March 30, 2007
San Diego County pension fund sues Amaranth hedge fund
Amaranth Advisors LLC was sued by the San Diego County retirement fund for securities fraud....
Amaranth lied about trading strategies and made "excessively risky and volatile investments," according to a complaint filed yesterday by the San Diego County Employees Retirement Association. Amaranth said fighting the lawsuit, the first tied to the largest-ever hedge-fund failure, will drain remaining assets earmarked for investors.
The complaint, filed in U.S. District Court in New York, seeks damages of at least $150 million based on the retirement plan's $175 million investment. Amaranth has yet to refund $630 million, or about 23 percent, of the assets it held at the end of September....
I guess some of those "alpha engine managers" are better than others.
Posted by James Hamilton at March 30, 2007 08:36 AMdigg this | reddit
Posted by: Martin at March 30, 2007 09:49 AM
I know it shouldn't but this story made me laugh. Those government folks are never at fault.
"Hey the hedge fund told me they were a good investment. It's not my fault I took your money and threw it away. You don't think you pay me that big salary to be compenent do you? It is what I deserve to raise my family, put my kids in private schools, pay my credit card bills, take my vacations, pad my retirement, come on ... I don't have time to check out every investment."
Posted by: DickF at March 30, 2007 10:10 AM
Without merit, and may the city lose and others learn a lesson.
Posted by: jg at March 30, 2007 12:16 PM
The county found itself in a hole that it wanted to escape. So they paid a fee to exchange their previous hole for a bigger hole, to be delivered *later*. Kicking the can down the road, at it's finest. Now that the new ultra deep hole has been delivered, the next step in the game is to sue someone, unless they can find another hole vendor.
Posted by: RP at March 30, 2007 01:09 PM
Amaranth [...] made "excessively risky and volatile investments," according to a complaint
Yes, we all want 20% per annum return with an FDIC guarantee. It is only the very special, select few who believe such a thing actually exists.
Small Investor Chronicles
Posted by: Alex Khenkin at March 30, 2007 01:15 PM
I want to applaud you for seeing this coming. Thanks for your insight and analysis. But I wonder if any of those politicians will even listen.
Posted by: Anonymous at March 30, 2007 02:31 PM
As an aside: San Diego is a traditional bastion of the GOP. 4 out of 6 House Representatives, all of the County Supervisors, the Mayors of San Diego, past and present (and most mayors of the other smaller cities in the region), the majority of the city council, all Republicans.
The small point being, mismanagement isn't a partisan issue. In fact, it may not really be a political issue in the sense of particular ineptness of the elected officials.
One could argue, from personal households to the White House, fiscal irresponsibility is, in our times, as American as that famous apple pie...
Posted by: Anonymous at March 30, 2007 11:52 PM
I couldn't agree with you more and California is the worst. Consider the economic crisis that devoured much of California and sent Californians scurrying to Las Vegas and other cities outside the state (can you say real estate boom). Republican Pete Wilson created a monster, then Democrat Gray Davis fed it until it grew out of control.
Posted by: DickF at March 31, 2007 08:59 AM
Regardless who's at "fault",the people at the pension fund have a fiduciary responsibility to try and recover what they can through all legal means available to them,such as litigation.
Municipal financial officers who supervise investments swing a lot of weight in Wall Street, because of the fee-generating business they have to dole out. Even if the SD pension fund has no legal foot to stand on they might be able to squeeze some money out of the managers. The managers might be inclined to pay something in order to preserve the good will of the pension fund and their reputation vis a vis other municipal managers,in hopes of future business.
It isn't pretty,but that's how the game is played.
Posted by: jim miller at March 31, 2007 01:30 PM
Isn't Amaranth legally bankrupt? Doesn't this mean that a lawsuit to get money out of them is a losing proposition upfront?
Posted by: Barkley Rosser at March 31, 2007 06:17 PM
I hope that San Diego gets nothing from Amaranth so that the rolling back of the ridiculous public pension promises can begin sooner rather than later. Dang thieves -- the public sector unions -- and shysters -- our City Council -- that acceded to this.
