Should you laugh or cry?

This story from today’s Financial Times about Citibank’s hedge fund experience is one of of those that leaves you wondering whether to laugh or cry. It is only part of the bad news story that sent shares in Citibank plunging yesterday, following the discovery that it has effectively decided to dismantle the universal banking model that Sandy Weill put in train by merging Citibank with Traveller’s 10 years ago. But it certainly deserves its own small footnote when the story of the rise and fall of the hedge fund business comes to be written.

The story says that Citigroup’s Special Opportunities Fund, where investors’ funds have been frozen since January 2008, has finally disclosed how much money will be returned to investors following the decision to wind it up last year. The amount is a princely 3 cents in the dollar – the kind of special opportunity that most of us would not wish to be offered now or ever again, thank you very much!

The story also says that in addition to the investor’s losses, Citibank itself stands to lose hundreds of millions of dollars it provided by way of financing to the hedge fund – $450m in credit lines, $320m in equity and assets with a nominal value of $1 billion. The fund managed almost $4.2bn at its peak but had a net asset value of just $58m, with debt of $880m, when the winding up decision was made in November.

“Every fund that invested in bank loans in Europe and used leverage did not survive”, the story quotes someone from Citibank as saying. “At least we are giving investors cash”. It is good to see that the cult of relative performance is alive and well; who can deny that 3c in the dollar is a better result than getting nothing back at all? But it is not quite what the hedge fund proposition was popularly held to be about in days gone by, as I recall.

The cruellest part of the joke is that this dismal performance comes from a fund that was once part of the division run by Citibank’s current CEO Vikram Pandit, who with his colleage John Havens sold Citibank their Old Lane hedge fund business for $800m in 2007. Shortly afterwards Mr Pandit was chosen as the CEO in succession to the ousted former Citibank Chairman and CEO Chuck Prince (he of the infamous “dancefloor” metaphor that marked the start of the credit crunch). The Old Lane operation was shut down last summer and $9bn of its assets transferred to Citibank’s own balance sheet with a $200m writedown.

Would Mr Pandit have got the job if his fellow board members knew then what we know now about what was going to happen to hedge funds in general, and to Citibank’s alternative asset division in particular? It must be open to doubt, despite his evidently remarkable ability to sell a dud asset for a top of the market price, a quality that may well come in handy as Citibank “desizes”. I fear however that this will not be the strangest twist of fate that will be seen before the current cycle in hedge funds has run its course.

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