When Alan Howard set off for a business trip to India as a young Salomon Brothers bond trader in the late 1980s, colleagues advised against drinking local water. When he got back, the buzz on his trading desk was about the huge tab Howard had run up buying cases of Evian water, according to a person who worked with him at the time.
The London native joked that he not only didn’t drink from the tap, he used the imported bottled water to bathe, shave and wash his hair. Today, the co-founder of the $32.6 billion hedge-fund juggernaut Brevan Howard Asset Management LLP still makes it his business to keep out of harm’s way. From Howard’s trading desk in Geneva, former colleagues say, he obsesses daily about fat- tail risks, black swans or the mere possibility that his economic outlook may be wrong.
In 2011, Howard’s risk aversion served him well. The $26.4 billion Brevan Howard Master Fund Ltd. returned a solid 10.8 percent for the 10 months ended Oct. 31, ranking the fund No. 20 in the Bloomberg Markets ranking of the 100 best-performing hedge funds. The firm had three other funds on the large-fund list: the $1.7 billion Brevan Howard Asia Master Fund Ltd., at No. 31 with a 7.2 percent return; the $1.3 billion Brevan Howard Multi- Strategy Master Fund Ltd., tied at No. 43 with a 5.5 percent return; and the $2 billion Credit Catalysts Master Fund Ltd., tied for No. 74 with a 3.2 percent return.
The Master Fund also ranks as the fifth-most profitable in the 10-month period, earning an estimated $637.8 million for the firm, according to data compiled by Bloomberg. During a 25-year career, the ever-cautious Howard has successfully navigated a host of crises, including the bond market rout of 1994, the collapse of Long-Term Capital Management LP, which roiled markets in 1998, and the financial meltdown of 2008. Since its start in April 2003, the Master Fund has never posted a negative calendar-year return. Its Sharpe ratio of 1.96 from inception means that, on a risk-adjusted basis, it has generated more than four times the return of the S&P 500 Index.
“When he senses danger, he is not afraid to enforce his view very forcefully,” says Zoeb Sachee, head of European government debt agency/covered bonds at Citigroup Inc. (C) in London, who worked with Howard at Salomon. “The speed of exit was quite remarkable.”
A Dismal Year
The 2011 gains came during a year in which hedge funds posted dismal returns amid skyrocketing bond yields across parts of the euro zone and tumbling share prices. The average fund fell 2.8 percent, according to Bloomberg data. Macro funds such as the Master Fund — which use currencies, government bonds and derivatives to wager on changes in the global economy — were even bigger losers, falling 3.3 percent for the first 10 months of 2011. “The years Alan does best are when others are doing poorly,” says a former Salomon colleague. “He’s extraordinarily competitive.”
Brevan Howard’s 2011 gains derive largely from the firm’s pessimistic macroeconomic outlook, says Ian Plenderleith, chairman of BH Macro Ltd. (BHMG), a London Stock Exchange-listed closed-end fund that invests exclusively in the Master Fund. Other investors expected a strengthening recovery. Howard forecast a steep economic deceleration — or even a slip into a double-dip recession.
Piling into Treasuries
After concluding that the major developed-market central banks would ease interest rates to fight a new economic downturn, the Master Fund piled into U.S. Treasuries, U.K. gilts and German bunds. “They positioned their interest-rate exposures to take advantage of falling yields,” Plenderleith says. Yields on 10-year Treasuries fell to 2.11 percent on Oct. 31 from 3.33 percent at the start of the year, Bloomberg data show. In August alone, the Master Fund gained 6.2 percent.
“He excels at being a contrarian,” says one former Brevan Howard trader. “If he is swayed by popular opinion, it’s on the side of going against it.” Brevan doesn’t always fight the tide. In June 2010, Howard relocated to Geneva from London, joining other hedge-fund managers who moved to Switzerland after the U.K. government announced plans to raise taxes on top earners. Brevan’s offices are less than 100 meters (328 feet) from Geneva’s priciest shopping street. Howard’s wife is French, and the family has often vacationed nearby.
Howard, 48, who declined to be interviewed for this article, earned a master’s degree in chemical engineering from Imperial College in London in 1986 and joined Salomon the same year. After a stint at Tokai Bank Ltd., now part of Mitsubishi UFJ Financial Group Inc. (8306), he landed at Credit Suisse First Boston, where he rose to become head of fixed-income proprietary trading in London before leaving to start Brevan Howard in 2003. In October, Brevan Howard said it would return about $2 billion of capital to Master Fund investors in order to keep assets at about $25 billion. Closed-end funds BH Macro and BH Global Ltd. (BHGG), which in October was invested in a combination of six Brevan Howard funds, are exempt.
Broad economic bets are only one facet of Brevan Howard’s expertise. The firm — employing more than 60 traders plus other employees in offices as far-flung as London, New York, Washington, Sao Paulo, Tel Aviv and Hong Kong — is known for quick in-and-out moves to take advantage of temporary market inefficiencies.
For instance, the firm has traded so-called variance swaps — derivatives that allow it to bet on the severity of market price swings — to take advantage of mispriced stock volatility in the U.S. and Korean markets. “When the big themes are played out, they can switch to more tactical opportunities,” says Lee Partridge, chief investment officer at Salient Partners LP, a Houston-based investment firm. In 2010, there were three major themes in Howard’s macro investments, according to the 2010 BH Macro manager’s report: The Master Fund bet against short-term European bonds in the first quarter, shorted the euro in the third quarter and was bullish on U.S. bonds of five years or under in the fourth quarter.
All three bets proved unprofitable, yet the fund still managed a gain for the year of about 1 percent because of Howard’s skill at tactical trading, particularly in foreign exchange, the report said.
Beyond particular trades, Brevan Howard’s strength is in risk control. Howard personally sniffs out treacherous market developments and cuts losses lightning fast. “He had an absolute focus on the bottom line,” says Simon Meadows, a former Salomon colleague who’s now head of business development at Lucidus Capital Partners LLP in London. “He doesn’t get wedded to positions. If it comes across as a short attention span, it’s actually a strength in that he is able to turn his attention to new and different things.”
Howard demands strong performance from his traders, who are given written “mandates” describing the instruments they’re allowed to trade in which markets, and how much capital they can risk. Those who generate gains get a slice of them in their paychecks and may get additional capital. Traders whose portfolios fall will likely have the money they manage cut or be directed to change tactics and lower risk. Large or extended losses warrant a “time-out” — a shutdown in trading that may end in resignation or dismissal.
Personnel turnover, which a Brevan Howard spokesman says is lower than at rival firms, isn’t something investors such as Partridge worry about. “They are quick to act if something isn’t working out,” he says. “That’s part of being in the hedge-fund business.”