Hedge-Fund Refuge Sought by Traders Amid Bank Cuts: Commodities

Commodity Futures Trading Commission's Dan Berkovitz
General counsel for the Commodity Futures Trading Commission Dan Berkovitz. Photographer: Andrew Harrer/Bloomberg

Damien Bombell left JPMorgan Chase & Co. a year ago after the largest and most profitable U.S. bank shut its group trading commodities for the company’s own account. Now chief investment officer of his own hedge fund, he’s hiring four people before accepting money from investors next month.

“I can’t say there’s anything I miss about banking,” said Bombell, who turned 40 last week and plans to have at least $200 million under management at the Strand Global Macro Fund in Zug, Switzerland. “I have more freedom.”

Traders in energy, metals and agriculture are opening or joining hedge funds after leaving financial firms that cut more than 233,000 jobs this year, data compiled by Bloomberg show. Departures of commodity traders from banks probably rose 10 percent this year, according to Commodity Search Partners Ltd., a Brighton, England-based recruiter. Pay for that group will drop 24 percent on average, estimates Options Group, a New York-based recruitment firm.

Financial firms are losing people as U.S. and European regulators seek to limit holdings across raw materials and ban so-called proprietary trading that uses shareholders’ cash. Slowing economic growth and Europe’s deepening debt crisis may crimp earnings and limit compensation for traders.

“Banks are particularly vulnerable at the moment to losing people,” said Peter Henry, New York-based head of front-office search at Commodity Search Partners, which recruits about 40 commodity traders each year. “Increasing regulations are forcing banks to defer more pay in stock as opposed to cash as well as constraining the traders’ ability to trade.”

Industry Average

Commodity hedge funds attracted $8.66 billion from investors in the year through November, up 11 percent from the end of 2010 and above the hedge-fund industry average of 1.9 percent, according to New York-based eVestment|HFN. Assets under management at commodity funds after their performance rose $4.95 billion to $82.7 billion through November, the research company estimates. The funds lost 3.4 percent on average in the period, according to the Newedge Commodity Trading Index.

George “Beau” Taylor, the 41-year-old former head of global commodity proprietary trading at Credit Suisse Group AG, started a hedge fund in February. It now has more than $1 billion of assets, a person with direct knowledge of the matter said. Gil Saiz, the 36-year-old who spent a decade at New York-based Goldman Sachs Group Inc., closed his Vector Commodity Fund to money from new investors in May after raising $600 million, two people with knowledge of the matter said.

Duet Commodities

The Duet Commodities Fund co-managed by Tony Hall, the 31-year-old former head of distillates trading at a venture between Credit Suisse and Barr, Switzerland-based Glencore International AG, said in a letter to investors in November that it returned 27.5 percent in the first 10 months.

Starting a new commodity hedge fund is getting tougher because managers need to comply with more demands from investors, said Marcus Storr, head of hedge funds at Feri Trust GmbH in Bad Homburg, Germany.

“You need more money to launch, you need more professional backup,” said Storr, whose company manages about 16 billion euros ($20.8 billion) of assets, including investments in 12 commodity hedge funds. “These are all elements which hadn’t been much cared about before the crisis, and are now so important. That’s why many who want to set up hedge funds these days, they can’t launch.”

A new fund probably needs to raise about $100 million from investors to generate the income needed to pay for expenses such as offices and trading systems, said David Mooney, the chief investment officer of Schroders NewFinance Capital in London, who has been involved in commodities for more than two decades.

Barclays Capital

Departing bankers include Todd Edgar and his team of four commodity traders who left Barclays Capital in London in the third quarter and are setting up a fund in New York, two people with knowledge of the preparations said earlier this month.

Tim Jones, 47 and formerly of JPMorgan and Edinburgh-based Royal Bank of Scotland Group Plc, started a metals hedge fund in July at RK Capital Management LLP, the London-based adviser to the Red Kite group of funds said in an e-mail in May.

