Arpad Busson is angry:Madoff fraud's nightmare incenses investorBy

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Madoff fraud's nightmare incenses investorBy Stephanie Baker
Bloomberg News
Posted: 01/16/2009 06:43:05 PM EST


and Tom Cahill


Arpad Busson is angry. He's just looked at the latest returns of a hedge fund he used to invest in; it's down more than 60 percent in the past nine months.

Busson called the New York-based fund manager an expletive as he walked out of the conference room at the London offices of EIM SA, the $11.5 billion fund-of-hedge-funds firm of which he is founder and chairman. Though EIM yanked its money out of the fund in April 2008, when it was down only 25 percent, Busson said there are too many like it out there.

"If these managers are not focused on preservation of capital, they should not have the right to manage other people's money," he said.

Busson's opinion matters. Since he launched EIM in 1992, he has been instrumental in luring billions of dollars of public and corporate pension money into his and other funds of funds. The industry, which Busson helped pioneer, allows investors to spread their risk among hedge funds with different strategies.

The number of funds of funds has swelled to 2,500 from fewer than a hundred 20 years ago, and the amount of money they manage increased eightfold to $826 billion as of June 2008. The global financial crisis has sent that growth into reverse, and fund-of- fund firms are now closing along with the hedge funds they invest in.

Busson, 45, a French-born child of the European financial aristocracy, started his career as a high-priced matchmaker, pairing new-world hedge fund managers
With old-world money. He parlayed that into a fund-of-funds business that's paid off handsomely. EIM's funds gained an annual average of 12 percent from 1996 to 2007, and his wealth was estimated before the crisis by London's Sunday Times at $390 million.

As Busson's influence has grown, so has his social profile. Busson, known as Arki, was for years photographed on the arm of supermodel Elle Macpherson, with whom he has two children, and he's now engaged to actress Uma Thurman. His annual ball for the charity he helped start, Absolute Return for Kids, or ARK, is a must-go event for London hedge fund moguls.

"Busson's got a Rolodex that covers not just hedge funds and finance but also his contacts from his high profile in the media and philanthropy worlds," said Ian Morley, founder of Wentworth Hall Consultancy, a London-based adviser to hedge funds and funds of funds. "He's become a celebrity larger than the hedge fund industry."

Busson is struggling to contain his clients' losses as the global stock, bond and commodities meltdown slams the hedge fund industry and the funds of funds that depend on it. More than 100 funds of funds shut between June and October 2008, and many face a flood of redemptions from both individuals and institutional investors. EIM had its first losing year in 2008; Busson said EIM's accounts lost 8 percent to 19 percent.

In mid-December, EIM disclosed it was one of at least a dozen funds of funds caught up in the massive alleged fraud perpetrated by New York investment manager Bernard Madoff. Busson said $230 million of client funds were invested with Bernard L. Madoff Investment Securities LLC, 2 percent of EIM's assets. Madoff may have lost as much as $50 billion in what prosecutors say he himself described as a "giant Ponzi scheme," in which he paid redemptions by existing investors with new investments.

"Catching a fraud is practically impossible," Busson said. "There's only so much due diligence you can do. This was not an obscure little manager in the boondocks. He seemed like a very experienced, knowledgeable, trustworthy man -- like the best con artists always are." Madoff had been head of the trading committee at the Securities Industry and Financial Markets Association and was chairman of the Nasdaq Stock Market.

EIM's exposure was through three outside hedge funds that the firm invests in, and that had accounts with Madoff, Busson said. No EIM account had more than 5 percent of its assets with the New York broker and money manager, he said, and one fund EIM invested in had its accounts audited by a major global accounting firm.

John Godden, chief executive officer of London-based IGS Group, which advises hedge funds, said any fund of funds that gave money to Madoff didn't probe deeply enough. "It really undoes any pretense that these people were doing proper due diligence," Godden said, declining to comment specifically on EIM. "People are going to be questioning the processes that funds of funds were going through to assess investments."

EIM is one of at least 16 fund-of-fund firms and private banks that had disclosed exposure to Madoff as of mid-December, including some of the oldest in the business, such as Rye, N.Y.-based Tremont Group Holdings Inc., founded in 1985, and Switzerland's Notz, Stucki & Cie., started in 1974.

The Madoff scandal has heightened investor skepticism of strategies in which they end up paying two sets of fees. Hedge funds typically take 2 percent of their assets as a management fee and 20 percent of profits, while most funds of funds charge an additional 1 percent of assets and 10 percent of profits. EIM, which creates customized accounts, charges 1 percent of assets and 5 percent of any gains, Busson said.

"There's been a huge mismatch between what's been promised by funds of funds and what's been delivered," said Kerrin Rosenberg, chief executive officer at Cardano UK, which advises pension plans and other institutions with about 50 billion pounds under management. "Many of these pension plans regard their investments with funds of funds as an experiment, and towards the end of 2009 they're going to conclude it has failed, and they won't invest in them again, ever."

