Monday, August 17, 2015

The Biggest Surprise About Claren Road's Upcoming Liquidation

That one (and pretty much all) of Carlyle's hedge funds, namely the commodity-focused Vermillion Asset Management, did not have a good 2015 was well-known after as Bloomberg reported, its founders - Chris Nygaard and Drew Gilbert - left after losses. Actually, losses is putting it mildly: AUM imploded to a paltry $50 million from $2 billion following horrible bets on the path of commodity prices.
As Bloomberg further noted, "losses in Vermillion’s Viridian commodity fund, which invested in oil, metals and agriculture assets, have led to investor redemptions that shrank its size. The vehicle had $1.7 billion when Washington-based Carlyle bought a 55 percent stake in Vermillion in 2012, before starting its decline."
The collapse driven by a record commodity crash, while unpleasant for all the millionaires and billionaires involved, was explainable: the hedge fund which was just a glorified and levered beta chaser, was simply betting everything - and then added some leverage for good measure - that the BTFD "investment strategy" would work and commodities would rebound.
They did not, and Vermillion is now shutting its doors, and leaving Carlyle with another hedge fund implosion on its hands.
But, as noted above, there was nothing particularly surprising about that: invest badly for long enough, and you get wiped out.
What, however, is far more surprising was the fate of that other, far bigger Carlyle hedge funds, Claren Road, which as we learned moments ago from Bloomberg is also on death's door following a whopping $2 billion in redemption requests, representing about half of the firm's total $4.1 billion in AUM.
By way of background, Claren Road was founded in 2005 by former Citigroup Inc. credit traders Brian Riano, John Eckerson, Sean Fahey and Marino. Carlyle bought a 55 percent stake in Claren Road five years ago as part of a push into hedge funds.
At its peak less than a year ago, in September of 2014, Claren Road managed $8.5 billion. Now, in one month, Claren Road is facing redemptions that will pull 48% of the funds investments, forcing across the board liquidations, mass layoffs, and what will ultimately almost certainly be the fund's liquidation. Incidentally, the pain for Claren Road started at the end of 2014:
Claren Road investors had asked to redeem $374 million last quarter, a person with knowledge of the matter said earlier this month. The firm had faced redemptions of $1.9 billion at the end of last year.
Which means that bleeding billions is not exactly a new thing for Claren Road (or Carlyle). And, it goes without saying, a few "expert networks" left in operation would have surely prevented the fund's demise.
But, as in the case of Vermillion, liquidations are perfectly normal, and happen every time there is a major market meltdown, such as what commodities experienced, if not the centrally-planned and central bank-micromanaged US equities, which are the last recourse policy tool for the legacy status quo to preserve confidence in a crumbling global economy.
No, what is most surprising, is that Claren Road actually did not perform that badly: "Claren Road’s main fund gained 1.7 percent in the first two weeks of August, according to the person. It had declined 7.2 percent this year through July. Its smaller credit opportunities fund has lost 6.2 percent this year through mid-month after rising 1.9 percent in the first two weeks of August."
In other words, Claren Road was down a palrty 5.6% through mid-August, or underperforming the broader market by just 5.6% and was likely performing in line or even better than its benchmark, and yet its skittish investors saw that return as sufficient to require a liquidation.
One then wonders: if a single-digit underperformance was enough to lead to the wipe out of one of the formerly biggest hedge funds, just how big, literally and metaphorically, will the hedge fund gates have to be when the central banks finally lose control, and hedge funds experience double digit losses (or get Madoffed).
Because if truly investors are so jittery that one bad quarter is enough to force the 50% of one's cash, then what happens during the market downturn is now very clear, and is precisely what we warned in "How The Market Is Like CYNK", and how investors in China's epic fraud Hanergy learned the hard way: you can make paper profits in a rigged market on the way up all you want, but once the time to cash out comes, you can never leave.