Meriwether: When Failed Genius Is Rewarded

The reaction to the news that John Meriwether is setting up a third hedge fund has been entirely predictable, especially when Sam Jones’s story deadpans that “the fund is expected use the same strategy as both LTCM and JWM to make money”. (Meriwether’s first two funds, of course, were spectacular failures.)

But really this isn’t a third hedge fund at all, it’s just a reincarnation of the second one, minus the high-water mark. Kid Dynamite explains:

JWM Partners closed last year after losing 44% amidst the market turmoil of 2008. Hedge funds typically have “high water marks” which means that investors don’t pay performance fees to the fund manager in subsequent years unless the fund surpasses its highest point. Thus, the solution for fund managers whenever they have a bad year is to liquidate, wait a bit, and form a new fund?!?! Anyone who was invested in the old fund and the new fund thus pays fees twice: you paid when JWM Partners reached its high water mark, and now you’ll pay again if/when Meriweather Cubed (not the real name) manages to make money - the same money JWM Partners effectively lost after reaching its high water mark.

This is great for John Meriwether, of course. And perhaps, in an attempt to goose his AUM, he might even give investors in JWM a break on his fees. Mostly, however, it’s just an indication of the same delusion that we’re seeing in the leveraged-loan market: the idea that the status quo ante was “normal”, and that now we’ve rebounded back to something very similar. After all, if the financial crisis was a once-in-a-century event, we won’t see another for 99 years, right?

You’ve got to give this to Meriwether, though: the guy’s clearly a spectacularly good salesman. That’s a key attribute of hedge fund managers which they tend not to talk about: after all, they love to give the impression that people are giving them billions of dollars just because of their unsurpassed investment prowess. The truth is clearly very different.

Comments

[Graham and ...:]

Obviously, the market is rewarding genius, not failure.

Maybe the third time will be the charm. NOT.

Oct 23 09:11 AM

[buyitcheap:]

Exactly! Meriwether should be teaching sales training courses b/c if this absolute disaster of a fund manager can raise millions twice lose it all and still have any lack of shame for going back a third time, he must be able to sell ice to eskimos.

Oct 23 09:26 AM

[Dubious Bro...:]

Meriwether is Dan Zwirn's idol!

Oct 23 09:54 AM

[Ohrama:]

"You’ve got to give this to Meriwether, though: the guy’s clearly a spectacularly good salesman. That’s a key attribute of hedge fund managers which they tend not to talk about: after all, they love to give the impression that people are giving them billions of dollars just because of their unsurpassed investment prowess."

Is this just good salesmanship or connection (through religion, country clubs, family etc.) that makes some one like this to keep getting business? It appears more and more the latter is the truth which is really bad for the country. We have been traveling the path of the third world countries where all of these play a role in suppressing the real talent and hence the progress of the countries.

Oct 23 02:05 PM

[Tom Armistead:]

It's not a quesion of salesmanship, it's about how attractive the product is.

Meriwether is a prime exemplar of financialism: what he does is about money, trading, arbitrage, etc... You don't have any of those problems like property, plant and equipment, inventory, etc., the computers do their thing and then there is more money in your account. The only connection to the real economy is the borrowed money which sooner or later brings about the implosion.

There's a real demand for that kind of stuff: it's the holy grail, extract a nickel from every financial instrument that trades, produce nothing of value, and go home with billions. The elegance and the beauty of mathmathical formulas that tell you these things are possible is too strong to resist.

Oct 23 03:23 PM

[untrusting ...:]

It should be a required disclosure on the front page of the prospectus and any advertising material that John Merriweather has lost mega-bucks for previous investors in his failed prior 3 ventures and include a summary of the results of his previous investments for prior investors.

Oct 23 03:31 PM

[David Van K...:]

Free markets at work at their finest, huh? Anybody who invests with Meriwether this time around can fairly be called a fool, and as has been stated hundreds of times on this site with regard to banks, etc., should be allowed to fail. They deserve what they get.

Oct 23 04:10 PM

[ivolatility:]

April 1998 was the last moment of innocence at LTCM: the last time all the models worked and the dream still appeared real. At this swansong, this final high point, exactly what was LTCM doing? What were its biggest bets?

LTCM accounts available for the year end 1997, usually a closely guarded secret, just a year later they were being paraded around in an attempt to salvage LTCM but in 1997 the mantra continued…..”I like to think of equity as an all-purpose risk cushion. The more I have, the less risk I have. On the other hand, if I have systematic hedging-a more targeted approach- that's interesting……Non-finan... firms currently use derivatives to hedge price risks. With improved lower cost technologies this practice can expand. Eventually this alternative to capital will lead to a major change of corporate structures as firms use more sophisticated hedging techniques as a substitute for equity capital”- Robert Merton

In December of 1997 LTCM made its fateful decision to hand back capital, the principles decided to reduce their “risk cushion” by $2.7Billion. Why? Because the models towering above their existing capital were unsinkable. According to Merton and Scholes the interlocking parts were now so perfectly engineered, that these devices were capable of perpetual motion. As these technologies of risk management advanced into new levels of complexity and sophistication, the tiny sliver of equity underneath this inverted pyramid would vanish completely. There would be no need for excess capital to lubricate this model, and no need for pesky shareholders. Scholes and Merton provided a theoretical basis for this disastrous blunder, they had a vision of zero capital and infinite leverage. The consolidated balance sheet shows $129. Billion in assets, $124Billion of liabilities propped apart by a $4.72 matchstick of equity, with a resulting total notional derivative exposure of $1.25 Trillion.

Inventing Money
Nicholas Dunbar

Oct 23 04:12 PM

[Heinz Geyer:]

Good Salesman or not, there have to be investors. I suspect that not many REAL investors will sign up for Meritwethers's new fund, it will be mostly 'advisors' who will put their 'clients' into the fund or their fund of funds. These intermediaries do not risk their own money but pocket juicy fees and the real end investors must take independent advice on the suitability of investments rather than be too trusting.

Oct 24 04:31 PM

[The Real Deal:]

Felix, I only take issue with the title of this post - 'genius'.

Failed or not, using the word genius to describe anybody trading funds is a insult to humanity.

A genius is one who made major discovery, design or build the most incredible things.

Hedge fund traders bet the future. If they win, they got lucky. If they lose, they got unlucky. If they win time again, consistently, against all odds, we can call them prophets and seers. But not genius.

Oct 24 10:13 PM

[xatta:]

@ The Real Deal

I believe the title was a reference to Roger Lowenstein's book "When Genius Failed", which chronicled the LTCM disaster.

Oct 26 09:56 AM

[pockyclips ...:]

As long as there's sheep to fleece, and we allow him to have shears,...

Oct 26 02:06 PM