Busson predicts that the global plunge in stock and commodity prices and the world economic slowdown will kill as many as half of the world's hedge funds, and he said the culling of weak funds is "very healthy." The number of hedge funds, excluding funds of funds, peaked at 7,652 at the end of June 2008 and declined to 7,299 as of the end of October, according to Chicago-based Hedge Fund Research Inc.

Busson said there's still a role for funds of funds like his, because institutional investors find the screening and monitoring of hedge funds too time-consuming and expensive to do themselves. He also notes that both EIM, and hedge funds generally, have performed better than the market.

EIM's 12 percent average gain through 2007 compares with 8 percent for the Standard & Poor's 500 Index and 8.6 percent for the Fund of Funds Composite Index published by HFR. In 2008, the S&P 500 fell 38 percent, while HFR's Global Hedge Fund Index dropped 23 percent. Its Fund of Funds index dipped 19.49 percent through November, the last period for which data is available.

"He's been a pioneer," Wentworth's Morley said. "With his combination of energy, focus and his contacts, he took managers from America and introduced them to European investors."

Busson said he sees his job as finding hedge fund managers who can produce alpha -- returns that beat the benchmarks for stock, bond and commodity performance. He leads a team of 205 analysts who scour the world for new talent and track the performance of 1,000 hedge fund managers.

They work from EIM's headquarters in Nyon outside Geneva and the firm's small London office, which is decorated with prints by Japanese-born photographer Hiroshi Sugimoto.

EIM -- originally European Investment Management -- creates tailor-made portfolios of hedge fund investments for clients based on their individual needs. If a client wants a fund with no emerging-market exposure or wants his portfolio locked up for one year instead of three years, Busson's team will come up with a basket of hedge funds that meets that requirement. EIM currently runs 110 accounts that invest with 150 different hedge fund managers.

Busson said EIM started pulling back from certain funds in February 2007, when credit markets began to wobble. EIM sold out its positions in 42 funds in 2007 and fired another 64 managers in 2008, while taking on 24 new managers. Busson said that in some cases the trigger was a shutdown in communication between fund managers and investors. "When there's turmoil, transparency is king," Busson said.

One hedge fund strategy Busson fled is convertible arbitrage, in which a fund buys convertible bonds, which can be converted into shares at a certain price, and then sells short the underlying stock to hedge the bet.

Such funds suffered grievous damage from the bans and restrictions on the shorting of stocks imposed around the world in September and October.

As of last month, less than 4 percent of EIM's portfolios still had exposure to convertible arbs. "If I was such a genius, I would have cut everything out," Busson said.

In 2008, Busson said EIM increased its exposure to macro trading strategies, in which funds bet on broad swings in the economy. EIM is also invested with commodity trading advisers such as David Harding's London-based Winton Futures Fund, which was up 18 percent through November, and London-based BlueCrest Capital Management Ltd.'s BlueTrend, a roughly $8 billion futures trading fund that returned 38 percent for 2008 through November.

"There are managers making money," Busson said. "Strong organizations with strong risk controls will survive and prosper."

The Madoff loss is by far the biggest of several EIM missteps. Busson said EIM had $9 million of client money invested in the Bear Stearns hedge funds that went belly up in July 2007, touching off the meltdown in mortgage-backed securities. Another EIM holding that was a casualty of the crisis was Drake Capital Management LLC, a New York-based money manager started by BlackRock Inc. executives seven years ago. Drake is liquidating three of its funds.

EIM also put money into some of 2008's best-performing hedge funds, including about $400 million in Paulson Advantage Plus, a Paulson & Co. fund that was up by 29 percent through October. Another winner was: Brevan Howard Macro Ltd., run by London-based Brevan Howard Asset Management LLP, which was up 19 percent through October.

Busson began dating supermodel Macpherson in the mid-1990s. The pair broke up in 2005 without marrying, and they split custody of their two sons, one of whom counted the late Italian auto tycoon Giovanni Agnelli as godfather. In announcing their separation, they issued a joint statement saying, "We have had, and in many ways continue to have, a wonderful relationship, which has produced two beautiful children."

Busson, who sports longish brown hair and beaded necklaces and bracelets, met Thurman, 38, star of the movies "Pulp Fiction" and "Kill Bill," at a private dinner in Rome in 2007.

The pair began a whirlwind romance, vacationing in St. Tropez and on a yacht off Sardinia.

Busson's high standing among European investors can be traced partly to his family roots in the world of international finance.

His step-grandfather Arpad Plesch was a Hungarian-born financier who married three times. Plesch earned his fortune from businesses around the world, including a large stake in the Haitian-American Corp., which owned sugar plantations.