Wednesday, June 25, 2008

The HBR Interview with Bruce Wasserstein CEO Lazard

GIVING GREAT ADVICE. By: Stewart, Thomas A., Morse, Gardiner,
Harvard Business Review,
Jan 2008, Vol. 86, Issue 1

Some important points

LAST SPRING, Bruce Wasserstein received Harvard Law School's 2007 Great Negotiator Award, joining a select group that includes Sadako Ogata, a former United Nations high commissioner for refugees, and George Mitchell, the former U.S. senator who led the peace talks in Northern Ireland.

In presenting the award, Harvard Business School professor James Sebenius cited in particular the masterful deal making that went into Wasserstein's 2005 coup at Lazard, in which he famously disassembled a century and a half of family ownership and took the fractious M&A and financial advisory firm public.

He is a graduate of Harvard's business and law schools and Cambridge University.
At Cambridge University, he wrote a thesis on British merger policy.

Marketing initiative at First Boston:

"How do we market the business?" and "What are we marketing?" and "How can we possibly compete with larger M&A businesses?" We decided first to execute deals really well and then to market that track record. Our competitors often delegated deal implementation to lawyers, which we felt was a mistake. We realized that understanding the nuances of deal terms and structure could have a tremendous financial impact.

We decided to separate the M&A advice, which was a CEO business, from the financing advice, which was a treasurer or CFO business, and appeal directly to the CEOs in our marketing.

We also developed a "creative department." Its job was to think about the dynamics of industries and what changes within them would take place over the next five years.

We helped companies identify and focus on their hidden core strengths.

When I came to Lazard, it had a variety of counterproductive structures. One was what I called the cell-theory structure: You hire a banker. He or she has three assistants. They keep all their information to themselves, and they fight for revenue with other cells. Another was our fee-splitting system. These are counterproductive because Lazard's competitive advantage is working on difficult, complex assignments, so having a very deep, global team is a necessity, especially in light of the impact that globalization has had on industries.

We have a somewhat less centrally managed structure and we sacrifice some degree of efficiency by deliberately having a less centrally managed culture.

We have and want to attract a network of stars - people who communicate and cooperate but are entrepreneurial and stand out as quality individuals, who are not the cogs in a corporate machine.

What we can do is help the CEO think through an array of options, partly by asking the necessary questions, but also by inserting some very practical observations about the effects of specific decisions.

A good banker can ask the right questions, marshal the arguments, highlight the risks, and detail the options from the financial market and practical implementation perspectives.

Whether a deal makes sense relates directly to the question of the CEO's objectives, of course. Having an appreciation of the personality of your client, both the corporate personality and the individual personality, is key.

Similarly, in the deal business, to be a buyer you should have a conviction that is stronger than consensus.Winning may not be about paying $1 more or less but about creating opportunities for the future, managing the target well after the closing, and not being unduly pressured by an inappropriate financing structure. And sometimes winning is not doing the deal at all.

Friday, June 20, 2008

Morgan Stanley History

Since its founding in 1935, Morgan Stanley and its people have helped redefine the meaning of financial services. The firm has continually broken new ground in advising our clients on strategic transactions, in pioneering the global expansion of finance and capital markets, and in providing new opportunities for individual and institutional investors.

After J.P. Morgan & Co. chose to focus on retail banking after the Glass-Steagall Act disallowed corporations to hold investment banking and retail banking under a single holding group, J.P. Morgan employees Henry Morgan and Harold Stanley invested with the Drexel partners to form Morgan Stanley in 1935.

In 1935, Henry Morgan, Harold Stanley and others left JP Morgan & Co. and Drexel & Co. to form investment banking firm Morgan Stanley. In its first full year, the firm achieved 24% market share of public stock offerings. In 1941, Morgan Stanley joins the New York Stock Exchange and entered the brokerage business.

In 1967, a Paris division was opened to pursue the growing European securities market.

Since Mr. Gilbert took the helm in 1983, the number of employees has more than doubled, to about 6,800 from about 2,600. Its equity, which stood at $207 million in 1983, ballooned after it first issued stock to the public in 1986. It now has equity of more than $2 billion.

Mr. Gilbert, 56 years old, said that he had recommended that Richard B. Fisher, the 53-year-old president of Morgan Stanley, succeed him and that Robert F. Greenhill, also 53 and the vice chairman of the firm, succeed Mr. Fisher as president. Those recommendations are expected to be approved by the firm's board (May 18, 1990).

Mr. Gilbert has had an extremely close relationship with Morgan Stanley throughout his life, with ties that go back to the House of Morgan.

His father, S. Parker Gilbert, joined J. P. Morgan as a partner, but died in 1938. Years later, Mr. Gilbert's mother married Harold Stanley, a J. P. Morgan partner and a founder of Morgan Stanley.

Mr. Gilbert joined the firm in 1960 after graduation from Yale and service in Army intelligence.

Morgan Stanley merged with Dean Witter, Discover & Co. in 1997 to form a dominant force in securities and asset management.

The firm said it lost $3.59 billion, or $3.61 a share, during the fourth quarter 2007 - the first quarterly loss in Morgan Stanley's 72-year history. A year ago, Morgan Stanley posted a profit of $2.27 billion or $1.44 a share(December 20 2007).

Across Morgan Stanley's different businesses, hardest hit was the company's institutional securities division, which was the source of the fourth-quarter writedowns.

