Early last year Israel Englander was growing uneasy. The chairman and CEO of Millennium Management had built his hedge fund firm into a multibillion-dollar goliath over two decades by “picking up nickels and dimes,” as he likes to say — using typically lower-risk investment strategies like merger and convertible arbitrage. But the deepening credit crisis, the mounting stock market sell-off and the growing number of private equity firms trying to cancel deals they had agreed to at the peak of the merger boom in 2007 had Englander concerned. So when venerable Bear Stearns Cos., a major prime broker and an important M&A adviser, shocked the world in March 2008 by agreeing to be acquired by JPMorgan Chase & Co. for just $2 a share in a government-brokered deal to stave off bankruptcy, the founder of New York–based Millennium moved quickly.
Englander and his top lieutenants closed out all of the firm’s merger arbitrage positions. But they didn’t stop there. That summer, as the share price of investment bank Lehman Brothers Holdings — a major Millennium prime broker — started to crater, they aggressively brought down their total equity exposure, from $25 billion to $8 billion, creating excess borrowing power for the firm, which then had about $12 billion under management. They also cut the firm’s exposure to increasingly illiquid markets like convertible bonds and credit-related products and increased their fixed-income and commodities exposure.
“You’ve got to realize that you’re not the only guy who is experiencing what is going on,” explains the blunt-spoken Englander, 60, whose friends and colleagues call him Izzy. “The worst thing that happens is you sell and buy back if you are wrong. The market is the market. It will go where it’s going to go. If you think you are so unlucky that after you sell, the market will go back up, then find another business. Go pray.”
When it comes to investing, Englander, a devout Jew, has had little need for prayer. Since 1990 he has delivered an annualized return of 15.7 percent, after fees, more than double the 7.1 percent annualized return of the Standard & Poor’s 500 index during that period. Unlike most investors, the white-haired former American Stock Exchange floor trader largely avoided the global market meltdown in 2008. His two main funds, Millennium International and Millennium USA, were down just 3.07 percent and 3.5 percent, respectively, compared with the S&P 500 index’s 38.5 percent drop. (Most of the losses came from Millennium’s exposure to Lehman, which held $200 million of the firm’s assets at the time the investment bank filed for bankruptcy.)
Although 2008 was his first losing year since founding Millennium, Englander outshone the vast majority of hedge fund managers, including higher-profile multistrategy rivals Glenn Dubin of Highbridge Capital Management and
Kenneth Griffin of Citadel Investment Group. Like Englander, Dubin and Griffin built their empires picking up small change, but last year they had a hard time holding on to their money. Highbridge’s flagship multistrategy fund was down about 27 percent in 2008; Citadel’s Kensington and Wellington funds each dropped 55 percent.
“Millennium took down its risk before a lot of others did,” notes Jeffrey Vale, a principal and director of research at Atlanta-based Infinity Capital Group, a $200 million fund-of-funds manager that has counted Englander’s firm among its investments since late 2006.
“Izzy is terrific at smelling trouble,” says David Nolan, 59, co-president and chief risk officer of Millennium, who has known Englander since 1976, when he was working for Merrill Lynch & Co. and Englander was Merrill’s options broker.
Englander’s nose for both managing risk and measuring talent has been one of the keys to the firm’s success. Everything he does is framed in terms of potential risk and reward. He tries to make money every single day, by doing lots of trades and avoiding outsize bets. “I think about today,” says Englander, whose clipped speech reveals a trace of his Brooklyn roots. “If you don’t want more pain, cut out the pain.”
It’s a mind-set born partly of his days as majority owner of an Amex specialist firm whose business hung by its fingernails in the aftermath of the 1987 stock market crash. Such thinking enabled Englander to make money during the bear market of 2000–’02 and rack up double-digit returns in 16 of his funds’ 20 years.
Englander is the rare manager who actually does what those in his profession have been trying to sell to investors for years — hedging. He is also one of the least understood, largely because he has long cloaked Millennium in secrecy, generally avoiding public appearances and shunning the press. That is, until now. Not only did Englander agree to sit for a series of interviews with Alpha, he also made available many of his top executives, providing a rare glimpse into one of the hedge fund world’s most complex — and at times controversial — firms.
