The classic hedge-fund creation story concerns a young trader at an investment bank. Opening his year-end bonus check, his jaw drops in amazement.
“We thought you’d be happy,” says his supervisor. “That’s the largest first-year bonus we’ve ever given.”
“Happy?” responds the young man, confused.
He’d wrung millions out of the market, and yet the firm rewarded him as a junior team member. He quit that day, the story goes, to start a hedge fund.
And here’s the twist: He can. It doesn’t take much. To run money, which is how managers refer to what they do, requires little more than a few computers. Zach’s boss likes to say, “I could run $100 million by myself.” The theory is that they’ve got an almost athletic gift for investing. They’re the type who can, as one manager did, call the direction of the market correctly 22 days in a row. They don’t want (or need) the kind of marketing, sales, and investor-relations apparatus that comes with, say, a mutual fund.
These days, many hedge-fund managers seem to hail from Wharton or, better yet, Goldman Sachs, lately a kind of hedge-fund farm team. (Pirate Capital founder Tom Hudson, 38, had passed through Goldman Sachs, where he earned a guaranteed $1 million a year.) On the other hand, one independent filmmaker started a hedge fund with his father, a psychologist, and raised $2 million.
“Anyone can hang a shingle,” says Jim Torrey, who runs the Torrey Funds, which invests $500 million in hedge funds.
No one says it aloud, but the message was clear. Join a hedge fund—or, better yet, start one, Zach’s ultimate goal—and, well, as one member of Hedgeworld put it, you could be a “supercapitalist,” an action figure in khaki pants with a shot at “screw-you amazing money,” as the saying goes. A supercapitalist roams the globe (figuratively, since mostly he’s installed in his cubicle), seeking undervalued assets. He even, like Zach, occasionally gets to rail against managements that unjustly depress shareholder value. The choice is yours. An adviser nattering on in a good suit, or else “someone who has,” as one hedge-fund guy asserted, “the ability to make things happen by his own will or his own checkbook.”
The investment banker talks your ear off, charms you with his minor gifts. And for what? To give advice. There’s a hedge-fund put-down. “We get to pull the trigger,” says one manager. Just for the pleasure of illustrating the point, one hedge-fund guy sitting at a café in a burgundy golf shirt—he has no clients and thus no dress code—grabs his cell phone off the table. “Give me $100 million of . . . ,” he says, and names the company. “That’s how hard it is.” It’s that easy if—and here’s the implication—you have the nerve. As one hedge manager all but snorted, “Bankers have no appetite for risk.”
The hedge-fund manager, by his own estimation, is made of different stuff. “We are not afraid of risk,” one elite manager explains. “That’s what separates us from everyone else.” Huge bets are the norm. One thing is certain: Lose your nerve and you’ll lose your money.
Aggression is the norm. “If you’re buying into the market,” says one, “then by definition, you’re saying the person selling to you is an idiot.”
Risk, of course, is the dark side of the hedge-fund experience. Everyone in Hedgeworld knows that the market—Mr. Market, to some—can decide to show a young supercapitalist just who’s boss. “You can do everything right and the share price can still go haywire,” says one manager.
Some hedge funds blow up, the term for disaster. (The famous collapse of Longterm Capital in the late nineties seemed poised to unsettle the global economy.) Clearly, consolidation and failure lie ahead. (And, investment bankers point out, banks will be here in twenty years.)
As newcomers flood the field, great deals are harder to find. Suddenly, as one manager says, “it’s shark versus shark.” Hedge-fund returns this year are close to flat. There is talk in financial circles—tinged with hard-to-suppress Schadenfreude—that this is the top of the hedge-fund game, the moment just before everything changes. Clearly, the easy money has already been made. The federal government recently has talked about regulation. “I wouldn’t want my kids going into it now,” says one manager. Nevertheless, as the stock market continues to post unimpressive returns, investor belief in hedge-fund magic shows no signs of abating. Money pours in at record rates—this is the fifth consecutive record quarter. Eric Mindich, formerly of Goldman Sachs, just raised $3 billion. By all accounts, money will continue to arrive—pension funds want in!—as will the sharks.
Every hedge-fund manager has a story of how, one sunny afternoon, he lost $20 million or $60 million or $100 million. Losses can initiate a death spiral. The question for all the aggressive new sharks —and their hopeful investors—is this: When your time comes, will you be able to handle it? Or will you too blow up one day?
The Day Daniel S. Loeb, 42, picks his latest fight, this one a skirmish with Wilbur Ross Jr., a former investment banker (which may be part of the problem), he doesn’t appear to be in the best mood. It’s the end of the trading day at Loeb’s Madison Avenue offices—he liked the space enough to bid the price up. (But then it comes with a 4,000-square-foot terrace, perfect for walking Biggie, his miniature pinscher.) Loeb heads down a hallway, swings by the Richard Prince photo featuring a bare-breasted girl on a Harley. He turns into the conference room with its fogging glass wall and sets up at a blue plastic-topped table. (He liked the designers so much he had them do his place in South Beach.) Loeb’s going off caffeine. His assistant has a green tea waiting for him.
“A stock blew up,” he offers offhandedly. The offending stock, Leap Wireless, a cell-phone company, unexpectedly gapped down five points, attention-getting since Loeb owns about 4 million shares, for a quick $20 million loss.
Loeb is a focus guy. Each morning at 5:30, he makes his way from his West Village townhouse to a yoga center and puts his feet behind his neck, which Loeb maintains is good for concentration. Still, at the moment, Loeb seems distracted. His hair, which is starting to gray, sticks up in patches. He wears white corduroys. His shirt, with pink and purple stripes, is untucked. “Let’s put it in context,” he says. “It’s never fun to lose a lot of money.” But it’s only $20 million. “We lost a little over 1 percent of the fund,” he points out. He calls for a trash can for his tea bag.
By contrast, the Ross matter seems a bit of fun, a mood elevator. Loeb places the press release on the table. It seems that Loeb and Ross, who has his own private equity fund, find themselves in the same investment. Recently, Loeb purchased $37 million of bankrupt Horizon Natural Resources, a coal company. Ross heads the committee guiding the company through bankruptcy.
In this capacity, Loeb says, warming up, Ross has committed “an egregious example of greed and self-dealing.” From Loeb’s point of view, he overweights his compensation, a mistake Loeb suggests may be a reflex from “the many years you spent generating fees . . . ” Loeb accuses Ross of “double-dipping,” a charge that sent Loeb’s jittery lawyers running for cover. “He’s a bit of a blowhard,” says Loeb, who knew Ross wouldn’t sue.
Disrespect, though, is kind of a Loeb sideline. Since 1995, Loeb has run Third Point Management, a hedge fund he started with $3.3 million from family and friends. He now has eight other investment personnel and $1.7 billion, which to Loeb’s mind isn’t particularly exceptional these days. At a hedge-fund charity event, he asked for a show of hands: Anyone here not run a $1 billion hedge fund? His fund has returned over 25 percent annually to investors.
Loeb is well known in Hedgeworld for his attacks on what he views as greedy execs who also happen to be depressing shareholder value. Of shares he owns. “The moral-indignation business,” Loeb sometimes calls it.
Hedge-fund guys love to read Loeb’s attacks—“he articulates what people feel,” says one. Usually, the letters accompany Loeb’s government filings. If you buy 5 percent of a public company, you must file with the SEC; Loeb once increased his holdings, at a cost of more than $4 million, just so he could file a letter.