As part of its earnings announcement, Morgan Stanley said it would sell a $5 billion stake in the firm to the sovereign wealth fund China Investment Corporation, which will be worth 9.9 percent or less of Morgan Stanley's total shares outstanding.

Thursday, June 19, 2008

John Mack - CEO - Morgan Stanley

John Mack returned to Morgan Stanley's Manhattan headquarters, on June 30, 2005 as CEO.

Mack spoke of his dreams for Morgan Stanley, a firm he had worked to build into a Wall Street powerhouse since joining in 1972 as a bond salesman. As president, he helped orchestrate the $10 billion merger in 1997 with Purcell's retail brokerage giant, Dean Witter Discover & Co.

In a speech to investors shortly after his arrival, Mack said the firm's main problem wasn't its strategy or its business mix, as was widely believed, but its culture. It had become soft and timid, missing out on growth opportunities in everything from private equity to mortgages, junk bonds to equity derivatives.

While rivals such as Goldman, Merrill Lynch, and Lehman Brothers were making acquisitions and diving into risky but profitable endeavors, senior managers at Morgan Stanley were sending people with bold notions back to the drawing board.


Mack started building out new businesses and putting vast sums of money at risk, both for the bank and on behalf of its clients, in an effort to catch up with Goldman in the ever-more-important trading business. He is also beefing up international operations, regularly traveling to Europe and Asia and beating Goldman to new markets such as Dubai.

Mack is attcking on two fronts: internally, against inertia; and externally, against a superior rival that used to be a peer. "If you go back to the mid-'90s, there was no question that we were the No.1 firm," says Mack. He has promised investors that he will double the company's pretax earnings, to at least $14 billion, by 2010.

According to him, retail brokerage business, which now has an 11% profit margin, can become as profitable as rivals' businesses, which have 20% margins. Asset management, he says, could take off once it starts offering more private-equity and hedge fund investments, as Goldman does.

But the fiery leader is also warm and engaging. He lavishes attention on employees at events ranging from strategy breakfasts to dinners with their spouses at the Morgan Library & Museum. He introduces himself to anyone he doesn't know when he rides the elevators and walks the floors.

Advertisment and Branding by Investment Banks in 2003

Merrill Lynch brings back the bull for its latest campaign
January 17, 2003

Merrill, the nation's biggest brokerage firm, is introducing a new slogan, ''Total Merrill'' to accompany a push to manage all of its investors' financial needs. The new campaign also brings back the bull -- the first to appear in Merrill's commercials since the mid-1990's.

Boathouse, a two-year-old agency in Dedham, Mass., created the ads.

Merrill has not used a slogan since it dropped ''Be Bullish'' a year ago. Since then, the firm has spent a lot of time and money on damage control.

Merrill ran other ads last fall that addressed the stock market's long slump in sober tones seldom heard from the firm famous for being ''Bullish on America.'' Those ads reflected more accurately the views of the firm's investment strategists, who have been among the most bearish on Wall Street for more than a year.

In the first 10 months of last year, Merrill spent about $60 million on advertising, or about half of the $118 million it spent in all of 2001, according to CMR. Not all of Merrill's competitors took the same tack. Morgan Stanley spent $151 million through October, almost as much as the $160 million it spent in all of 2001, CMR said.

Advertising by Investment Banks in 2000

Investment-banking powerhouse Goldman Sachs is in the early stages of a review for its estimated $25 million ad account.

Currently, the business is split among three New York shops: Lowe Lintas & Partners (corporate ads), Doremus (business-to-business) and Mezzina/Brown (recruitment and collateral).

Goldman Sachs has retained Boston-based Pile and Co. to oversee the review, said sources. Key Goldman Sachs players include David May, vice president, director of global marketing communications, Amanda Rubin, vice president, advertising, and project manager Wendy Rosen.

In the past, Goldman Sachs has relied on print advertising in business staples such as The Wall Street Journal. Last year, the company spent more than $13 million on measured media, about double what it spent in 1998, according to Competitive Media Reporting.

A recent Doremus ad touted the company's "market know-how, industry experience and distribution network," and employed the tagline, "Unrelenting thinking."

In 1999, according to CMR, Goldman Sachs rival JP Morgan spent about $20 million, and Salomon Smith Barney, another competitor, spent nearly $50 million.

Goldman Sachs Hires Ogilvy & Mather for Global Branding and Advertising
Aug. 15, 2000

The Goldman Sachs Group, Inc. (NYSE:GS) announced today it has appointed Ogilvy & Mather Worldwide to help manage the Goldman Sachs brand and global advertising. The agency begins work on the account immediately.

"Like Goldman Sachs, Ogilvy & Mather has a global presence and perspective, and we felt they were ideally suited to help us develop a global brand strategy and create the kind of advertising that will support the Goldman Sachs brand worldwide," said David May, Vice President, Director of Global Marketing at Goldman Sachs.

The Goldman Sachs account awarded to Ogilvy & Mather excludes syndicated tombstones, which are handled by Doremus and recruitment communications and advertising, which are handled by Mezzina/Brown.

Goldman Sachs selected Ogilvy & Mather after a review of several advertising agencies. Other finalists were D'Arcy and Mullen Advertising.

