Gary, your Citadel Investment Group falters bad, reputation tanks
LIBERATOR
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http://www.citadelgroup.com/
http://online.wsj.com/article/SB125859118417754637.html
NOVEMBER 20, 2009 A Hedge-Fund King Comes Under Siege
By JENNY STRASBURG and SCOTT PATTERSON
CHICAGO -- Hedge-fund titan Kenneth Griffin lost $8 billion of his
clients' money last year.
Now, he is trying to persuade investors to trust him with more.
"We showed a level of human fallibility," he told his staff at a late-
September lunch in Manhattan.
Kenneth Griffin, 41-year-old chief of Citadel Investment Group, is
trying to keep old investors and woo new ones after the firm had big
losses last year.
The price of fallibility: a 55% loss in the big hedge funds at his
firm, Citadel Investment Group. His funds' declines far outstripped
the 19%, on average, that hedge funds lost as a whole, according to
Hedge Fund Research Inc. For the past year, Citadel prevented
investors from withdrawing money they wanted to take out from his two
main funds, Kensington and Wellington.
Mr. Griffin is looking for the next big opportunity even though the
hangover from the last one is fresh in clients' minds. He is launching
four new funds and expanding in investment banking -- hoping to fill
the profitable hole left by the collapse of Lehman Brothers.
Before his disastrous 2008, Mr. Griffin charted years of strong
performance. Still, many investors are dubious about his recovery
plans.
In a September interview in his Chicago office, Mr. Griffin expressed
exasperation at investors' desire to keep dissecting last year's
disaster, comparing their fascination with people's inability to look
away from a car crash. "I've told the story of 2008 many times," he
said.
Citadel's biggest mistake last year, Mr. Griffin said, was putting too
much faith in regulators' ability to deal with the global meltdown.
Mr. Griffin's predicament reflects broader troubles at hedge funds
world-wide. For much of the decade, hedge funds ranked among the
hottest investments. But these largely secretive, complex investments,
heavily reliant on borrowed money, were hammered in 2008 by the crisis
in the world financial system.
So far this year, most hedge funds are showing profits again. In
particular, Citadel has come storming back. Its main fund is up 58%
this year.
But a parade of frauds, the insider-trading allegations swirling
around Galleon Management and the weak economy have kept big clients
(pension funds, endowments, the super-rich) from plowing in more
money. Hedge funds crave new investments to make up for losses and
withdrawals they've suffered.
News Hub: Citadel's Bid for a Clean Slate
2:59
The News Hub panel discusses Citadel's turnaround strategy following a
loss of $8 billion in investments last year.
Journal Communitydiscuss“ That he had a major losing year - a year
which happened to be a losing year for practically everybody - should
surprise nobody. ”
— Chris Georgandellis Nevertheless, dethroned hedge-fund magnates such
as Mr. Griffin still carry clout by simple virtue of the fact that
they managed to survive when others disappeared. If successful, and
there is no guarantee of that, their ideas will help shape the next
version of Wall Street.
Like Mr. Griffin, other money managers have tried to walk a fine line
between acknowledging last year's blunders and assuring that they
won't be repeated. But Mr. Griffin's comeback strategy is trickier
than those of his peers, because his grand ambitions beyond hedge
funds may have little relevance for his longtime clients, according to
some investors and Wall Street executives familiar with the firm.
"Nothing is more important to me as we approach (Citadel's) 20th
anniversary than striving to earn back the losses of '08 and move
forward," Mr. Griffin said in an interview this week. He's spending
"the vast majority" of his time, he said, focused on Citadel's biggest
hedge funds.
That Citadel survived at all is a testament to the money-making
machine Mr. Griffin built over the decades. More than 2,000 hedge
funds, or more than 20% of the total, shut down since early last year,
according to Hedge Fund Research.
Until last year, Mr. Griffin had to turn investors away. Those who
made the cut paid him some of the highest fees in the hedge-fund
industry, amounting to 20% of profits on top of fund expenses that
commonly have ranged from 4% to 8% of an investor's fund assets,
according to fund documents.
