In a moment of financial serendipity, earlier today we tweeted that as a result of the sudden collapse in the market’s most crowded positions (which as we noted over the weekend, now face the biggest risk of a wipe out), “hedge fund redemption requests re-emerge.”
And just like that, hedge fund redemption requests re-emerge
— zerohedge (@zerohedge) June 3, 2019
It turns out we were very much spot on, because just a few hours later, the Financial Times reported that Neil Woodford, the UK’s equivalent of David Tepper, has blocked redemptions from his £3.7bn equity income fund after serial underperformance led to an investor exodus, “inflicting a serious blow to the reputation of the UK’s highest-profile fund manager.”
The freeze on redemptions, exactly five years after Woodford opened his eponymous fund management group, underlines his increasingly precarious position. It follows a steady stream of investor outflows, which have occurred each month for two years, with the fund shrinking by two-thirds to £3.7bn since a peak of £10.2bn in May 2017.
The severity of this latest hit to the hedge fund industry can not be underscored enough. The FT quoted a veteran fund manager who has known Woodford for more than 20 years, who said that “this is one of the bigger events for the UK asset management industry of the last decade. A bonfire of reputation and a terrible moment for investor confidence.”
The freeze, also known as a redemption gate, which usually is implemented during times of market turmoil to avoid a catastrophic liquidation of assets as investors panic, was introduced after Kent County Council, a longstanding backer of Woodford since his days as a star fund manager at Invesco Perpetual, asked for the return of approximately £250 million. While the freeze prevents the withdrawal of capital over the short term, it also stops new investors from putting money into the fund.
In a statement, Woodford Investment Management said it had “come to the conclusion it is in the best interests of all investors in the fund to suspend the issue, cancellation, sale, redemption and transfer of shares in the fund”. It also said it was taking the step to “protect the investors in the fund” by giving Woodford time to sell unlisted and illiquid stocks and buy more liquid investments that could be sold to meet redemptions.
The massive redemption request capped a four week period in which “Woodford had struggled to keep up with an average of £10 million flowing out of the fund every business day.” Adding insult to injury, the shares of construction group Kier, one of the fund’s main holdings, plunged 40% after a profit warning on Monday.
What it really meant is that it was on the verge of collapse and any further redemptions would merely accelerate the fund’s liquidation, resulting in a potentially systemic collapse.
The gating of the fund is reminiscent of the action taken by UK property funds in the wake of the UK’s Brexit vote, when funds – including Standard Life – froze redemptions to stem the exodus of money.
According to the FT, Link, Woodford’s authorized fund manager, must review the fund’s suspension every 28 days and inform the Financial Conduct Authority of the results of the review. In reality, discussions with the FCA are likely to take place more frequently, especially as investors in other funds once again freak out wondering just what is going on.
Speaking of the UK’s top financial regulator, the FCA said it was “aware of this situation and in contact with the firms involved to ensure that actions undertaken are in the best interests of all the fund’s investors”.
In a statement, Woodford Investment Management said it had “come to the conclusion it is in the best interests of all investors in the fund to suspend the issue, cancellation, sale, redemption and transfer of shares in the fund”.
It said it was taking the step to “protect the investors in the fund” by giving Woodford time to sell unlisted and illiquid stocks and buy more liquid investments that could be sold to meet redemptions.
Woodfore’s fund said it would write to investors when dealing was to be resumed and keep them informed “about the suspension, including its likely duration”.
Last week, the Financial Times revealed that Woodford’s flagship equity income fund shrank by £560 million in less than four weeks.
The company has also undertaken a series of complex deals in order to reduce the balance of illiquid, unquoted holdings in his open-ended funds, which have proved contentious as investors have tried to exit the vehicle.
The decision to gate investors would immediately have far-reaching consequences on the UK asset management ecosystem: Hargreaves Lansdown, the UK’s largest “fund supermarket” and a huge supporter of Woodford, said it would be removing both Woodford Equity Income as well as Woodford Income Focus from its best-buy Wealth 50 list in a blow to the manager which assures further redemptions when the fund resumes trading, putting its survival into question.
The decision also reveals signs of contagion with Woodford’s other funds. His £500m Income Focus fund, designed to deliver high income, has not stopped trading but lost almost 20% in the past 12 months in total return terms.
Worse, with investors now barred from pulling their money from one of the largest funds, they will now scramble to redeem whatever they still have access to, creating a toxic spiral which likely culminate with the fund’s termination.
Indicatively, Hargreaves accounts for £2 billion of Woodford’s total £10 billion in assets under management (a number which will shortly be far smaller) and promotes his flagship fund on its Wealth 50 list, which is used as a resource for customers choosing which funds to buy.
The company is also in talks with the UK financial regulator, Mr Woodford and the fund administrator. The administrator will now set a price for the suspended fund which appears in six of Hargreaves’ own portfolios and which will continue trading during the suspension.
Mark Dampier, head of research at Hargreaves said: “It can’t stay on the Wealth 50 if it’s no longer trading.”
Putting it mildly, Emma Wall, head of investment analysis at Hargreaves Lansdown said: “We are advocates of long-term investing and think Woodford’s multi-decade track record remains compelling — but we don’t underestimate the disappointment investors must feel with Woodford’s recent performance.”
But what is most bizarre about this latest hedge fund fiasco is that the gating takes place with global markets still just shy of all time highs. One can only imagine what will happen to the rest of the sector if the current swoon accelerates and drops another 5%, 10% or more, sending other hedge funds scrambling to liquidate their own holdings of the most crowded stocks. Those who succeed to sell first, they just may survive to fight another day.
But the bigger concern is whether this gating by one of the UK’s most iconic hedge funds sparks a redemption frenzy, first in England, and then, across the globe in what may soon become a rerun of the redemption panic that struck in December, resulting in the first S&P bear market since the financial crisis. Only this time, we doubt the market will recover just minutes after triggering the infamous -20% threshold.