Hedge Fund Exodus Sets Mr. Copper’s Business on Lonely Road

  • Contributes to LME-volume slump to lowest since at least 2008
  • Metals industry gathers in London next week for annual meeting

Mr. Copper has wound up on the road less traveled.

Michael Farmer, 71, who earned his nickname from years of trading the metal before co-founding Red Kite Group in 2005, was once part of a thriving band of metals hedge-fund innovators able to rock markets with a single trade.

Now, the roster of big-time funds has all but evaporated, victims of global surpluses, slowing Chinese demand for metal and poor performances that led investors to pull money out.

While Red Kite has stayed the course with $2.2 billion of assets, researcher eVestment counts just three dedicated base-metals players in its database of more than 8,000 hedge funds. The exodus has contributed to weaker trade on the No. 1 metals bourse, with activity on the London Metal Exchange set for its largest annual drop since at least 2008, figures compiled by Bloomberg show.

"The fund industry is deserted," said Christoph Eibl, chief executive officer of Tiberius Asset Management AG, with $750 million in commodity investments. "Most of the big brand names that you were used to seeing five years ago are no longer available or around.”

For a profile of Red Kite and Michael Farmer, click here.

Wrong-footed by a weakening in the Chinese demand that powered earlier bull markets, specialist funds suffered as clients took their cash elsewhere, with many closing. Galena Metals Fund, one of the largest, shut last year. It joined other natural-resource firms that had once bet big in metals such as Brevan Howard Commodities and Clive Capital LLP.

"What you have is a void,” said Michael Lion, a consultant at Lion Consulting Asia Ltd. who has been in metals for almost half a century. “Financial players, hedge funds have now walked away from our market."

While tracking the industry is tricky, Barclays Plc estimates base-metal assets in hedge funds, exchange-traded funds and similar investments are down by almost half from 2010 to about $17 billion as of September.

Blenheim Capital Management LLC, once the top commodities hedge fund and a big base metals player, has seen assets managed fall about 80 percent from a peak in 2011 to about $1.5 billion this year amid redemptions and several years of losses.

"If you turn the clock back to 2008, we had multiple billion-dollar-plus hedge funds putting lots of money into base metals,” said Paul Crone, chief investment officer at Citrine Capital Management LLC, one of the few remaining metals hedge funds. “Many of these guys are now unfortunately gone.”

Red Kite’s Farmer will bring insight into the future for the industry when he addresses about 2,000 metals producers, buyers, brokers and investors at an LME Dinner on Nov. 1.

Hedge funds piled into metals, as well as other commodities, in the early 2000s as mines failed to keep up with booming demand from China, sending prices to record highs. The strong returns, with some doubling their money in a year, crashed after Chinese stimulus spending hit a wall and prices slumped.

Farmer stood out with his background in physical metals trading dating to the 1960s, and Red Kite’s merchant business, sourcing copper and selling it to consumers including in China. The firm, which returned more than 50 percent on its metals fund in 2013, was also able to diversify into mining equities and production finance amid weak metals markets.

Copper prices have dropped by half from a peak in 2011 and an LME index of six major industrial metals fell almost the same.

Even Chinese hedge funds, which include firms such as Shanghai Chaos Invest Group Ltd., have shifted their attention to bulk commodities like iron ore and coal, according to brokerage Marex Spectron Group.

The metals rout only adds to struggles in the wider $2.9 trillion hedge-fund industry. Pension managers who in the good times were willing to pay fees that can reach as high as 2 percent of assets and 20 percent of returns are recoiling as performance sinks. Funds that track an index by comparison typically charge just a fraction of a percent.

The trend in financial markets toward automated trading has also hurt hedge funds that rely on human instincts and views on longer-term outlooks for metals.

"The supply and demand driven, fundamentally backed approach has very much shifted to one that is a lot more quantitatively driven," said Simon Van Den Born, global head of metals at Marex Spectron.

Red Kite may reap benefits from staying its course as Barclays shows investors returning to metals. Citadel LLC and Millennium Partners LP have added portfolio managers in the past 18 months. Orion Mine Finance Group, a spinoff of Red Kite, set up a hedge fund this year. Citrine, launched in 2012 by the former head trader at Touradji Capital Management LP, is active. The LME index of metals prices has rebounded 12 percent this year, led by zinc.

"It clearly has been a very tough time for hedge funds in metals,” David Lilley, who co-founded Red Kite with Farmer and Oskar Lewnowski, said in an interview. “But we think that this year will prove a turning point and there will be good opportunities for those who survived."

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