Morgan Stanley Dean Witter drops a familiar image to take aim at electronic brokerage firms.
August 28, 2000

Morgan Stanley Dean Witter may still measure success one investor at a time, but the firm has a more urgent message for investors in the Internet age: ''Move your money.'' In a new ad campaign coming this week to newspapers, magazine and TV screens, Morgan Stanley's brokerage unit is dropping the slogan it has used for more than a decade and is centering its $150 million advertising budget on a bolder, blunter approach.

Under the theme ''Well connected,'' the ads take dead aim at the electronic brokerages that have flooded the airwaves with pitches for stock trading at discounted prices. They equate online brokerages with con men and depict investors being led by them onto paths that dead end in the woods.

In the 1980's, Dean Witter briefly used the slogan, ''You look like you just heard from Dean Witter.'' while a defunct competitor used ''When E. F. Hutton speaks, people listen.''


Goldman Sachs to Combine Assets By Judy Warner and Andrew McMains,Publication: Adweek, Date: Monday, April 17 2000

Wednesday, June 18, 2008

Marketing Investment Analysis Model developed at Wachovia

Article in Harvard Business Review

Marketing When Customer Equity Matters.Find More Like This
Hanssens, Dominique M
Thorpe, Daniel
Finkbeiner, Carl
Harvard Business Review; May2008, Vol. 86 Issue 5, p117-123

Some interesting points

Measuring the effectiveness of marketing investments can be frustrating -- especially if a company focuses on a long-term outcome like increasing customer equity.

Wachovia has created a model that helps it make customer-equity-driven marketing-mix decisions. The model's architects are Hanssens, a professor at UCLA; Thorpe, a senior vice president at Wachovia; and Finkbeiner, an executive VP at TNS.

Wachovia has grown mainly through mergers and acquisitions. With 122,000 employees, it is the fourth-largest bank-holding company in the United States based on assets ($782.9 billion) and the third-largest U.S. full-service brokerage firm based on client assets.

During one very significant merger, the 2001 merger of First Union and Wachovia, management decided to invest substantially in building the brand of the newly combined entity. It was to go by the name Wachovia, even though Wachovia had been a fairly small regional bank, known only in five southeastern states, while First Union had been a national and, in many ways, international player. By embarking on a major brand-building initiative, management hoped to prevent the attrition and the dip in customer satisfaction scores that commonly follow when companies integrate their systems and processes.

Building a Model That Captured Reality

Gathering data and creating the models. The team's work began in earnest with the design and development of a comprehensive historical marketing database.

Estimating the marketing impact. With the data on marketing activities and customer equity outcomes in hand, the quest began to discover just how the former increased the latter. The team built models that estimated the incremental impact that each marketing variable - ad spending, news coverage, and so on - had on customer acquisition, customer attrition, and revenue, and its follow-on effect on the customer base and profits.

Using the Models to Guide Decisions Managers at Wachovia were satisfied that the market-response models, based on historical data, accurately depicted what had happened in the past. But did they have the power to predict effects under different conditions?

Marketing at Wachovia has come a long way in a short time. As recently as the year 2000, marketing expenditures had been treated as costs, not investments, and were spread across four revenue-generating lines of business.

Today, executives at Wachovia have the comprehensive view, the data, and the models to make fact-based managerial decisions that will benefit the long-term health of the company.

Online Financial Services - Strategy and Branding


Counterintuitive Marketing Strategies for Branding Financial Services Online

By Kevin J. Clancy
March/April, 2001, European Financial Marketing & Management Newsletter

Brand Building by Investment Banks in 1999

GOLDMAN SACHS GROUP went public in May 1999 when it sold shares. It is going to go public again, this time with its first global advertising campaign.

Goldman's intent is to define itself as the blue-chip investment bank that listens -- and never gives the same advice twice to its corporate clients. All its advertising will carry the same tag line: ''Unrelenting Thinking.''

Goldman will spend about $10 million on the campaign this year, according to industry experts. The ads, designed by Ammirati Puris Lintas of New York, a unit of the Interpublic Group of Companies, will appear in publications like The Financial Times of London, The Economist, The Wall Street Journal, The New York Times and Business Week.

Merrill Lynch, one of the financial industry's heaviest marketers, introduced a campaign in March that plays down its historic symbol, the bull, in favor of the abstract theme, ''human achievement.'' Merrill plans to spend $75 million on that campaign alone.

Morgan Stanley now uses as its corporate slogan ''We measure success one investor at a time'' -- the ad line of the old Dean Witter, the retail brokerage firm it merged with in 1997. The firm's overall ad spending is estimated by industry experts at more than $200 million.


THE MEDIA BUSINESS: ADVERTISING; Goldman Sachs tries something new: promoting itself to the public as a brand worth knowing.

New York Times
Published: May 18, 1999

Sunday, June 15, 2008

Executive Coaches

I came across a new paper cutting of 2001 today. I keep collecting interesting news paper items and keep them for long periods of time.

This news item starts with "on the trading floor at Merrill Lynch, a trader calls on 150 phone lines, filling orders for 20 blue chip stocks under his command. Above the din of TV broadcasts, he shouts over the intercom for help selling stocks he cannot seem to move."

The pace at the workplace demand peak performance - and he is lagging today, after a bad night with his sick baby.

