In early April, just after the coronavirus pandemic had roiled global markets, London-based hedge fund manager CQS held a call to update investors on its performance.
Its $3bn flagship Directional Opportunities fund, personally managed by its billionaire founder Michael Hintze, had lost 33 per cent during March’s market turmoil, wiping out about $1bn in value.
Investors were looking for answers. But, to their surprise, they were told that Sir Michael had sent his apologies and would not be on the call. A fund manager would walk them through the portfolio instead. Some investors said they were disappointed that Sir Michael was not on the call to explain why the fund — which trades assets such as credit, stocks and volatility — had suffered its biggest monthly loss in its 15-year history.
Sir Michael’s investors “must be shell-shocked”, said Amin Rajan, chief executive of consultancy Create Research. The veteran trader “has always been seen as a cut above the rest”, he added.
CQS declined to comment. A person close to the firm said Sir Michael had “devoted a huge amount of time to investor communication”.
Born in China to Russian émigrés and then growing up in Australia, Sir Michael has since risen to the heart of the British establishment. A former captain in the Australian army, he moved into finance with spells at Salomon Brothers, Goldman and Credit Suisse First Boston. From there he spun out the Convertible and Quantitative Strategies business as CQS in 1999.
Sir Michael gained acclaim for his nimble positioning during the financial crisis. He limited losses in 2008 to single digits amid plummeting markets, before capturing the rally in 2009 with a series of bullish bets to end the year up 56 per cent. “When lots of people were rabbits caught in the headlights [in 2008] . . . Hintze guided us out of it,” said one former employee.
The trading profits helped grow CQS, which he still controls, into one of Europe’s biggest hedge funds and helped him build a fortune estimated at £1.5bn by the Sunday Times Rich List. He made large donations to London’s Natural History Museum, which renamed its main entrance hall the Hintze Hall, and to restore Michelangelo’s frescoes in the Vatican’s Pauline Chapel.
A picture of former prime minister Margaret Thatcher hangs on the wall of Sir Michael’s office overlooking Trafalgar Square, and he is a major donor to the UK Conservative party. He is also an adviser to the board of the Duchy of Cornwall, the Prince of Wales’s private estate.
Sir Michael’s professorial manner, coupled with a tendency to interrupt himself and embark on frequent tangents, belie a fiercely competitive trader.
The 66-year-old has long had big ambitions for the firm, according to people familiar with his plans. At one stage he even commissioned a consultant to draw up a confidential report that looked at how the world’s largest asset manager BlackRock grew so large — and how CQS might emulate its success.
To accelerate its growth and expand into equities, CQS hired former London Stock Exchange head Xavier Rolet at the start of 2019. He and Sir Michael travelled to Saudi Arabia’s Future Investment Initiative Conference last year, and the firm forged a joint venture to help sell its funds in China. Privately, Sir Michael talked about growing CQS’s assets under management to $100bn, said people familiar with his plans. A person close to the firm said there was no target. The firm’s overall assets have dropped from a peak of about $20bn to $17bn.
Sir Michael Hintze has made large donations to London’s Natural History Museum, which renamed its main entrance hall the Hintze Hall © Yui Mok/PA
While CQS’s long-only business grew strongly, the firm’s flagship remains Sir Michael’s Directional Opportunities fund. It has raised hundreds of millions of dollars from US investors such as Texas County & District Retirement System, and before March’s losses had gained an average of nearly 14 per cent a year.
Sir Michael entered 2020 “cautiously optimistic”, according to an investor letter. Markets should be supported because “global growth is intact [and] an imminent recession is unlikely”.
That lent support to his bet in recent years that the “backbone” of the fund would be structured credit — a more complex branch of credit where instruments such as loans or credit default swaps are sliced up to back new debt and equity — which offered a higher yield relative to many bonds.
“It’s very much a function of my view on the world, that the world was in expansion and we’d be able to generate sensible returns,” said Sir Michael on a private investor call in early June, a recording of which was heard by the Financial Times.
To boost returns, the fund would ask banks to structure investments that bundle together default protection on individual companies, said multiple people familiar with its positioning. CQS would often then buy the riskier slices of these deals. This so-called “first-loss” insurance means the fund would quickly be on the hook if defaults started to pick up. Positions were often short-dated — meaning it would take an extreme and sudden event to prompt large losses.
Such a bet is known among options traders as “selling the wings”, as it focuses on rarer, more extreme outcomes. Returns, however, could be lucrative — especially as CQS did not hedge all its positions. Effectively, the fund was betting that a sudden halt in economic activity across a number of companies would not occur.
When coronavirus hit markets, many of CQS’s structured credit bets turned sour. This drove almost all of the fund’s roughly $1bn of losses in March. The fund’s hedges were a “disaster” and did little to cushion the losses, said one person familiar with the fund. Wagers on rising equity prices also hurt performance. “It was a shocking loss,” said an investor.
Unusually for Sir Michael — who is well-known within CQS for his forensic consumption of analyst research, even on his holidays, which is then forwarded to staff with his comments — the fund was hurt by some defaults, including car rental firm Hertz. It was also hit as Chesapeake Energy bonds fell to price in an expected bankruptcy.
The losses appear to have convinced Sir Michael to turn more cautious. He responded by cutting some peripheral trading books, selling some positions, for instance in distressed credit, which cost the fund, and trying to hedge individual credit positions to prevent further losses from defaults.
“To be clear, at the moment I’m more focused on the downside than the upside,” he said on the call this month.
Sir Michael Hintze abseiling down the Gherkin for the Outward Bound Trust and the Royal Navy & Royal Marine charities © Getty Images
Sir Michael also sold down positions in stocks. That meant that, unlike many other investors, CQS’s fund missed out on much of the equity rally in April — the best month for US stocks since 1987 — and May. It even suffered some losses, as markets were lifted by massive central bank stimulus.
“I’m also running significant shorts, hedges if you like, because I believe the market will be too optimistic around the economic recovery,” Sir Michael said on the call. “Despite the QE being bullish, the weight of money that QE produces, in my view, cannot overcome the depth of the recession and the reality of company earnings and defaults.”
“For him to cut at the lows was very unlike him,” said one person familiar with the fund. Unlike in previous crises, coronavirus meant Sir Michael spent less time on the trading floor at CQS, or in his nearby “situation room”, whose walls are covered in screens and maps that help him assess market risk.
In January Mr Rolet left after only a year in the job, “for reasons not related to CQS”, the firm said. It also suffered the departure of chief risk officer Ahmad Deek. Now the fledgling equities business is being spun out, following a decision by Sir Michael, said a person familiar with his thinking. Mr Rolet declined to comment.
Amid the losses, CQS has stopped reporting its performance to HSBC’s private database of fund returns. Sir Michael, meanwhile, appears to remain upbeat. He told investors that most losses remain “unrealised and mark-to-market” and emphasised that the fund’s biggest exposures were to “large, well-known corporates” such as Barclays, Altice, AT&T and Aegon.
He has also been looking ahead to a CDS roll — when old contracts expire and new contracts are opened — this month, which removes 28 per cent of the fund’s first-loss risk. A further 26 per cent are rolling off later this year.
“The key point for me is to make your money back,” Sir Michael told investors, adding he was “heavily” invested in the fund himself. “Not just make our money back but make the money back and then some.”
Additional reporting by Robert Smith in London