Stark Investments has had a difficult spring. Like most hedge funds, the $4.4 billion Milwaukee, Wis. firm, founded by Brian Stark and Mike Roth in 1992, suffered losses in May in both of its funds, Stark Investments and Shepherd Investments International. On top of May’s losses, five of Stark’s principals left, including the firm’s chief operating officer and president, Colin Lancaster.
“May featured a pretty stunning list of kablooies, fubars, snafus, WTFs and what are euphemistically known as ‘government actions,’” read a June 7 investor letter on the performance of Stark Investments and Shepherd, which fell 4.43% and 4.03% in May, respectively. Both are flat for the year.
“In several respects, May at its worst points was a mini-me version of the nightmarish 2008 experience, replete with whipsawing markets (though plunging more often than not), soaring correlations across normally disparate asset classes, and evaporating liquidity,” the letter said.
Lancaster, who worked in the firm’s Milwaukee office, initially joined Stark in 2000 as general counsel. Also departing are Ashok Bhatia, senior portfolio manager of macro; Robert Dishner, senior portfolio manager of distressed situations; Marc Wyatt, senior portfolio manager of European and Asian investments; and Anshul Rustagi, senior portfolio manager of global derivatives. Bhatia and Dishner worked in Milwaukee, and Wyatt and Rustagi worked in Stark’s London office.
Disagreements about Stark’s business model led to the departures, according to a conference call with investors in June. The partners have not been replaced, and calls to the firm were referred to a spokesman, who declined to comment.
Losses in credit, OTC stocks
Some of the losing positions in Stark’s portfolios came from positions that had been profitable earlier in the year. Stark blamed various forms of credit for the losses, as the asset class suffered from selling pressure.
“This was particularly true in the areas of distressed credit and credit derivatives,” the letter said. “In the case of our distressed positions, we were victimized by a bit of bad timing…After initially trying to adjust the hedges—and getting whipsawed by the gyrations of the market—the decision was made to de-risk and cut the positions.”
In early May, some of Stark’s largest distressed debt positions were in the process of being restructured. Stark has decided to leave those positions alone rather than try to hedge them, which would present potential basis risk, according to the letter.
The firm’s corporate credit book also performed poorly in May, largely because a position in an energy development company traded lower after the government’s ban on offshore drilling.
Other positions that hurt performance included re-organized equity stakes in chemical company Lyondell, Six Flags, and automotive supplier Visteon. These stocks trade over-the-counter, which limits liquidity and exaggerates market moves to the downside, according to Stark.
“As a result, despite no fundamental changes in the status or earnings prospects of these companies, the overall market pushed marks down over the course of May,” the letter said. Stark is still invested in these companies and expects them to recover.
Stark’s emerging market and Canadian books also suffered as energy and industrial investments dropped. “China-based demand and slowing global growth caused investors to be wary of raw materials and commodity prices,” the letter said. “In addition, a number of positions traded lower on concerns regarding additional regulatory actions from the U.S. as a result of the Gulf of Mexico oil disaster.”
Stark continues to hold Ford Motor Company bonds. Ford is one of Stark’s largest positions on the grounds that it is a strong turnaround story and that the company’s convertible bonds have not yet participated in the credit tightening seen in its other credits, according to Stark. The firm traded both bonds and credit default swaps and also purchased some Ford credit.
The funds posted positive performance in their macro positions, namely from a euro short and a long position in the dollar. Stark’s equity long/short book also benefited from gains in both hardware and software companies.
Stark also cut exposure to North American financials and “added short exposure to European banking positions with significant Spanish real estate and southern European sovereign debt holdings.”
As for problems in Europe, Stark believes the European Union will be able to “muddle through this with a debt restructuring here or there,” though the firm has started shorting European credit while going long U.S. credit. But the firm says it has done so in a way that will allow it to change positions quickly if political events warrant it.
—Suzy Kenly