Then he is approached by Don Greene, a sports psychologist and executive coach for a coaching session. Greene circulates weekly at Merrill Lynch and helps more than 50 traders overcome setbacks and regain the focus needed required to handle stock transactions worth billions of dollars each day.

Executive coaches such as Greene, part personal trainer and part psychologist are working in brokerage floors and executive suites.

Merrill Lynch gives me a free hand to talk to people one-on-one about their concerns, whether it's a poor decision at office or at home says Green.

Coaching is now part of the standard leardership development training for elite executives and talented up-coming executives at IBM, Motorola, JP MOrgan Chase, and Hewllett-Packard. These companies are discreetly giving their best prospects what star athletes have long had. A trusted adviser to help reach their goals.

IBM has 30 organizational psychologists to coach its top 300 managers. This initiative is delivering results said Tanya Clemons, the IBM Vice President overseeing executive development.

The most thorough coaches develop an action plan only after examining what factors are affecting job performance after consulting bosses, customers, subordinates and even spouses. Bob Kaplan, a founder of coaching firm Kaplan Devries of Greensboro, North Carolina says such a process acts as a mirror to an executive.

Coaching is about helping people see their strengths and develop their flat sides says Mark Lipton, an executive coach.

An article in Harvard Business Review by a sports psychologist comparing sportsmen and businessmen

How the Best of the Best Get Better and Better.
By: Jones, Graham,
Harvard Business Review, Jun2008, Vol. 86, Issue 6

For some important points made in the article visit

Friday, June 13, 2008

Lehman Brothers - New CFO

Ms. Erin Ms. Callan, CFO will be replaced by Ian Lowitt, who has served as the firm’s co-chief administrative officer since October 2006.

Mr. Lowitt, who will replace her as Lehman’s finance chief, is a 14-year veteran of the firm and has served as its global treasurer, as well as global head of its tax operation.

His promotion to CFO could signal that Lehman Brothers is looking for more risk management and less risk-taking from its finance function. “He will be familiar with the balance sheet issues and can handle any counterparty concerns,” Mr. Hintz said. Mr. Brad Hintz,is a former Lehman CFO and now an analyst at Sanford C. Bernstein.

Ruben Vardanian - Russian Investment Banker

Ruben Vardanian is president of a russian company "Troika". Besides traditional brokerage, asset management and consulting, "Troika" was actively involved as intermediary in the second redistribution of property, buying out shares of attractive companies for large players: GAZ - for "Rusal", UAZ - for Severstal...

Ruben Vardanian, main owner of Troika Dialog’s $2 bln business, told Finans. magazine’s interviewer about company’s strategy and commented recent news about the company’s new motivational program (in 2007).

“We decided that we will develop independently to save for the next 4 or 5 years the opportunity to choose whether to stay in the status of a partnership or become a public company, or to sell a big share to an international bank. Only the profitable and successful company can have these opportunities, and that’s why our strategic goal today is to be a leader among the investment banks on Russian, Kazakh, Ukrainian and other CIS markets. If on a certain stage we will see that it is impossible to reach that goal without attracting the partner or launching an IPO, we will make a proper decision.”

“For me, company’s managers’ ambitions to become extra successful are very important. And we launched an option program in Troika to support that. According to that program my share decreases for 10–15% yearly, and it has already shrank from 90% to 65%. I think it would be right if my share becomes less than a controlling interest. If you said A, then say B. If you build a partnership where all the partners can influence the decisions, you should create the mechanisms that allow them to become the owners. The main asset in our business is people, and if you don’t let them become the owners of the company, you’ll hardly retain them, considering the conditions of the tough rivalry for talents. In addition, the joint ownership creates another attitude towards the work.”

Thursday, June 12, 2008

Goldman Sachs - Environmental Responsibility

Sonal Shah, a vice president at Goldman Sachs informed in 2006:

In 2005, Goldman Sachs implemented a strategic plan to improve the company’s environmental responsibility while keeping an eye on the bottom line.

The plan consists of four steps:
analyzing the direct impact of their operations on the environment;
investing in alternative energy;
researching environmental responsibility; and
discussing environmentally responsible investment banking operations with their clients.

Building an Energy Efficient Company

Goldman Sachs hopes to reduce its emissions by 12 percent by 2007. A project that will have a significant effect on this goal is the construction of their new world headquarters in New York, which Shah calls a ‘green building’ because it uses only energy efficient materials.

“A big obstacle with this is trying to convince our suppliers to find all these products,” said Shah, adding that the supply is low because the demand is relatively low. “If we can create a market for it, it makes it cheaper for others in the future.”

In addition to focusing on its own operations, Goldman Sachs promised to invest $1 billion in alternative energy. To date, they have spent $1.5 billion on energy sources, such as geothermal, biofuel and solar energy.

“We feel the economic factors of these types of energy make it a viable investment,” Shah said.

Raising Awareness

Shah said a major challenge for corporations trying to practice social and environmental responsibility is the lack of relevant data about the issues. “The information is constantly changing and it is almost impossible to find consistent data.”

To fix this problem, Goldman Sachs invested in a research company to help normalize the data.

Another challenge for Goldman Sachs is training their clients to be environmentally responsible. “We have a lot of bankers who say, ‘My company has an environmental policy on its Web site, so what’s the problem?’”

The problem, said Shah, is that the environmental statement is a ‘check-the-box’ formula—it gives them the false impression that simply having an environmental policy will safeguard them against future problems. “We feel we can be a better advisor to our clients if we can help them avoid the bad environmental issues.”