Englander is the first to admit that his style of investing is unlikely to land him on an annual list of the very top-performing managers. But in a down market, he doesn’t just preserve capital, he generally increases it. Englander has accomplished this feat by deftly hiring individual teams of portfolio managers that invest across six to eight broad strategies (Millennium employs more than 800 people in total). He is renowned for firing managers and traders quickly — sometimes when they’ve been on the job only a week or two — if they unexpectedly lose money. If someone who claimed never to have experienced five losing days in a row loses money on eight consecutive days within a month of arriving at Millennium, that’s a problem, says Englander.
Millennium has thousands of investment positions at any given time and typically makes 1.5 million to 2 million trades a day. This is how Englander picks up his nickels and dimes, day after day. Over the years, he estimates, Millennium has made money on 70 percent of the trading days. Even last year, amid the worst market sell-off in a generation, the firm made money nearly 60 percent of the time.
Today Millennium has about $11 billion in assets under management. Some three quarters of that is invested in equities, mostly using statistical arbitrage and long-short strategies. Englander, Nolan and head of equities Jonathan Larkin oversee that part of the business from Millennium’s Manhattan headquarters. The remaining assets are invested in fixed-income strategies, overseen by former Lehman Brothers global head of capital markets Michael Gelband, 50, who was hired last fall. In fact, while scores of hedge funds are staring at huge high-water marks and paring back staff, Millennium is one of the few firms on a hiring binge. It is rapidly growing its fixed-income strategies and pushing heavily into Asia, even as many other hedge funds are bailing out of that region altogether.
Yet for all his success and his unbending focus on managing risk, Englander has been plagued by controversy. He was first thrust into the public eye in the late 1980s, when his then partner, John Mulheren Jr., was arrested for carrying a loaded assault rifle, allegedly on the way to shoot merger arbitrageur Ivan Boesky, who after being convicted of insider trading had agreed to testify against Mulheren in exchange for a lighter sentence. Mulheren was convicted of orchestrating illegal stock trades for Boesky, but the ruling was later overturned.
Although Englander was never implicated, memories of the incident resurfaced in 2003, when Millennium was at the center of an investigation by then–New York attorney general Eliot Spitzer and the Securities and Exchange Commission into improper trading of mutual fund shares by one of the firm’s senior traders. In October 2003, Steven Markovitz, who had been responsible for investing as much as $1 billion in legitimate mutual fund timing strategies for Millennium, pleaded guilty to criminal charges of engaging in “late trading” of fund shares and agreed to a lifetime ban from the investment industry. Two years later, Millennium and Englander reached a settlement with the authorities, paying a total of $180 million in fines without admitting or denying any wrongdoing.
Earlier this year, Millennium got drawn indirectly into the Bernard Madoff scandal when a lawsuit filed by New York attorney general Andrew Cuomo against money manager J. Ezra Merkin noted that Merkin managed a $250 million separate account for Millennium. Merkin was one of the biggest investors in Madoff’s Ponzi scheme. But Englander says that Merkin invested Millennium’s money elsewhere — in an account filled mostly with investments identified by New York–based Cerberus Capital Management.
As part of its 2005 late trading settlement with regulators, Millennium agreed to beef up its legal and compliance operation, which has since grown from five people to 30. Still, the firm embarrassingly found itself thrust back into the headlines in early May when the SEC charged former Millennium portfolio manager Renato Negrin with insider trading of credit default swaps.
Concedes Simon Lorne, 63, who joined Millennium in 2004 as vice chairman and chief legal officer and is credited with significantly building up its compliance operation: “You can’t design a system people can’t go around. I don’t know what we could have done.”
For Englander the recent headlines are a minor aggravation, not a major concern. He is much more worried about the markets, which, he says, are still on shaky ground despite the rally early this spring. “Complexity and illiquidity are not my mantra today,” he notes.
Izzy Englander grew up in the Crown Heights section of Brooklyn in a religious home, attending yeshivas, or Jewish day schools. His parents met in Poland in 1930. His two sisters were born there before the family was deported during World War II to a Soviet labor camp and eventually immigrated to the U.S. in 1947. Englander was born the following year. Although he doesn’t recall many conversations with his parents about what happened during the war — his father’s entire family was killed during the Holocaust — he says that “it was in the air” growing up.