Posted by: jg at March 31, 2007 09:45 PM
Bankruptcy normally means that a business cannot meet its obligations. The creditors then get together to get as much as they can from the bankrupt estate.
It's entirely possible that the pension fund could get some money back. It all depends on the balance sheet, the competing claims and what priority the pension fund has vis a vis the others. SD may have determined that a lawsuit is necessary to establish their right to claim,to establish their priority,whatever. It might also just be a ploy- it's a common tactic in bankruptcies to cause so much trouble via lawyers and lawsuits that the other creditors will offer you something to make you go away.
Overall I think it's naive for those in the bleechers to automatically assume that filing a lawsuit is completely stupid. There are many good and valid reasons to do it,and those on the outside will probably never know what the reasons really are.
Posted by: jim miller at April 1, 2007 05:10 AM
Whether or not Amaranth is bankrupt the County is also filing suit against four of the firm's partners who all have a substantial personal net worth. And we are talking about the County here people. NOT the City as many on this Board keep citing. Get the facts straight before you start spouting off and further demonstrating your ignorance in a public forum ladies. And as far as I'm concerned the County and any other public retirement plan invested in Amaranth has a fidicuiary responsbility to pursue litigation and get as much money back as possible from the firm's stakeholders.
Posted by: Kyle P. at April 2, 2007 08:47 AM
as far as I'm concerned the County and any other public retirement plan invested in Amaranth has a fidicuiary responsbility to pursue litigation and get as much money back as possible from the firm's stakeholders.I always though that their fiduciary responsibility was first and foremost to evaluate potential risk of a permanent loss of capital. How silly of me! Invest money into a hot-hot-hot, high-flying private partnership, whose strategies and risks you don't even remotely understand, loose it all, then sue on a public dime.
Small Investor Chronicles
Posted by: Alex Khenkin at April 2, 2007 01:14 PM
If that was the case they would be 100% invested in t-bills. Their responsbility is to manage the fund to meet overall risk and return levels. If that includes certain more "risky" investments then so be it. You will find "risky" investments in any pension fund. Whatever "risky" may be? A diversified portfolio will have an array of risky and non-risky investments. My definition and your definition may be completely different. 10-15 years ago people thought international stocks were too risky. They are common in all funds today and hedge funds will be too.
Posted by: Kyle P. at April 3, 2007 07:49 AM
Evaluating potential risks does not imply not taking them. Just don't come home crying when the risks you didn't understand wipe out your portfolio. Also, Amaranth is (was) not a "hedge fund", obviously - they hedged nothing. I guess those pension fund trustees could have started by learning the meaning of "hedge".
Small Investor Chronicles
Posted by: Alex Khenkin at April 3, 2007 08:11 AM
I don't disagree. Litigation is the proper action.
Posted by: DickF at April 3, 2007 02:25 PM
Does this issue not boil down to a question of fraud? That is, did Amaranth knowingly understate the risk inherent in their trading strategies? I think the SD County folks are saying that they were sold something under false pretenses.
It seems to me that some of Amaranth's principals were out of the loop on Brian Hunter's natural gas strategies and positions. Poor internal controls = bad management, and sometimes management has to pay a price for not doing their job properly. Would this sort of thing happen at a Goldman Sachs or Morgan Stanley?
Of course, it could be that the SD guys did know the true risks but are just taking a CYA action now.
Posted by: bartman at April 4, 2007 12:31 AM
Amaranth sold itself as a 'multi strategy fund'.
Its' clients did not know that $6bn/9.5bn would be invested in one strategy, that of betting on rising natural gas futures.
Senior management went around the managers of the different strategies within Amaranth, and told them to cut positions to finance Brian Hunter's bet.
At the very least, Amaranth is guilty of misleading investors, as well as of poor supervision of Brian Hunter (he had relocated with his family to Calgary, he was not at HQ).
SD County should certainly sue. If there is money on the table, they need to grab it if they can.
On whether they should have invested in the fund, I have my own reservations about whether most public sector pension funds pay enough, to hire good Alternative Asset fund investor individuals. A team like Yale, with its data and skill, has been built up over literally decades.
