Covert Analytics » Illiquid Assets

We are in the wrong business!

scovert — Tue, 23 Mar 2010 21:43:14 +0000

For a friend we recently evaluated their private equity statement. To not be specific but avoid being vague, hint hint it was a major PE shop in Washington DC. Anyways, this statement had our jaws dropped!!!!!

Client commitment: 3.5 million EUR
Contributions to date: 1.0 million EUR
Fees / expenses to date: 270,000 EUR

You forgot the punchline: this is after only year 2 of the investment and oh yeah, the “investments” are down 30% …. way to earn your management fee guys!!!!

Kyle Bass (Hayman Advisors) Discussing Japan

scovert — Wed, 20 Jan 2010 17:35:23 +0000

I am a huge fan both of Kyle Bass (of Hayman Advisors) and of the blog titled “Global Economic Analysis” …

About Kyle Bass
A great outside the box thinker. His hedge fund is based in Texas and though I am not familiar with the size of his fund or performance before their “grandslam” short of subprime in 2007-2008, this is one hedge fund I would give serious thought to. Please read our previous posts on hedge funds and other illiquid assets to see our general view on hedge funds, which is reluctantly skeptical.

About Global Economic Analysis
I am a loyal reader to a handful of blogs, and Mr. Shedlock’s GEA blog is one of them. I would recommend this blog to anyone interested in the markets. His insight is right on point, and he finds away to bring the best of financial information to his readers without a perpetual bombardment of data, news links, etc.

Please see Kyle’s video and the helpful script provided by Mish at the link below:

Click here for link

Our Approach: A better way to money management

scovert — Mon, 21 Dec 2009 17:34:21 +0000

Portfolio management is not just about asset allocation and matching your tactical approach to the client’s investment objectives. It is also about a range of other issues: existing relationships your clients have (with private bankers, fund managers, etc), existing “legacy positions” and how to unwind them, allocation to illiquid holdings, security selection, etc. Our approach has always been to advocate that portfolio managers maintain as much control as possible over portfolio holdings, and the top down allocation decision. The more intermediaries there are, the less control the portfolio manager has.

Intermediaries come in many shapes and colors: alternative managers such as hedge funds and private equity shops, private bankers with typically expensive fee structures and a penchant for selling structured notes (a low risk way to collect a nice fee without doing much work), mutual funds that have great “track records” that mysteriously fizzle out as soon as you invest with them. Our response: why risk it? Your clients entrust you with their money. Your job is to protect capital. The more control you have, the higher your chances at doing just that. Diversification out to intermediaries may seem like an appropriate way to diversify risk. But in the end, it simply complicates your life because now in addition to having to worry about markets and how to position portfolios, you have just added a slew of other variables you must now track: managers tracking error, operational risk, private equity sub company holdings, etc etc.

We love global, liquid, capital markets. Why entrust your money to a Private Equity manager that makes a killing off your client’s hard earned capital for them to sit back in a comfortable Manhattan office and allow an army of employees to make a living doing the groundwork. We suggest you cut the fat. Why worry about your mutual fund manager’s stock picking ability when in a declining equity market, 200 bps of outperformance still could mean a decline of -25%! You see why our emphasis is on global (because opportunities in investing are NOT limited to the US), and liquid (because why risk illiquidity when more often than not the vehicles to get access to illiquid assets are way too costly) capital markets.

Commercial real estate

scovert — Thu, 10 Dec 2009 06:16:44 +0000

Just wanted to write a quick note today on the commercial real estate downturn and how it is playing out with banks. Though real estate is not an asset class covered by our Covert Analytics software platform, many investors either willingly or not have exposure to this illiquid asset. Savvy investors can make plenty of money in this market, and timing the cycle is very important. My mantra has always been: “there are plenty of opportunities to make money in liquid capital markets, why move into the illiquid spectrum?” I stand by this view. For most money managers, you invest according to an investment thesis and if the market moves against you, take a stop loss. If not ride the bull market till you have reached your target price. Illiquid assets do not afford investors the same “in and out” luxury. That being said, when some “core” funds managed by some of the largest and most established asset managers are down 60-70% of their peak – even after this surging recovery in the economy and markets – it is worth digging into the details.

Is the commercial real estate space an interesting opportunity given the huge losses suffered this year of 30-40% on a cash basis, and after assuming the leverage of most core real estate funds 50-70%? I have discussed the situation with some major money managers in this space in the past few months, and surprisingly they expressed concern that there would be further volatility in the upcoming months! (that is a polite way of saying ”we think our fund will go down”). I didnt see how this is possible, but regardless I figured this would be a good sector to keep an eye on and potentially make a substantial allocation to in the next 3-6 months – anywhere from 5 to 10% of a portfolio.

Aside from the negative performance, the huge writedowns have caused some wacky situations. I have heard of funds with a pre-crisis allocation limit of 2% to the hotel sector, finding that after all was said and done, hotels now constituted almost 15% of the portfolio. Another interesting situation was mezzanine loans made to property developers that defaulted on their loans, and now a core real estate fund which is income oriented is forced to foreclose on the developer and take possession of undeveloped land! Most real estate funds are categorized by their approach: Core (primary concern: income, typical max leverage: 40%), Core Plus (primary concern: income and secondary concern: capital appreciation, typical max leverage 50-60%) and Opportunistic (primary concern: capital appreciation, typical max leverage: 70-80%).

This week has brought some interesting anecdotal evidence of how this is playing out:

- Credit Suisse is foreclosing on the Gaanesevort South. An ownership stake to secure a $90 million mezzanine loan will be auctioned off in the coming months.
Link: http://www.miamiherald.com/business/breaking-news/story/1373036.html

- The Sagamore Hotel is months and $30 million behind on its mortgage. They are looking for a “bailout” and partnership with Playboy.
Link: http://www.miamiherald.com/business/story/1372614.html