Goldman Electronic Trading Services - History

Goldman Sachs has a long history of electronic trading expertise.

Goldman Sachs has been committed to providing clients with superior Electronic Trading services since 2000, with the acquisition of Spear, Leeds & Kellogg. SLK was an electronic trading pioneer, launching the first version of REDI in 1992. In the 16 years since the original REDI launch, the product has evolved to provide access to multiple asset classes across global markets. Throughout the years, the commitment to cutting-edge technology, access to liquidity and superior client service has been paramount to our Electronic Trading strategy. This dedication will continue as the products and tools we offer clients evolve alongside the global capital markets.

Mile stones


First Version of REDI launches
REDI stood for Rapid Execution Dot Interface


Spear, Leeds & Kellogg, L.P. (SLK) launches REDIBook, one of the leading ECNs.
Milestones for 1998
SEC Implements Reg ATS covering ECNs.

Milestones for 1999

GS acquires Hull Derivatives in the same year.


GS acquires SLK in Goldman's largest acquisition ever.
Prior to transaction, SLK was the largest privately held securities firm in America.
REDIPlus adds US Options & Futures.


REDIBook ECN Merges with ARCA.


Firm Provides Suite of Sophisticated Advanced Trading Tools.
SIGMA smart order routing for equities and options, and suite of algorithms.
REDIPlus EMS extends reach into Europe and integrates with various order management systems.


Firm offers single platform for trading single stocks and portfolios
Portfolio Trader & Spread Trader fully integrated into REDIPlus


SLK L.P. renamed as Goldman Sachs Execution & Clearing, L.P.
Goldman Sachs also adds additional asset classes offering fully multi-product offering for equities, futures, options, foreign exchange and synthetics.


Goldman Sachs Extends Reach Into Asia and Canada by adding access to additional global liquidity sources.
Over a dozen Asian equities & futures exchanges available, including the full suite of global algorithmic capabilities to complement North American & European offering.

Multi-broker access available to all REDIPlus & FIX clients around the world; multiple destinations established for clients to route orders to and from their OMS/EMS of choice. Additionally, algorithmic offering moves into portfolio level & multi-asset categories.


GS creates the largest U.S. Crossing Network.
SIGMA X executing on average over 120mm/ day.
First foreign broker deal to provide electronic access to Trade China 'A' Shares.
Shanghai and Shenzhen Exchanges available for QFII clients.


SIGMA X crosses a record 219 mm shares, and average daily volume reaches 157 mm shares

Wednesday, June 11, 2008

Top 100 Global Financial Services Brands

Brand Finance Plc., London brought out its Top 100 list for 2007.

The information containsRank in year 2007, rank in year 2005, Company and country of domicile

7 10 CHASE US 13

12 6 UBS CH
15 n/a ICBC CN
16 19 BBVA ES

25 26 ING NL


49 43 ANZ AU

You can visit, register and download the full report from

Working of Goldman Sachs Hedge Fund Strategies

The post requires further rewriting.

An account by Nadja Pinnavaia in 2006

Nadja Pinnavaia

was Managing Director; Head, Goldman Sachs Hedge Fund Strategies – Europe & Asia ex Japan

Nadja Pinnavaia's left Goldman Sachs in 2007 to pursue an outside opportunity within the same industry.

Ms. Pinnavaia joined Goldman Sachs in 1995 where she worked within the Equity Derivatives group, responsible for the development of the derivatives business involving UK and Italian institutions. She subsequently moved to the Investment Management Division, focusing on Wealth Manage-ment for Ultra High Net Worth Individuals. Prior to assuming her current role, Ms. Pinnavaia was Co-Head, Hedge Fund Strategies, Europe, responsible for hedge fund manager selection across Europe and Asia, with a particular focus on Equity Long/Short managers. Ms. Pinna-vaia became a managing director in 2004.

Prior to joining the firm, she earned a Ph.D. in Quantum Chemistry from St. Catharine’s College, Cambridge University in 1994, and her Bachelor of Science in Chemistry from King’s College, London in 1991.

Hugh Lawson,
Co-Head Europe, Hedge Fund Strategies Group,
Goldman Sachs Asset Management.

Goldman Sachs Hedge Fund Strategies (“GSHFS”) grew out of Commodities Corporation. Commodities Corp. was a company where some of today’s best traders like Ed Seykota, Michael Marcus, Paul Tudor Jones, Bruce Kovner and Louis Bacon began their career. .

Commodities Corporation (CC) was founded with $2.5m of equity in 1969 under the leadership of Helmut Weymar, an entrepre-neurial Ph.D. economist, and Dr. Paul Samuelson, a Nobel Laureate economist.

By 1981 CC had a professional staff of 40 of whom 8 were Ph.D.s. Over the years, CC gained a reputation for identifying and cultivating some of the best trading talent in the industry including Paul Tudor Jones and Bruce Kovner. As these traders left to form their own firms, CC began investing in the spin off entities. These early investments led to the creation of one of the first fund of hedge funds in the industry.

In June 1997, the Goldman Sachs Group, Inc. acquired the assets and business of CC, which the firm subsequently renamed Goldman Sachs Hedge Fund Strategies LLC in December 2004. When Goldman Sachs Asset Management was looking to give its clients access to hedge fund talent outside the firm, CC was a logical choice of platform.