Englander caught the Wall Street bug as a teenager. He began trading stocks when he was still in high school. While attending New York University, he held summer jobs at investment firm Oppenheimer & Co., where his future brother-in-law, Jack Nash, would go on to be president and chairman, as well as at the New York Stock Exchange. After graduating in 1970 with a BS in finance, Englander got a full-time job with Wall Street firm Kaufmann, Alsberg & Co. and enrolled in NYU’s MBA program at night. He fell in love with trading and never finished his MBA.
Englander spent several years trading convertible securities, doing merger arbitrage and trading options during that product’s early years. When the Amex began listing options, he bought a seat on the exchange. In 1977 he created I.A. Englander & Co., a floor brokerage house on the Amex. Steven Tobias, who joined the firm the next year, continues to run it; Englander still has a passive minority interest.
In 1985, Englander left the Amex to start investment firm Jamie Securities Co. with Mulheren, who raised $75 million from Canada’s wealthy Belzberg family. The firm started to unravel in 1986, when the Boesky scandal hit. Several months after Mulheren was arrested in February 1988 with the assault rifle, Jamie closed its doors.
Englander started Millennium in mid-1989 with Ronald Shear, an acquaintance from the Amex. They began with $35 million, including $5 million from Englander and $2 million from the Belzbergs. The fund initially struggled, and after six months, Shear left. Englander says they had philosophical differences over how to run the business. Shear, now a private investor, declines to comment.
Englander, who refocused the firm’s strategies after Shear left, admits that he initially did not have much of an investment plan. “Whoever gave me money was taking a ride with me,” he recalls. “Their risk and opportunity were the same as mine.” Drawing on his experience as a trader, he hired specialists to manage strategies whose returns were not correlated to the overall market, such as convertible arbitrage, merger arbitrage, volatility trading and statistical arbitrage. Englander charged a 20 percent performance fee but no management fee — a practice Millennium continues today. Rather, it charges expenses to the fund, which average 3 to 7 percent. This includes fixed costs of about 3 percent and variable expenses that reflect incentive compensation to traders, which rises when performance is good.
Since its early days Millennium has looked a lot like the proprietary trading desk of an investment bank, employing teams that operate independently. Today the firm has 160 investment teams around the world, typically with two or three people each, but when Englander started, there were just a handful, including his.
Englander has always been an impatient investor. He expects his managers and traders to make money every day. To do that they must have fairly short investment horizons. Englander has little use for strategies that take months or longer to realize gains, such as value or distressed investing.
“He has what he describes as a Holocaust mentality,” recalls Robert Gelfond, who traded currencies, interest rates and commodities at Millennium from 1992 to 1998 before leaving to start his own company, MagiQ Technologies, a maker of fiber-optic products. “He would say not losing money is the main thing. Winning will take care of itself.”
Millennium’s somewhat unique structure has withstood all investment environments. In 1990 — Englander’s first solo year — its fund was up more than 11 percent, compared with a 3 percent drop in the S&P 500 index, immediately proving to investors that the onetime floor trader could make money in a down market. Millennium racked up double-digit returns in three of its first four years and experienced just eight down months during that 48-month period, compared with 18 down months for the S&P 500.
During the bull market in the second half of the 1990s, Millennium’s returns ranged from 17 percent to 33 percent a year. That was a pivotal period for Englander and the firm. In 1998 he created his master-feeder structure, establishing Millennium International for non-U.S. investors and U.S. tax-exempt investors — which today account for 75 to 80 percent of assets — and Millennium USA, the domestic partnership. In 1999 the expanding firm moved from its original but cramped space at 111 Broadway, a block or so from the World Trade Center, to its current midtown office, which now occupies three floors.
By that time assets had started to take off. Millennium had $1.6 billion under management at the end of 2000. Two years later assets had more than doubled, to $3.7 billion. It helped that Millennium behaved like a true hedge fund during the bear market at the start of this decade, beating the S&P 500 by 27 to 45 percentage points a year from 2000 to 2002. One reason: The firm shorted the stocks of three of the biggest companies embroiled in accounting scandals at the time — Enron Corp., HealthSouth Corp. and WorldCom.
“When Enron looked cheap, we knew their return on equity numbers could not work,” explains Nolan, who joined Millennium in 2001 after nearly a decade running his own hedge fund, Davos Partners. “So we knew they must have been hiding debt off the balance sheet and made sure our traders were not long the company.”
