Cerberus Going Down: The Hedge Fund, Not the Three Headed Dog

Cerberus Caught By Surprise

Cerberus Capital Management has been swamped with redemption requests with the Wall Street Journal reporting that investors are asking to pull out $5.5 billion or 71 percent of assets from its hedge funds.

Cerberus, founded in 1992 by former Drexel Burnham Lambert Inc. banker Stephen Feinberg, stayed out of the limelight as it focused on buying troubled companies, debt and real estate. It stumbled with its two highest-profile deals: leading separate groups that invested almost $15 billion combined for controlling stakes in automaker Chrysler and GMAC, the former finance arm of General Motors Co.

The firm wrote off the majority of its Chrysler stake as the Auburn Hills, Michigan-based company headed into a U.S. government-orchestrated bankruptcy. Its stake in GMAC was diluted when the Detroit-based lender was bailed out by the U.S. and converted into a bank holding company. They were rare mistakes for Feinberg, 49, whose firm has generated average annual returns of about 20 percent since its inception, according to Neporent.

Hedge funds run by Cerberus Capital Management LP are experiencing massive capital drains as investors flee en masse in the wake of the group’s losing multi-billion dollar bet on the U.S. auto industry, according to a media report Sunday.

Clients are pulling more than $5.5 billion — nearly 71% of the hedge fund’s assets — in response to losses and their own need for cash, The Wall Street Journal reported in its online edition, citing unnamed sources. The redemptions came mostly from other managers who need to pay off investors, according to Mark Neporent, the New York-based firm’s chief operating officer and general counsel.

In a letter to clients late last week, Cerberus Chief Executive Stephen Feinberg and co-founder William Richter wrote that they “have been surprised by this response.”

“We are embarrassed and disappointed by our 2008 performance, and we feel a huge obligation to you to turn this around,” Feinberg wrote in a July 3 letter to clients.

Cerberus asked clients of the funds that suspended redemptions in July whether they wanted to continue their investment with a lower fee. Those who wanted to withdraw would have to wait for assets to be liquidated before getting back all their money, a process that could take as long as four years.

In the nine months ended June 30, investors yanked $300 billion from hedge funds, leading to a sharp decline in an industry that had grown to hold about $1.9 trillion in assets in 2007, according to Hedge Fund Research.

Among the other big-name funds in trouble are ones run by Atticus Capital LP, Pequot Capital Management and Cantillon Capital Management, the Journal said.

The once-high-flying funds got in deep trouble with unwise investments, especially stakes in Chrysler and GMAC as the U.S. auto industry founders in the face of the global economic downturn. Those investments were wiped out when Chrysler declared bankruptcy and GMAC was bailed out by Uncle Sam, The Journal pointed out, and Cerberus was forced to give up control of the latter company.

As if leaving well enough alone weren’t enough for the hedge fund, Cerberus Capital Management LP plans to raise money in the fourth quarter to buy distressed companies and securities. “Institutions and wealthy individuals are still looking to invest with Cerberus, which oversees $24.3 billion, including a $1 billion fund raised last month,” Mark Neporent said.

– Reuters

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