Today Goldman Sachs Hedge Fund Strate-gies has investment offices in New York, Princeton, London and Tokyo, and the group is one if the largest and most deeply resourced, globally deployed fund of hedge fund investment houses, allocating over $15bn to over 140 external hedge fund managers. The group runs both sector specific and multi strategy funds which represent a research and investment effort spanning the entire universe of hedge fund strategies. This effort is supported by 63 professionals including a 33 person investment team, incorporating sector specialists, sector dedicated portfolio managers, a senior investment committee as well as fully integrated risk manage-ment and operational due diligence teams.
Hedge Fund Strategies is part of Goldman Sachs Asset Management (GSAM), which is the asset management arm of The Goldman Sachs Group, Inc. GSAM managed $549.4 billion as of 30 June 2006.

Nadja Pinnavaia joined Goldman Sachs in 1995.

Ms. Pinnavaia finished her Ph.D. and commenced work within a weeek. She started out in equity derivatives in the London office.

According to her, spending time in hedging and structuring equity derivatives provided very good background for a professional in the fund of hedge funds business. There is obviously exposure to equity markets at all levels from single stock, to the sector level and at the index/market level. But equity derivatives also require an understanding of fixed income for financing, the forward curve, and swaps; and there is often a foreign exchange element too. A well-rounded view of volatility (traded and realised or historic) also emerges from time spent in equity derivatives – this is particularly pertinent for an understanding of convertible bond arbitrage, and obviously the newer strategy of volatility trading.

In addition the construction of funds of hedge funds requires a facility with the higher moments of returns/distributions. Correlation, skewness and kurtosis are now concerns of funds of funds managers, but they have always been part of the day-to-day language in derivatives.

After equity derivatives at Goldman Sachs Ms. Pinnavaia spent a couple of years as an executive in the Ultra High Net Worth Client department at the firm. This too has some relevance to working in hedge fund strategies. As a group the clients that enjoy what has been termed “single stock wealth” (this was the time of the tech bubble after all) have been backers of hedge funds for some time, and are the original providers of capital to the industry. Further, both UHNW clients and institutional investors that use equity derivatives have a preference for developing a relationship with their service providers, whether in asset advisement or structuring. This has become a key consideration after Ms. Pinnavaia moved in 2001 into what was to become the Hedge Fund Strategies group.

The leading and largest providers are now offering funds with a range of risk/return characteristics.

“We see a couple of major trends within the industry,” explains Ms. Pinnavaia. “Institutions, and the sophisticated HNWs we serve, are both looking for increased customisation in their hedge fund exposures. The second big trend is a new demand for niche and opportunistic investments.” GSHFS has clearly been very successful at running both broadly diversified funds of hedge funds as well as niche strategies for clients.

“In terms of managing the portfolio of hedge funds, we see the key to success as the ability to move capital to unique opportunity sets as driven events,” stated Ms. Pinnavaia. For example GSHFS had a positive view of the opportunities for managers in the distressed debt area from 2002 on. Event-Driven includes High Yield/Distressed, Special Situations, and Risk Arbitrage.

“Back in 2002 we saw companies beginning to clean up their balance sheets, indicating a positive environment for distressed (managers), shortly followed by special situations, such as restructurings. More recently, corporates, now possessors of healthy balance sheets, are helping to fuel other opportunities such as M&A transactions and buybacks. As such there have been many opportunities in the Event Driven arena. Different geographies also give rise to diverse opportunities, with opportunities in Europe different to those in Asia or the US. Looking forward, the economic cycle will continue to mature and those specific opportunity sets will shift again. The environment ahead may be more challenging for holders of long-only equity. We see an interesting balance of risk and reward in hybrid debt and equity strategies, such as mezzanine capital,” states Ms. Pinnavaia. This rotation through the sub-strategies of event-driven illustrates another tenet of GSHFS. “We see it as essential to keep a fresh view on the market opportunity,” she says, “and the more broadly informed you are as an investor the better. We don’t just take the views of managers as our only input on markets or instruments.”

In looking at the sizing of allocations to managers within funds of funds, GSHFS considers the risk and return characteristics of each manager, including the average expected volatility of returns, drawdown patterns and liquidity and leverage characteristics as well as their asset capacity limits and constraints. In addition, GSHFS considers how each manager’s returns are expected to correlate to the other managers in a given fund’s portfolio. Both qualitative and quantitative criteria are factored into the manager selection process at GSHFS. These criteria include portfolio management experience, strategy, style, historical performance, including risk profile and drawdown patterns, risk management philosophy and the ability to absorb an increase in assets under management without a diminution in returns. GSHFS also examines the organisational infrastructure, including the quality of the investment professionals and staff, the types and application of internal controls, and any potential for conflicts of interest.

The factor risk analysis undertaken is based on several factors which are quite typical for FoF managers to use. These factors include Equity Market Risk (the MSCI World Index), Yield Curve Flattening, Credit, Volatility (of markets, using VIX as proxy), a Foreign Exchange factor, Commodity exposure, and exposure to High Yield. There is no attempt to micro-manage the residual or cumulative factor risk contributed across all the managers. Even if most managers stay within their style boxes (no style drift) there are components of the FoF which may not be readily viewed or readily assessed in this way.