Now, Citadel is cold-calling investors, with Mr. Griffin and other
executives involved in trying to drum up money. He's able to trot out
some encouraging numbers. In the first nine months of this year,
Citadel made $5 billion in trading profits as markets recovered.
Many investors, though, are less interested in Citadel's rebound. They
want to talk about what went wrong last year.
In September, Mr. Griffin flew to Europe on his private jet to pitch
his new funds. It was the first time in years that Mr. Griffin
personally had spent so much time asking investors for cash.
He met with Pictet & Cie, a Geneva bank with more than $300 billion in
assets to invest. Pictet executives questioned him about how 2008
turned so ugly for Citadel, according to a person familiar with the
matter. In the end, Pictet decided not to invest.
Mr. Griffin, 41 years old, has rarely suffered professional failure.
He developed his investment strategies in his Harvard dorm room. After
graduating in three years, he launched his first hedge fund in 1990.
Before 2008, Citadel lost money just once in a calendar year, back in
1994.
As his wealth grew, he became a collector of art and Ferraris. He
occasionally dispatches his driver on a 200-mile round trip to fetch
milkshakes from LeDuc's Frozen Custard in Wales, Wis., near where Mr.
Griffin grew up. The folks at LeDuc's refer to the financier as "the
man of a thousand shakes," based on a birthday order in 2004 that was
so big, it got shipped to Chicago in a truck.
But Mr. Griffin's driver "hasn't been around in maybe six months or a
year," says Jim Shackton, owner of LeDuc's, whose staff in past years
came to recognize him when he'd pull up to the little pitched-roof
custard shop in a silver Mercedes sedan. ("Nice car," Mr. Shackton
says.)
In 2006 Mr. Griffin purchased "False Start" by Jasper Johns for $80
million, among the highest prices ever paid for a work by a living
painter. And in 2005 he bought a 5,500-square-foot home in suburban
Chicago for his grandmother, an early investor.
The high point for Citadel came just before the credit crisis hit. The
firm's assets peaked near $20 billion at the end of 2007 on the back
of a 30% annual return. The firm had just completed one of its biggest
investments, in online brokerage E*Trade Financial Corp.
But in July 2008, Citadel endured the first of six straight money-
losing months. Following his old script, Mr. Griffin raced to buy
beaten-down assets such as convertible bonds, long his specialty, only
to see them take a further beating.
Citadel's losses piled up. In October, the firm had its worst month
ever, losing 22% in its biggest fund. Other firms were going out of
business left and right.
The speed and depth of the global crisis, ironically, may have helped
Citadel pull through.
So many other firms were folding that some lenders -- worried about
ripple effects if a giant like Citadel were forced to sell big chunks
of assets into the dysfunctional markets -- were reluctant to make
moves that might have imperiled the firm, according to people involved
in those discussions. In particular, regulators pressed Wall Street
firms including Deutsche Bank AG not to make drastic changes in their
dealings with Citadel, according to these people.
Still, the banks demanded that Citadel post more cash to cushion
against losses. Citadel rushed to meet these demands while minimizing
its own losses.
Mr. Griffin spoke frequently by phone with top executives at Goldman
Sachs Group Inc., including President Gary Cohn and Chief Executive
Lloyd Blankfein, regarding the markets and Citadel's financial
straits, people familiar with the matter say.
"We have a strong relationship with Citadel and we felt very
comfortable with our risk at the time," Mr. Cohn said recently.
Talk of Citadel's problems spread widely at that time. In a conference
call last November, Mark Yusko of Morgan Creek Capital Management told
clients: "There's a rumor a day about how Citadel's going to go out of
business."
Citadel didn't close. But by December it was severely hobbled.
Allowing investor withdrawals would endanger the firm and all its
investors, Mr. Griffin and his top executives decided. So they sent a
letter Dec. 12 telling clients they would be barred from withdrawing
the more than $1 billion they had requested. "We hope to resume
redemptions as early as March 31, 2009," that December letter said.
