FYI | Jul 05 2007
By Greg Peel
Florida based John Devaney is a well-known trader of asset-backed securities, the New York Times reports, and a shrewd buyer of distressed bonds. He is also known for throwing lavish parties and for having pre-empted a sub-prime collapse earlier in the year. Last month Devaney’s Horizon ABS fund sold a “sizeable” amount of bonds and derivatives in anticipation of redemption requests.
Despite such prudence, the fund has been caught out by a redemption request from its largest single investor, who accounts for about one quarter of the US$650m invested. As a result, Horizon has suspended further redemptions. The fund posted losses of 2.2% in April, 2.9% in May and is expecting more in June. Returns of 40% were posted for 2006. Devaney is not keen to sell into the currently spooked market, and would rather wait for a more “prudent” opportunity in what he hopes will be “the very near term”. One Nomura analyst noted the market is panicked by defaults despite many bonds not yet having experienced actual losses.
The fund’s leverage stands at 1.5x assets compared to 10x for the two distressed Bear Stearns funds. Redemption is permitted only once every 90 days with 90 days notice. This is common practice amongst hedge funds. Clearly Devaney is bracing for a rash of redemption requests in the next window. Horizon is unlikely to be alone.
Meanwhile over in Europe Italian bank Italease has sent tremors through the Milan banking fraternity. (Milan is reputedly the pioneer of modern day banking, where mediaeval money-lenders would set up benches, or “banques”, in the town square). According to the London Telegraph, Italease had decided to change higher returns by investing in exotic credit derivatives. Having sold credit swaps as hedges to clients, the bank has been caught out by the European Central Bank’s rapid monetary policy tightening.
The ECB is widely expected to raise again tonight.
Last December Italease’s losses looked manageable at 225m euros, but by March they had reached 400m and last month 600m, prompting the bank to step in with 610m of funds in order to protect clients. Italease is capitalised at 1.5bn euros.
The Telegraph reports a spokesman for the bank said: “These derivatives were very complex and suddenly turned against us. They started moving in a non-linear way, so the losses were rising exponentially. We were afraid that in the worst case some of our clients would not be able to pay the contracts, so we stepped in to protect them, which means we took over the risk.”
Are these mathematically modelled derivatives or wild animals?
Italease suggested another 120m euros worth of positions remain open. The bank doesn’t report until September, and the share price has already lost 9%. Analysts suggest a capital raising of some 300m may be required to repair the damage.
Stocks elsewhere in Europe were stronger last night led by a re-rating of the hotel sector. This followed an announcement by the recently partially listed Blackstone Group, offering US$26bn on a 40% premium for Hilton Hotels. Despite concerns in the “risky debt” market, it would seem private equity LBOs are not over just yet.
(It is rumoured Blackstone is keen to address the famous Paris Hilton, which suffers from extreme over-exposure despite a permanently vacant penthouse).
Hot on the heels of the Blackstone IPO, Australia’s favourite US barbarian Kohlberg Kravis Roberts has also now filed for a capital raising of US$1.25bn. One wonders whether these moves indicate a realisation of private equity firm partners that the top of the market is the best place to cash in.
But back to sub-prime mortgages.
Astute readers of the Australian Financial Review may have this morning noticed a small ad headed “Sub Prime Mortgage Loan Book Purchases (up to $100m)”. The ad continued:
“We are a principal residential mortgage lender active in the purchase of sub prime residential loan books. If you have a sub prime 1st mortgage loan book with average LVR’s up to 80% that you are interested in selling please contact Graham on [phone number included] for a confidential discussion.”
FNArena contacted Graham for a comment, but after due consideration he politely declined the invitation.