To understand the success of Millennium, one must appreciate Englander’s obsession with measuring risk versus reward. It is at the core of every investment decision. Englander says the firm takes a 3-or-4-to-1 risk-reward ratio — he is willing to risk a 5 percent loss to make a 20 percent return. So far that approach has worked well. In its best year, 2000, Millennium was up about 36 percent; its roughly 3 percent loss last year was the firm’s worst.
As chief risk officer, Nolan oversees a group of more than 20 people who work with him to determine the risk exposures for the firm and sets the limits for the portfolio managers. “I support Izzy,” he says. “I am the eyes and ears when he is not here. My job is to constantly be attuned to where the risks are and how to mitigate those risks.”
These days, Englander is focused on keeping things simple. Liquidity is paramount. The firm typically has 25 to 35 percent excess borrowing capacity. “This allows us to avoid margin calls when others are experiencing them and gives us the ability to use our excess capital to profit during periods of stress,” Nolan says. The firm’s goal is to be able to sustain a 25 percent decline without having to meet a margin call. “If you fall below that, you may not recover,” notes Nolan.
Each investment team is expected to be able to liquidate 65 percent of its positions in one day, 80 percent within two days and 90 percent within five days. Those rules, however, aren’t ironclad. Englander, Larkin and Nolan, who oversee all equity investments, are aware that it may take extra time to unwind certain positions.
Millennium does not put much emphasis on the correlation between different investment strategies when deciding how to allocate capital. “That [approach] would have broken down last year,” points out Larkin, 34, who has day-to-day oversight responsibility for Millennium’s equities operation. “In a stress environment correlation goes to 1,” he says. Instead, every team must have its own alpha-producing thesis.
Sometimes, Englander, Larkin and Nolan will notice that the firm as a whole has made too much of a bet in one direction. Instead of instructing the individual managers to trim their stakes, they will use proprietary capital to hedge the firmwide position. “Our traders focus on managing their books independently while we focus on mitigating risk at the aggregate level,” Englander explains.
This happened in 2006, when Millennium had a small long exposure to subprime-mortgage-backed securities. When management grew uneasy about the market that year, it shorted the ABX subprime index as well as financial stocks with heavy exposure to the mortgage market.
Englander also makes sure that no investment team’s returns are out of line with those of the rest of the firm, even on the upside. If a team is up, say, 40 percent, Englander assumes the managers are taking on too much risk. In such cases, he will often assign more capital to those managers, which reduces the firm’s overall leverage. “They decide the position size, I determine the leverage,” he stresses.
Englander is very involved in the hiring process. He, Larkin and Nolan spend a significant amount of time assessing every potential portfolio manager’s investment process, strategy and skills. They also try to determine if an individual is smart or just lucky and whether the strategy the person employs has been successful simply because of a strong market. They are mindful that most people come to Millennium without a verifiable track record. “You need intuition, and Izzy has 30 years’ worth,” says Larkin, who joined Millennium in 2006 after spending nine years at JPMorgan Chase, where he ran U.S. single-stock volatility trading.
One way Englander cuts his losses early is by firing poorly performing managers and traders. However, if people lose money but take specific steps to lessen their risk, they may be spared the guillotine. Individuals with a long track record who are appropriately defensive in a tough market also may get some slack. And Englander and his management team do not penalize managers for going a year or two making just a handful of trades if their strategy is out of favor.
“If there are no opportunities, don’t take a risk,” Englander asserts. “It won’t kill me. I fire someone if they bleed me, or they are doing what they did not represent.”
Englander’s reticence was on display a few years ago when he met author Michael Gross, who was researching 740 Park: The Story of the World’s Richest Apartment Building. Gross had hoped that Englander would be a valuable source for the book about the building’s history and celebrity owners, which have included such financial luminaries as Henry Kravis, J. Ezra Merkin, Ronald Perelman, Stephen Schwarzman and Saul Steinberg. Englander, who has lived at the prestigious address for eight years, invited Gross to his office to discuss his possible cooperation but ultimately refused to talk to him. “We never spoke again,” Gross says.