Restrictions on withdrawals stayed in place. In October, Citadel said
that at the end of December it will let investors pull out the
remainder of the more than $1 billion they've been seeking. That
amount represents roughly 10% of total assets in its hedge funds.
Mr. Griffin says he has dialed back on risk-taking. Citadel has cut
his wagers on corporate bonds and other holdings that hurt him badly
last year, he says, and has been putting more cash into plain-vanilla
stocks. In a letter to investors late last month, he told them not to
expect huge bets like the E*Trade investment, which saddled the funds
with a "significant concentration of risk."
If there were a repeat of 2008's market turmoil, Mr. Griffin says, his
funds would lose less than 20% rather than 55%. Citadel's biggest
hedge fund has rebounded 58% this year through mid-November. And
recently, Mr. Griffin has resumed talking about an initial public
offering for Citadel as early as next year.
Most of all, Citadel wants to leave 2008 in the past.
"But I don't think anybody else has," Jon Gans, president of Ironwood
Capital Management, told other Citadel investors this past summer in
the firm's downtown San Francisco offices, according to people
familiar with the matter. Ironwood and other longtime Citadel
investors say they intend to reduce investments with the firm, the
people say.
Another longtime Citadel investor that has been critical of Mr.
Griffin this year is Robeco Investment Management in New York, which
has several million dollars invested with the firm. One person
affiliated with Robeco says Citadel should earn back investors' losses
and return cash before trying to sell them new funds.
A spokeswoman for Robeco declined to comment.
Some clients are returning. Mr. Yusko of Morgan Creek Capital
Management says he has invested more in Citadel this year and could
add additional money. "I don't think they're geniuses this year, and I
don't think they were idiots last year," he said.
Nevertheless, some investors question whether Citadel can still post
big returns to match the outsized fees it charges. Despite the rebound
this year in Citadel's hedge-fund performance, they still must earn
back far more to recover last year's losses. Mr. Griffin acknowledges
that process could take another year or even two. Until then, Citadel
isn't eligible for lucrative 20% fees on the funds' profits.
This is one reason why the new hedge funds are so important: They have
no ground to make up, so they can earn fees immediately. In the first
quarter, Citadel told investors it was hoping to raise more than $2
billion over several years for a new fund designed to invest in
currencies, interest rates and broad economic trends. However, by
October, outside investors had put less than $100 million into the
fund, people familiar with it say.
The fundraising has fallen short of early goals, according to people
familiar with the matter. All told, Citadel says it has gotten $500
million in commitments for all of its new hedge funds.
At the same time, Citadel has lost two top people -- including the
executive brought in barely a year ago to expand Citadel's investment
banking. Rohit D'Souza, the former head of global equities at Merrill
Lynch, was to oversee a broad expansion of Citadel's securities sales
and trading business. He also brought in a team of deal-makers to
build the investment-bank.
Mr. D'Souza, who resigned in October, didn't respond to requests for
comment. Citadel downplayed the departure, saying other executives are
in place to run the operations, which are growing.
In February, Misha Malyshev, who helped build Citadel's highly
profitable business of rapid-fire, computer-driven trading, left the
firm. He took several employees with him, triggering a nasty legal
battle. Mr. Malyshev didn't respond to a request for comment.
Citadel sued Mr. Malyshev alleging he violated an agreement not to
compete against the firm. His departure was a big loss: His trading
division was a rare bright spot last year for Citadel, earning $1
billion in profits even as traders melted down world-wide.
In a sign of the importance of the case to Mr. Griffin, he showed up
at the Cook County Circuit Court in Chicago to watch the proceedings.
The judge ruled last month that Mr. Malyshev would temporarily have to
refrain from competitive activities.
Reflecting on 2008, Mr. Griffin wrote to clients at the end of
October, "Unquestioningly, some of our core strengths became
liabilities last fall, including perhaps a degree of over-confidence
in our ability to weather almost any market catastrophe."