Trader Monthly Announces Top Trades of 2007
Trader Monthly's annual Trade of the Year issue is required reading, and this year is no different. It is no surprise that John Paulson took top honors in '07; it is well known that his flagship fund was gained 590%, but the Trader gang did add a little color to the story that most people did not know:
....while a few forward-thinking traders were playing well in the CDS sandbox, Paulson was in one all by himself, buying swaps featuring covenants requiring the seller to post collateral — in the form of cold, hard cash — when the protection premiums reached a certain threshold.
Two sources close to the action describe how, at one point last summer, Paulson put the touch on a major bulge-bracket brokerage for $500 million — a reverse margin call, as it were. A 24-hour tension-filled tussle ensued over whether the brokerage would pony up. Paulson prevailed. The lesson here for traders: When you really believe in a trade, go hard or go home… Trader
Somebody had their cojones in the vise, and Paulson applied the appropriate pressure.
Paulson's trade in subprime should net management and incentive fees of at least $3 billion to his firm, perhaps more. We would have to agree with Trader; this single trade is the biggest haul we have ever heard of.
Trader breaks down more than just that one, and features a number of savvy bets laid down by Atticus Capital and others. Bill Ackman's short position in the bond insurers won Equity Short of the Year, and as far as we know this ballsy bet is still on.
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Two years ago, Pershing Square founder Bill Ackman began an aggressive campaign to crush MBIA, shorting the stock in the low 60s while buying CDS instruments pegged to the bond insurer’s holding company. To say this trade “worked out” last year is a bit like saying the New England Patriots’ 2007 acquisition of Randy Moss also “worked out.”
Ackman’s predicament early last year, when MBIA reached $70, cannot be understated; his short position, a roundabout tie-in to the soon-to-emerge subprime/CDO mess, was not looking promising. MBIA lingered around that price until autumn, when capital concerns sparked speculations about a credit downgrade — not a good thing for those in the credit-assurance business. Meanwhile, Ackman’s public accusations that the company was hiding losses caught the attention of the SEC.
No sooner did the 41-year-old begin his end-zone celebration this past December, however, than MBIA recovered an onside kick in the form of a $1 billion investment pledge from Warburg Pincus, including an immediate $500 million purchase of common stock. MBIA stock then spiked from $30 to $38.
Ackman shrugged off the private-equity firm’s bid and the ensuing vote of confidence from MBIA bulls, telling the Wall Street Journal: “It’s likely [Warburg Pincus] will lose their entire investment.”
On December 19, MBIA, the world’s largest bond insurer, admitted it had $8 billion worth of exposure to some of the most toxic CDOs, sending its stock free-falling into the high teens and wiping clean $1 billion of market cap.
Ackman’s tenacity had paid off. He didn’t just short MBIA stock; he used his experience in mortgage financing (obtained while working for his father’s real-estate firm early in his career) and his knack for analyzing cash flows to eviscerate the company.
While other traders were covering their MBIA shorts in early November, Ackman held out, knowing the fun was only beginning. He had quietly doubled down on his bearish bet via credit default swaps on the holding company at 30 to 40 basis points.
The day MBIA revealed its dangerously high CDO exposure, that spread blew up, rising 112 basis points. The CDS protection premium reached nearly 600 basis points, giving Ackman plenty of margin for error as he continued to clamp down.
A source familiar with Ackman’s game plan insists he intends to take this trade the entire length of the field, not letting up until MBIA files for bankruptcy and his CDS spreads skyrocket even higher. When it’s all over (as of press time, the scenario was still playing out), Ackman’s fund stands to reap as much as $3 billion. Talk about riding your winners.
Run, don’t walk to Trader Daily to read all about this trade and others. Rich Blake and his gang put out some of the most entertaining content of the year this time of year, and we are looking forward to their Hedge Fund List as well.
The squirrel agrees; these trades required extensive due diligence and a set of huge stones.
Trader Daily
Trades of the Year
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The content contained represent the opinions of 1440 Wall Street. This commentary in no way constitutes a solicitation of business or investment advice. It is intended solely for the entertainment of the reader, and the author. No Positions
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