The Richest Hedge Funds: John Paulson Strikes Again

The man who called the subprime mortgage crisis is back, with four of the top 20 funds -- as his firm's bets against banks pay off big.

By Richard Teitelbaum
Bloomberg Markets, January 2009

There's not a lot of light in Paulson & Co.'s 28th- floor headquarters on a drizzly November afternoon. The Alexander Calder sculpture and multicolored prints have been shipped to the firm's new offices six blocks south. Darkness envelops the New York skyline.

The Dow Industrials have lost a total of 929 points over two days, and the jobless rate is poised to hit 6.5 percent. And John Paulson, who oversees $36 billion in hedge fund assets, isn't exactly Mr. Sunshine either.

"You have deterioration in almost every asset class," Paulson says. "You're looking at declines in housing prices, the health of manufacturers and the earnings of various companies. There are rising delinquencies in auto loans and commercial real estate."

Paulson, 52, peers over his tortoiseshell glasses. "There's more to come," he warns.

Paulson doesn't smile as he says this, even though with each new calamity his bottom line grows. Paulson & Co. funds generated profits of more than $3 billion for the firm in 2007, mostly by betting the housing bubble, swollen with subprime mortgages, would burst.

As that year ended, he set his analysts poring over the balance sheets of overstretched financial institutions, including many in the U.K. "We focused on those banks with lots of mortgages," Paulson says. "After those companies fell, we expanded our focus not just to mortgage assets, but to all credit classes."

The payoff: Four of Paulson's funds were among the 20 best-performing, and the 20 most profitable, hedge funds for the first nine months of 2008, according to data compiled by Bloomberg, other hedge fund research firms and investors.

$1.05 Billion Profit

The Paulson funds' gains ranged from 15 percent to nearly 25 percent. Based on those returns, they were on track on Sept. 30 to furnish Paulson & Co. with $1.05 billion in profits.

Paulson's performance was a striking success in a disastrous 2008 for hedge funds. The industry is reeling from convulsing markets, fleeing investors and the most serious credit squeeze since the 1930s.

Through September, the average fund lost 10.8 percent, according to data compiled by Chicago-based Hedge Fund Research Inc., putting the hedge fund industry on course to record its worst returns since at least 1990, the year HFR began compiling data. October saw another 6.3 percent decline.

HFR says hedge fund closures at midyear were 15 percent ahead of 2007. And that may be only the beginning for the world's 10,000 funds.

"It's pretty simple," says John Siciliano, a managing partner at Grail Partners LLC, a merchant bank that serves asset management firms. "The number of hedge funds is going to be cut in half in the next two quarters. You're going to see capital calls like you can't believe."

Long-Shorts Lose

Classic long-short equity funds -- the biggest category by assets -- were down 16.0 percent for 2008 through September. Such funds often wager that one group of stocks will rise and then hedge the bet by shorting a second set of stocks. In a short sale, an investor borrows shares of a company and sells them immediately, hoping to repay the lender later with shares bought at a lower price, pocketing the difference.

"Event-driven" funds, which bet on takeovers, restructurings or other company developments, were off 10.3 percent for the first nine months of 2008. Convertible arbitrage funds fell 19.4 percent. In their simplest transactions, managers make money by buying convertible bonds -- which can be converted to stock at a certain price -- and then hedging the investment by shorting the underlying stock. Convertible arb funds typically employ large amounts of leverage.

"What we're going through is what differentiates talent from luck," says Carrie McCabe, founder of New York-based Lasair Capital LLC, which invests in multiple hedge funds for large institutions. "Leverage kills you if you only use it to speculate."

Medallion is No. 1

The highest return in the Bloomberg ranking was scored by the Medallion Fund, run by Jim Simons's Renaissance Technologies LLC. The fund, which has an estimated $8 billion in assets, according to Bloomberg, racked up a gain in excess of 58 percent. That translates into firm profits of $1.43 billion for the quantitative juggernaut.

Simons, 70, is a former military code breaker and ex- chairman of the State University of New York at Stony Brook's math department.

Paulson's $13 billion Advantage Plus fund, which is designed to bet on takeovers, restructurings and other corporate events, was the second-best performer for the nine months ended on Sept. 30, with a 24.6 percent gain, according to Bloomberg data.

Click HERE to read the full version of this story

		Email this article Printer friendly format