Cambridge Associates also has a good team, and that sort of advisor can be tapped.
Certainly in the case of Amaranth, it wasn't only public sector pension funds that got hosed. Some very smart people in the hedge fund industry got hosed, suggesting that Amaranth concealed what it was doing, rather merely that excessive risk was taken by fund investors. Amaranth's defence will of course be the opposite, that the client knew the risks.
But I think generally it's very hard for a public sector pension fund to know what risk it is taking in Alternative Assets. There is a temptation to try to 'create money' by pursuing high risk alternative asset classes, hoping to get higher returns. And there is also a tendency to 'chase returns' by investing heavily in whatever AA class did well historically.
Capitalism is efficient though, in the sense that AA class returns tend to be mean reverting. Success brings more money, which drives down returns. I think this effect is going on in private equity, hedge funds, commodities and real estate, at least.
The smart fund investor is probably piling into distressed debt and restructuring funds, awaiting the inevitable downturn.
I think ultra-cap US and global equities are also interesting, on the same basis, having lagged all of the indices for a very long time.
Posted by: Valuethinker at April 5, 2007 03:15 AM
What gives you the impression and assumption that is is hard for public pension officials to know what risks they are taking? I've attended a three SDCERA meetings to observe and they have been making alternative investments, including the hedge fund portfolio, for 10+ years. Which is likely one of the main reasons the fund is one of the top performing public plans in the country. From Calpers to SDCERA, many public fund investment officials have very impressive backgrounds and credentials. Many have migrated from the private sector in recent years as public pensions have realized that in order to compete and attract top notch talent they need to raise salaries and institute bonus programs. Take Russell Read at Calpers for example. These ignorant public pension officials as you make them out to be are not your run of the mill government employees. I do agree with your other comments and observations though.
Posted by: Kyle P. at April 5, 2007 08:48 AM
Kyle, are you suggesting that "top performing plan" signals more skill rather than more risk? From my review, it looks like SDCERA has just been farming out the portfolio decisions to a set of other managers, of whom Amaranth was one.
As for your broader point that pension funds should take risk, I have concerns about how the incentives actually operate in practice. Specifically, I am worried about whether these funds are earning higher than average returns as compensation for exposure to low probability catastrophic losses. I see that risk structure as fundamentally incompatible with the funds' mission to taxpayers and beneficiaries. I am worried that there is little ability for the public to assess this risk. The observation that a fund has earned good returns for a decade is not very relevant for this evaluation.
Posted by: JDH at April 5, 2007 09:28 AM
"Specifically, I am worried about whether these funds are earning higher than average returns as compensation for exposure to low probability catastrophic losses. I see that risk structure as fundamentally incompatible with the funds' mission to taxpayers and beneficiaries. I am worried that there is little ability for the public to assess this risk. The observation that a fund has earned good returns for a decade is not very relevant for this evaluation."
-Amen! At a risk of sounding banal, an excellent example of such a strategy would be selling naked options for income. One can easily realize double-digit returns with which to dazzle city officials. It is their fiduciary duty to ask how exactly such returns are generated.
Small Investor Chronicles
Posted by: Alex Khenkin at April 6, 2007 06:39 AM
I'm glad to hear the public pension funds are paying the kind of money they need to get top people.
I know with CALPERs they had to bypass California law, by paying the staff as consultants (because otherwise their salaries would be higher than that of the Governor which is forbidden under CA law, I am told). Inevitably the pay of even highly successful endowment managers (Harvard, Yale) is a constant political issue within those communities: paying someone a multiple of what the university president receives.
However I should have been more precise in my language. I still think it is hard for 3rd party investors to know what risks, day by day, hedge funds are taking on. This would also be true of private sector fund of funds and family office managers and pension fund managers.
Even in private equity, it's hard to assess the real risk in a PE portfolio, because the assets aren't traded and most don't even have a credit rating.
With a hedge fund, you can lose your entire investment, if it turns out the fund has done a trade which has gone wrong, which exceeded its risk tolerances. Which is what happened at Amaranth.
Amaranth was sold as a 'multi manager' fund
Posted by: Valuethinker at April 11, 2007 04:01 AM