Fortress's Novogratz Plans Exit After Two Years of Losses

Fortress to Close the Novogratz $2.3B Macro Fund
  • Manager will sell his stake in Fortress for $255.6 million
  • Closing hedge fund `runs counter to my DNA,' he tells clients

Michael Novogratz reminded investors in July that the hedge fund industry is Darwinian. Three months on, he’s living the hard lesson of natural selection.

Fortress Investment Group LLC is liquidating Novogratz’s $2.3 billion macro business and will return money to clients by the end of December following almost two years of losses, the asset manager said Tuesday. Novogratz will leave by year-end and Fortress will buy back his stake in the firm for about $255.6 million, according to figures provided in the statement.

Shares of Fortress rallied 7.5 percent, the most in more than three years, after saying that the number of dividend-paying shares will be reduced by 13 percent with the repurchase. The gain pared losses this year to 27 percent, compared with a drop of 13 percent for the Standard & Poor’s index of asset managers and custody banks.

“Over the past two years, in my view, our returns have been unacceptable,” Novogratz, 50, said Tuesday in an investor letter obtained by Bloomberg. “Closing the fund when I’m down runs counter to my DNA, and leaving investors, including family and friends, with losses is not a position I would ever want to be in.”

After posting losses and trailing peers in 2014, the fund was undone by wrong-way trades this year that sent investors fleeing. The Swiss franc’s surge against the euro contributed to a decline of about 7 percent in January. Losses swelled to more than 17 percent by the end of last month, as Brazilian bets hurt performance in the quarter.

Fortress’s fund is the highest-profile casualty this year of market gyrations that caused billions of dollars in losses for some of the world’s largest hedge funds. Last week, Bain Capital’s $2.2 billion Absolute Return Capital fund and John Brynjolfsson’s investment firm Armored Wolf told clients they were closing.

Fortress said it will buy back about 56.8 million class A or equivalent shares in the firm that are currently owned by Novogratz, at a price of $4.50 each. That’s a discount of 17 percent to yesterday’s closing price and cuts the value of his stake by $53.4 million. The purchase will be funded through a combination of cash and a note issued to Novogratz, according to the statement.

Conference Circuit

Operating out of Fortress’s Manhattan headquarters with million-dollar views of Central Park, Novogratz made a name for himself -- and a lot of money -- in his 13 years at the firm. When the firm went public in early 2007, he and his partners became instant billionaires. Novogratz owned 66.6 million shares in Fortress at the time, which at the IPO price of $18.50 were worth about $1.2 billion.

By the end of that year, his fund was managing a record $8.1 billion. His current fund and its predecessor returned an annualized 9 percent from inception through 2013, a year when the business he ran accounted for about a quarter of Fortress’s earnings.

A former U.S. Army helicopter pilot and 11-year veteran of Goldman Sachs Group Inc., Novogratz was a regular on the hedge fund conference circuit, where he was known for his articulate prognostications of macro-economic trends and his flashy attire. With the build of the wrestler he was at Princeton University and a nearly clean-shaved pate, he stood out in an orange blazer or a Tom Wolfe-ish white suit among his more conservative peers.

Before this year, the biggest declines for Fortress’s macro business came in 2008, when its main fund fell 22 percent, and 2011, when it dropped 9.3 percent. Last year, it slipped 1.6 percent when leveraged bets on Japanese stocks and U.S. Treasuries went south.

‘Frustrating Year’

“It’s been a frustrating year,” Novogratz, known as “Novo,” said in a Bloomberg interview in May 2014. While Novogratz, the fund’s main risk taker, made money in his portion of the portfolio, his team didn’t.

More frustration came in January, when the Swiss National bank unexpectedly removed a 3-year-old cap on the franc, causing it to soar against the euro. Novogratz had no exposure to the trade in his part of the portfolio, yet he was left with a big hole from which to dig out. Investors fled, and with a smaller amount of money to manage and no performance-based fees coming in, the firm culled investment professionals.

As the year progressed, Novogratz remained optimistic, even as his own market calls missed the mark.

On Fortress’s first-quarter earnings conference call, he said the opportunities to make money were “rich and fertile” and he expected to recoup losses and be profitable by the end of this year. Even after losing more money in April, Novogratz flew to Las Vegas to speak at the SkyBridge Alternatives Conference, the industry’s biggest annual event. At the May gathering, he said the rally in fixed income was over and Chinese stocks were entering what could be one of the greatest runs. Both calls proved erroneous. In July’s quarterly call, he said the Federal Reserve appeared “hell-bent” on raising interest rates at its September meeting -- another forecast that proved wrong.

Brazil Bets

Novogratz, who had started the year with a co-chief investment officer and a team of portfolio managers, took sole responsibility for the fund in July. The following two months, he too posted heavy losses on bets in Brazil, including a wager that the Brazilian real would strengthen. Novogratz, who had been president of Goldman Sachs Group Inc.’s Latin America arm before leaving the investment bank, saw the macro fund drop 8.8 percent over the two months.

"While we regret closing a fund that has been productive in the past, we also recognize the market’s reluctance to ascribe value to this strategy even in its best years.” Fortress co-Chairmen Peter Briger and Wesley Edens, and Chief Executive Officer Randal Nardone, said in the statement.

The impact of the fund’s liquidation on the firm’s bottom line is limited. Novogratz’s liquid markets business contributed only about $3 million in pretax distributable earnings in the first six months of the year, out of a total of $192 million. The macro business accounted for just 3 percent of the firm’s $72 billion in assets, as of June 30.

“We think the liquid hedge fund business overall contributes little of value” to Fortress, wrote Robert Lee, an analyst at Keefe, Bruyette & Woods, in a recent report.

Other Firms

While many of Novogratz’s rivals have made money in 2015, this year’s market gyrations have taken their toll on some other high-profile macro managers. Colm O’Shea closed his $1.2 billion Comac Capital in January after losses on the Swiss franc trade. Last week, Bain’s Absolute Return Capital hedge fund told clients it was shutting after more than three years of losses, including a 13 percent decline this year through July. Brynjolfsson’s firm is exiting the business after getting hit by a slump in commodities.

As recently as July, Novogratz was still expecting he’d be managing money next year. During the firm’s second-quarter earnings call, he said he hoped to be back in the black by the end of 2016.

“The great thing about the hedge fund business is that it’s Darwinian,” Novogratz said. “You do well and you raise assets, do poorly and you lose assets.”

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