Englander’s obsession with secrecy extends beyond the press. Some investors complain that he doesn’t provide enough information about his funds. “His view was that he was trading so much each month, it was an operational burden,” says Judith Posnikoff, one of the four founding partners of Newport Beach, California–based fund-of-funds firm Pacific Alternative Asset Management Co. Early this decade, Paamco redeemed a legacy investment in Millennium that it had inherited from a new client because it did not meet the firm’s required level of transparency. Paamco wants to be able to tie into a fund’s prime brokerage and to access the portfolio at any given time. “He said he couldn’t provide that,” says Posnikoff. Still, she adds, Englander and his traders devoted a lot of time describing the investment opportunities they were then considering.
Despite his efforts to stay in the shadows, Englander and his firm have uncannily found themselves in the public spotlight several times over the years for events that are not always flattering to Millennium. Most of the incidents have had little impact on its business, but the mutual fund late-trading scandal threatened to take down the entire firm.
The troubles first surfaced in September 2003, when news broke that Millennium had been subpoenaed as part of Spitzer’s investigation into the illegal trading of mutual fund shares. Market timing — quickly moving in and out of mutual fund shares to take advantage of mispricings between funds and their underlying securities — was considered by some to be a legitimate hedge fund trading strategy, but many mutual fund companies prohibit such trading. One month later, Millennium trader Markovitz pleaded guilty to engaging in after-hours trading of mutual fund shares.
The next year, Englander hired Lorne — who had been a partner at Los Angeles law firm Munger, Tolles & Olson — as chief legal officer to negotiate its settlement with regulators. The regulators alleged that from 1999 to 2003, Millennium generated tens of millions of dollars in profits by engaging in deceptive market timing. According to the SEC, Millennium opened more than 1,000 different accounts at brokerage firms to conceal its market-timing activities. In December 2005, Millennium, Englander, co-president Terry Feeney, general counsel Fred Stone and trader Kovan Pillai agreed to pay more than $180 million to settle with Spitzer and the SEC. They neither admitted to nor denied the allegations.
People who know Englander say that the hedge fund manager believed he wasn’t breaking the law. “The law was and is very vague as to what was and wasn’t permissible,” says Lorne.
After the scandal first broke, Millennium suffered about $500 million in withdrawals, as many investors feared that Englander would wind up banned or suspended from the investment business. But those who stuck by him were rewarded. From September 2003 through December 2005, Millennium’s funds climbed 22 percent. And after the settlement assets more than doubled, from $5.3 billion at year-end 2005 to $11.7 billion at the beginning of this year.
“That is a testament to Izzy,” says Joshua Nash, chairman of Ulysses Management, a New York–based hedge fund firm, and the son of Englander’s sister Helen and the late Jack Nash, co-founder of fabled hedge fund Odyssey Partners. “He continued to make money even though assets shrank. You can tell the strength of a guy not through the good times but through adversity.”
After the 2005 settlement, Millennium instituted rigorous compliance procedures and rules designed to avoid similar problems. Martin Schwartz, 36, who was brought in by Lorne from law firm Fried, Frank, Harris, Shriver &
Jacobson in 2004, oversees compliance efforts on a day-to-day basis. The onetime SEC staffer works closely with Lorne and Mark Meskin, Millennium’s chief trading officer, to set the firm’s compliance policies and procedures. Schwartz says training sessions emphasize meeting a code of ethics — “not just the letter of the law, but also the spirit,” he notes.
The firm monitors its managers daily, flagging trades that are out of the ordinary or violate the firm’s policies. Its software looks for major swings in traders’ profit-and-loss statements and combs through e-mails, checking for key words like “insider” and “rumor.”
“People here need to be reminded that this is a critical function and that they must comply and there are consequences if they don’t,” Schwartz says.
The SEC provided its own reminder in early May when it charged former Millennium portfolio manager Negrin and Jon-Paul Rorech, a salesman at Deutsche Bank Securities, with insider trading in the CDSs of Dutch media company VNU. The SEC alleged that Rorech learned from Deutsche Bank investment bankers in 2006 about a change to the proposed bond offering by VNU that was expected to increase the price of its CDSs and then tipped off Negrin, who had spent six years with Millennium as head of a credit trading group. Negrin purchased the CDSs, eventually making $1.2 million from his position for Millennium, the SEC alleged. Negrin, who was suspended by the firm in December 2008 after he was informed by the SEC that it planned to charge him and has since left, denies the allegations and is fighting them. Neither Millennium nor Englander was named in the complaint.