Kieran McKenna resigned from Zurich-based Credit Suisse as global head of oil and refined products at the end of July and started the Mastic Commodity Fund last month in Zug, his new company said in an e-mail.

Bank of America

“It’s very clear that it’s possible to operate in a much more efficient manner to take advantage of significant opportunities that are becoming increasingly difficult to exploit in more complex corporate structures,” said McKenna, 37. “Regulation is necessary, yet it isn’t often designed or applied in a consistent manner.”

Bank regulations govern investment risk, borrowing levels, and how much money is invested in each asset class, said Peter Douglas, the founder of Singapore-based GFIA Pte, which advises investors wanting to allocate money to hedge funds.

“Those are going to be regulated in black and white within the banks, increasingly constrained by external regulators and shareholders,” he said. “In a hedge fund, those parameters are purely determined by the manager.”

JPMorgan and Charlotte, North Carolina-based Bank of America Corp. shut proprietary trading before the implementation next year of the rule named for former Federal Reserve Chairman Paul Volcker that will limit such practices. JPMorgan told its traders about the closing in August last year, according to a person briefed on the matter. Bank of America said Nov. 3 it had closed its proprietary trading in stocks, bonds, currencies and commodities as of June 30.

Nicolas Sarkozy

The Commodity Futures Trading Commission voted three to two on Oct. 18 to curb trading in 28 commodity futures including oil and gold. The Basel III rules, which come fully into effect in 2019, force banks to hold more capital against businesses deemed to be riskier, such as proprietary trading.

European regulators are seeking limits on commodities derivatives trading after French President Nicolas Sarkozy demanded steps to curb speculation, which he blames for driving up world food prices.

“Expect commodities risk at banks to decrease significantly toward levels that are justified by market making or client facilitation business,” said Diego Parrilla, the former head of the Asian commodity team at Bank of America who is now raising money for his hedge fund in Singapore. “The days of betting the bank’s capital on, say, a cold snap in the U.S. seem harder to justify.”

The Standard & Poor’s GSCI Spot Index of 24 raw materials has risen 0.5 percent this year. Stocks as measured by the MSCI All-Country Index have slumped 11 percent in the same period, while U.S. Treasuries have advanced 10 percent, according to a Bank of America index.

Investment Banks

The world’s biggest investment banks have more staff turnover in commodities than in fixed-income and currencies, according to Coalition. The London-based research company based its analysis on company announcements, its own research, news articles and information from people in the industry

Sales at the 10 largest investment banks’ commodity units rose almost 16 percent to a combined $5.49 billion in the first nine months from a year earlier, Coalition said. That compares with a 12 percent contraction across their businesses combined.

“You’ve got one institution that is limping along, you get one part of that institution that has made reasonable returns,” said Justin Pearson, the managing director and co-founder of Human Capital, a London-based firm which recruits about 100 commodity traders a year. “They aren’t going to be able to pay those staff in the profitable department anywhere as much as they would have done” in a bull market year, he said.

Bonuses at some banks are now paid out as 75 percent in stock deferred over three years, while traders outside those companies can get all of it in cash, Pearson said.

Search Partners

Commodity traders at banks who meet their targets and have been there for five years may earn $500,000 to $2 million this year through cash and shares, Commodity Search Partners’ Henry estimates. There won’t be “a huge difference” in pay from last year, he said.

While the biggest investment banks have more staff turnover in commodities than in fixed-income and currencies, the rate of job cuts in raw materials is smaller, said Coalition.

Companies trading physical commodities such as Greenwich, Connecticut-based Freepoint Commodities LLC and Noble Group Ltd. of Hong Kong, are also attracting traders leaving banks.

“The top proprietary traders at the best bank desks have many competing opportunities, perhaps the strongest of which are the physical trading houses that are building derivatives businesses,” said John Thompson, a partner at Energy Alpha Strategies Ltd., an investment firm that helps set up and finance commodity hedge funds. “The amount of traders hoping to launch is increasing, and will accelerate in 2012.”

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