For GSHFS, with a history of early allocations to managers now considered titans of the industry, the legacy managers have tended to evolve into large multi-strategy managers. Such exposures can still have a lot of merit in terms of risk control and absolute return, though often the underlying positions may be opaque even to very large investors. “For the legacy managers we must understand how they themselves allocate to strategies,” explains Ms. Pinnavaia”, but their flexibility and potential to act quickly is very useful.”

She goes further: “Individual managers are our most flexible tool within the strategies. So the sub-style used by each manager can be very important in mitigating or enhancing risk assumption at the fund of funds level. Say within credit hedge funds, a manager can be security selection focussed, resulting in a more credit neutral approach or they may be focussed on security selection with a long credit bias. We may choose a manager that has a long equity market bias, or one that has a more neutral or balanced market exposure, depending upon the style and talent of the manager and the underlying opportunity set. In the end what we are looking to create are thoughtful portfolios that seek to address our clients’ investment objectives.”

Niche and opportunistic investments

The emerging demand for niche and opportunistic investments that GSHFS observe is addressed with an extension to the traditional building blocks of fund of funds portfolio.

“We like looking for markets undergoing change” explains Ms. Pinnavaia. “So we have been investors of natural resource strategies for a while. As an example, we recently identified and funded a manager investing in the alternative energy supply space. There are some 250 energy managers clustered around Texas, and we feel we have the resources to commit to identifying unique talent in the arena. To ensure success, we need the intellectual capital to understand the changes that are taking place in markets, and the appropriate expertise to identify the managers that can execute well in that strategy. Where things are hard to do in terms of a market environment or trading strategy, we view that as a great hunting ground to find interesting and unique managers”.

At the moment GSHFS has a number of areas under the microscope. The firm (Goldman Sachs Asset Management, of which GSHFS is part) has made a particular effort to get to grips with the investment potential of India. The way they have gone about it says a lot about their way of operating. A recent trip was carried out by the hedge fund analysts and other specialists within the firm. The small group visited hedge fund managers, private equity managers and long-only managers in India. They also spent time with the staff of the Mumbai office of Goldman Sachs. The information and views gathered were disseminated across the team of GSHFS via the global weekly research call held each Wednesday. The results of trips to Brazil and Russia were also shared in this way recently.

“In terms of strategy we won’t necessarily be looking only for a straight forward long/short strategy within India,” discloses Pinnavaia. “We would also consider a local emerging markets debt manager, or someone in special sits. We would like to take an exposure with a manager that looks at special sits or is engaged in more structured types of transactions in India right now.”

“Another interesting area for us right now are the hybrid strategies – where public meets private“, she continues. “For fixed income managers we prefer managers that go beyond arbitrage, or playing yield curve shifts. Pure arbitrage in the true sense is hard to come by, so naturally these strategies today deploy more directional risks, whether they be duration, credit or volatility as an example.”

GSHFS is also prepared to invest with long-biased managers. “Within the long/short bucket we currently have many diverse exposures, but tend to have a preference for a deep-value, fundamental approach. With the recent sell-off some of our managers are looking closely at valuations within the large caps, but as an example, we also see a role in the European arena for someone with short-term trading ability,” imparts Ms. Pinnavaia.

There are a number of areas where GSHFS tends not to go. “We do not currently invest with solely dedicated currency managers, rather most of the exposure we have to FX is through global macro managers,” Pinnavaia adds. Hedge Fund Strategies is currently invested with only one volatility trading fund, and generally avoids short option strategies. GSHFS doesn’t allocate to hedge fund strategies run by managers within Goldman Sachs Asset Management unless the client specifically requests it.

Illiquidity and emerging managers

A recent industry development has been an increase in funds with long lock-up provisions on investors’ capital. Ms. Pinnavaia neatly captures the phenomenon. “We have seen managers extending their illiquidity. Investors must discern between those funds that can justify such extensions and those that can’t. A key question we ask ourselves in these circumstances is “Are we being rewarded for this illiquidity, or are all the benefits all to one side? (with the manager).”

The growth of the industry has presented some challenges to funds of funds. The sheer number of new funds is one of them. The super start-ups take a lot of the capital these days, but still FoF companies have to find a way of identifying and working with emerging hedge fund managers. GSHFS used to operate a dedicated fund investing in new managers, Ms. Pinnavaia says.

“Now we establish vehicles which are essentially separate accounts for managers. If we like a new, emerging manager we may fund them in this way.” GSHFS then has the ability to minutely examine what the manager does and how they do it with the vehicle over whatever time-frame and frequency of analysis is relevant for the style. “For an emerging manager we have to make a decision after a year – to graduate them to a core position, or not.” If GSHFS likes the way it has gone it can add further capital, and if not the vehicle will be closed, because GSHFS will know after that length of time whether they have a long term relationship in prospect. Funds of funds vary in how they react to a fund in which they are invested making losses. GSHFS characterise themselves as patient investors. “At GSHFS we deploy a stop-loss mechanism at the manager level which helps control risk for the overall portfolio. We estimate the maximum drawdown for the individual manager. If it is exceeded then our discipline is to typically redeem. If the managers are sticking to a style and we can anticipate a recovery of the losses then we may look at the situation differently. We are also reflective on past performance. We once funded a manager whilst they were in a significant drawdown.

“When we first commenced our diligence they were experiencing a 20% drawdown. This did not impair our judgement. We gave them capital, they subsequently recovered and continued to generate exceptional returns and we have a great relationship with them,” says Ms. Pinnavaia.

Stability of capital at the level of the individual fund can be very important to a fund of funds according to Ms. Pinnavaia. “It is good to be with a manager with a stable capital base as they can take advantage of opportunities when markets are in turmoil.”

A listed closed-ended fund of funds

As the end-buyers of hedge funds change, so the means of distribution has to change. The Swiss and London Stock Exchanges have had listed funds of funds available for some years. In July this year Goldman Sachs Asset Management launched the Goldman Sachs Dynamic Opportunities Limited (“GSDO”), a closed-ended, fund of hedge funds which trades on the London Stock Exchange. This is the first closed-ended, exchange-listed investment company launched by GSAM. The multi-currency offering raised US$507 million in aggregate, making it the largest initial public offering to date of a fund of hedge funds listed on the London Stock Exchange. GSDO invests in a concentrated portfolio of high conviction, established managers employing a broad range of alternative investment strategies, which include both core strategies (i.e., relative value, event driven, tactical trading and equity long/short strategies), as well as other niche strategies.

It would be natural to think that such listings are part of the democratisation of hedge funds, that they are being made available to a wider range of investors. Indeed individual investors can buy the fund on the secondary market as if it were an equity security. The primary capital was raised from a broad range of investors including insurance companies, pension funds, discretionary asset managers and private wealth managers. Liquidity of hedge funds is getting worse as redemption fees have become more common, lock-ups are not unusual and notice periods are extended. Listed hedge fund vehicles offer liquidity that would not be available otherwise. “We’ve found that it is smaller institutional investors that are particularly keen to have a readily realisable exposure to hedge funds,” notes Ms. Pinnavaia. “For certain sorts of investors there are issues of admissibility of the assets, and the Goldman Sachs Dynamic Opportunities Limited is one solution for them.”

The differentiating factor – sharing of rich intellectual capital
GSHFS has been a commercial success and is now amongst the largest fund of funds in the world. “We haven’t run into problems because of our size,” asserts Ms. Pinnavaia. “We still invest with only 143 funds, and we can match the increased appetite for risk that our clients are now demanding through customisation, and our efforts to identify and work with niche and opportunistic strategies. We want to find people doing interesting things in markets, that is our task.”

“Our differentiating factor as a fund of hedge funds is the Goldman network,” she states. “We tap into the embedded knowledge of the whole company in what we do. We have access to and use the models that analyse risk across and for the whole company. If there is expertise we can use elsewhere in the group, we can usually get access to it.”

The recent project on India is a case in point. This joined-up approach to business clearly plays well with clients. “What we are doing is sharing our intellectual capital with our clients,” says Ms. Pinnavaia.

This is the answer to the key question of how GSHFS flourishes within the context of the bank. The fund of funds unit is leveraging the knowledge base and best operating practices of the parent to the apparent benefit of the client. The time spent with clients facilitates a two- way dialogue, and the client base can feel they have the opportunity to tap into the intellectual capital. This should give some longevity to the relationships provided there are not too many clients to nurture. The early evidence is good, as that part of the client base that were early movers into hedge funds are using GSHFS to implement the evolution away from broad diversified products into customisation and niche investments. A commercial strategy well executed.

Tuesday, June 10, 2008

Lehman Expects a Quarterly Loss of $2.8 billion

Lehman Brothers reported on 9th June 2008 that it expects a quarterly loss of $2.8 billion and would raise $6 billion in capital to shore up its balance sheet. It signals that turmoil in the credit market is far from over.

It took the unusual step of disclosing its second-quarter results a week early in an effort to assuage investors' concerns.

Lehman's estimated loss of $2.8 billion, or $5.14 per share, for its second quarter, which ended March 31, compares with profit of $1.3 billion, or $2.21 per share, a year ago. This will mark the first quarterly loss since Lehman went public in 1994 and far exceeded analysts' estimates of several hundred million dollars in losses.

The losses came as the firm wrote down the value of assets on its books and lost money from its trading activities. Lehman also took a hit as its hedges -- steps taken to protect the firm from certain losses -- failed to work. Such hedges had previously blunted the blows to Lehman's bottom line.

"I am very disappointed in this quarter's results," Lehman's chairman and chief executive Richard S. Fuld Jr. said in a statement. "Notwithstanding the solid underlying performance of our client franchise, we had our first-ever quarterly loss as a public company."

Lehman is in the company of Merrill Lynch and Citigroup, which have sought billions in fresh capital as they suffered outsize losses in mortgage-related and other securities.

The firm said it had moved aggressively during the second quarter to strengthen its financial position, for instance by reducing exposure to residential and commercial mortgages and real estate investments by up to 20 percent. It also cut its exposure to loans for mergers and acquisitions by more than a third. Lehman said it had reduced its gross leverage to 25, down from 31.7 at the end of last year, meaning the firm is now borrowing $25 for every $1 of its own money.

CFO Erin Callan said Lehman does not plan to reduce leverage further and intends to use the new capital to take advantage of market opportunities in the future. Lehman reported that it is raising $4 billion through common stock, at $28 a share, and $2 billion in preferred shares that will be convertible into common stock.

Lehman plans to release the full details of its quarterly results next Monday.