • Aman Capital

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