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The first sign of trouble for hedge fund prodigy Gabe Plotkin came in late October when a poster on Reddit’s popular wallstreetbets forum targeted his very successful investment firm.
“GME Squeeze and the demise of Melvin Capital,” user Stonksflyingup wrote, referring to GameStop Corp’s stock ticker. and Plotkin’s $ 12.5 billion company. Before long, veryforestgreen weighed in: “Melvin Capital New Short Attack.” Then greekgod1990: “Melvin vs WSB! And GME on the moon. “
This is how things turned on Wall Street – and a hedge fund star suddenly found himself at the mercy of the Reddit brothers who have become one of the most powerful, albeit unlikely, forces in the stock market today. ