Hedge funds land hefty returns through bets on subprime crisis

Hedge funds land hefty returns through bets on subprime crisis
By James Mackintosh
Copyright The Financial Times Limited 2007
Published: July 11 2007 03:00 | Last updated: July 11 2007 03:00


Hedge funds betting on falls in bonds linked to US subprime mortgages raked in returns of almost 40 per cent last month as they profited from the crisis that engulfed some rivals.

A $2bn (£1bn) fund run by New York's Paulson & Co was the single best-performing fund, rising 39.95 per cent after fees in June thanks to its dedicated bets against subprime mortgages. Other hedge funds following similar strategies produced returns as high as 27.5 per cent in the month, while another manager has tripled investor money this year, according to investors.

The strong returns follow the implosion of two hedge funds run by Bear Stearns, which hadborrowed heavily to invest in bonds linked to subprime; the announcement of the winding up of a London-listed fund after big subprime losses; and the suspension of redemptions at a Florida fund invested in the sector.

However, some managers are warning that so many hedge funds piled money last month into bets against subprime that it had pushed up the cost too far. "It is becoming the trade du jour," one manager said.

Investors in hedge funds say many managers profited from subprime by holding short positions through credit default swaps, even in funds that are supposed to focus on equities.

But some fear that undisclosed or mispriced investments in the hard-to-value bonds and equity of structured products linked to subprime, such as collateralised debt obligations, could lead to surprise losses at some funds as they report this month. Christian Zugel of Zais Group, a New Jersey hedge fund manager, told investors last week that losses from residential mortgage CDOs could reach $60bn-$100bn, far more than the $52bn estimated on Monday by Credit Suisse.

Two other funds performing strongly in June were SCSF, run by Texan hedge funds Hayman Capital and Corriente Advisors, which rose 27.5 per cent; and San Francisco-based Passport Capital, which rose 13.8 per cent.

John Burbank, who runsPassport, said subprime would drop further: "We have a lot more to go here."