For a guy who became a billionaire picking up nickels and dimes, Englander is somewhat frustrated by Millennium’s performance in 2008. Although he is proud that Millennium avoided the disaster that felled many hedge fund managers, he doesn’t like losing money — even a little bit. That’s why he was quick to cut his already reduced exposure to illiquid instruments like convertible bonds and credit-related products last year, figuring that it was better to be the first out the door than to be trapped in a burning building unable to unload his positions.
Millennium wound up doing pretty well in 2008 with some of its quantitative equity strategies, taking advantage of the markets’ volatility. The firm also made money shorting financial institutions while its systematic traders skillfully traded commodities to capture rapid short-term moves. On the fixed-income side, Millennium shorted both high-grade and high-yield bank and insurance debt and bought CDSs.
Millennium hopes to build on its success. Even as many hedge funds and financial services companies are paring staff, it is aggressively expanding. The firm regularly interviews prospective managers to take advantage of the large number of hedge funds that have closed down or shrunk their operations and the banks that have shuttered their proprietary trading desks. “The talent out there is enormous,” says fixed-income chief Gelband. “You can have your pick.”
In very rare cases, Millennium brings in teams that don’t have the same status as the rest of its employees. They use the firm’s platform, clear and settle trades through its prime brokers, adhere to its risk template and use its back office. They are also compensated similarly to Millennium employees. But these teams retain their own names and — most important — their own performance records. They can also raise their own money and run it alongside Millennium’s capital.
“We take a lot of time trying to understand a manager’s investment process and want to hire traders whose strategy and skill set have high barriers to entry,” Feeney, 51, says. “We want to be the last stop on someone’s career.”
The biggest hiring push is coming on the fixed-income side. Gelband says he would like to add ten to 20 portfolio managers in foreign exchange and interest rates to his current group of 29 people, who are concentrated mostly in interest rates, global macro and “liquid” credit and mortgage strategies. Gelband, a 24-year Lehman veteran, is being selective. When judging managers he is especially interested in how they handled the extreme volatility and rapid decline in interest rates during the past 18 months. One of his most significant hires has been Hyung Lee, former global co-head of Lehman’s fixed-income division, who joined the firm in November.
Millennium is making strategic acquisitions. Last year it bought London-based multistrategy hedge fund Castlegrove Capital, including portfolio managers and leases. Feeney says Millennium is also interested in lifting out investment teams from larger hedge fund or money management firms.
One thing Englander does not plan to do is to raise outside capital. He acknowledges that a couple of years ago, when Fortress Investment Group, Och-Ziff Capital Management Group and GLG Partners went public, there was a lot of pressure to raise permanent capital. Englander mulled doing a debt offering instead of an IPO. He even paid to have Fitch Ratings, Moody’s Investors Service and Standard & Poor’s rate Millennium’s debt (all three assigned it an investment-grade rating). Moody’s and Amber Partners rated its operations. Now that Millennium is not doing the debt offering, it has dropped the credit ratings.
How long can Englander continue? Is he emerging from the shadows and lifting the veil on his team so he can dial back and retreat from Millennium’s day-to-day operations?
In the past five years or so, Englander has begun to observe the Jewish Sabbath, as he did growing up but had gotten away from somewhat as an adult. During a recent interview in his office, he proudly pulled from his wallet a cherished piece of afikoman — the last food eaten at a Passover seder — that his rebbe had given him nearly a year earlier. Indeed, religious causes are very important to him. For example, in 2006 (the last year for which data is available) the Englander Foundation, headed by Englander and his wife, Caryl, distributed the majority of its $20 million in donations to Jewish organizations and schools.
Englander still has the same passion for investing he had as a floor trader on the Amex and when he first launched Millennium. He will still spontaneously call his top executives on a Sunday to discuss the markets and is actively involved in the hiring and firing of managers. Englander says he is not into the arts or traveling, although he is planning to take some time off this summer to visit Croatia. He has been to the south of France and skied in Vail, but stresses he took up the sport only in recent years.
“There are no hills in Brooklyn,” he quips. “The yeshivas are not taking many ski trips.”
