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Hedge fund closures hold nuggets for investors

Hedge fund managers may be criticised for their recent returns but they have consistently displayed a razor sharp sense of timing when it comes to picking when to sell their own businesses.

When Och-Ziff, the New York-based hedge fund founded by the former Goldman Sachs trader Daniel Och, decided to sell equity to the public markets it did so near the top of the market in late 2007. Investors in that pre-crisis deal, including Dubai International Capital which purchased a $1.25bn stake, have since lost more than 90 per cent of their money excluding dividends.

Three years later the then New York-listed GLG Partners sold itself to the UK’s Man Group at a 55 per cent premium to its market value for £1.1bn. Today, Man Group is worth about 40 per cent less than when the deal was struck. Shares in the private equity companies Blackstone and the Carlyle Group are also trading below the price where they were sold to the public.

So what is to be made of the timing of last week’s news that Eric Mindich has decided to shut his $7bn Eton Park hedge fund and return money to investors from what he called a “position of relative strength”?

The closure of Eton Park has a symbolic resonance on Wall Street. Once the youngest partner in the history of Goldman Sachs, Mr Mindich left the bank in 2004 to set up Eton Park. It became one of the largest launches in the history of the hedge fund industry and, emboldened by his and others’ success, a whole generation tried to follow him.

Much has already been written about how Eton Park’s decision to call time is yet further evidence of how clients are no longer willing to pay hedge funds high fees in return for mediocre performance, and that as a result the industry is steadily declining.

We also know that Eton Park lost about 9 per cent last year and has not made double digit returns since 2013, when it generated 22 per cent against the S&P 500’s gain of 32 per cent.

Yet considering Mr Mindich describes the closure as a decision he took, rather than an outcome forced upon him by clients pulling out their cash, the end of Eton Park may also be telling us where we are in the current market cycle.

Why would a financially motivated individual who had spent his entire career working in markets choose this moment to relinquish what is effectively a free option potentially worth hundreds of millions of dollars in fees?

Mr Mindich is already a very wealthy man and may now lack the motivation to continue to battle though market conditions he described as “unfavourable”. Shutting down a $7bn hedge fund seems to be a strong signal that he believes his ability to make money for both himself and his investors will be limited over the coming years.

Equity valuations in the US mean bargains are scarce. Anyone buying shares today is locking in valuations that may only be justifiable over the medium term if you are confident there will be a sharp upturn in corporate earnings and the Trump administration will seamlessly usher in a new era of economic expansion. Neither of these outcomes is anywhere close to being a certainty.

Hedge fund managers ultimately earn their money by making well considered bets when the odds are in their favour. Professionally, this is done by identifying investment opportunities where the risk of losing money is considerably less than the chance of making it. Personally, this is by knowing that they will be entitled to a fifth of all profits should they make any, and can console themselves with a fixed management fee on their clients assets should they fail.

In spite of all this, Mr Mindich has decided to take his chips off the table. Considering the record of hedge fund managers when it comes to knowing when to cash out, the closure of Eton Park may well mark an ominous sign for an increasingly toppy-looking market.

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