Hedge funds that seek out “special situation” opportunities had to look harder than usual in October, one of the worst months on record for investors. For many of these event-driven managers, who typically invest in both beaten-down debt and equity, being short those assets was key. Ignoring the siren call of leverage was crucial to success. In October the HFRI event-driven (total) index lost 7.95 percent, pushing losses for the 12 months through October to 19.73 percent, according to Hedge Fund Research in Chicago.
Still, these grim returns weren’t as bad as that of the bellwether Standard & Poor’s 500 index, down 16.79 percent on the month and off 36 percent for the 12 months ended in October. But two credit-specialty hedge funds were able to beat all the benchmarks and propel their returns well into positive territory. The head of the class, $159 million New York–based Aslan Capital Management, produced a 15 percent return in October by taking short positions in credit and equity securities, including high-yield bonds issued for leveraged buyouts and deteriorating sovereign credits in countries like Germany, Italy and Spain, where credit risk is increasing.
Closer to home municipal bonds in New York and New Jersey were good short bets because the growing recession and the market downturn hurt tax revenues and pension funds, says Aslan founder Bruce Gregory. Short positions in distressed equity sectors like real estate investment trusts and Las Vegas–based gaming companies also added to performance.
Distressed credit has been Edward Perlman’s forte for 24 years, but he launched his Greenwich, Connecticut–based Scottwood Capital Management in December 2001. This October the Scottwood Fund, now with $435 million, returned 7.3 percent. “Except for hedges,” Perlman notes, “we didn’t have one single long in October.” The fund shorted highly leveraged, overvalued companies like Harley-Davidson and Las Vegas Sands Corp. and closed out most positions by midmonth, ducking October’s extreme volatility.
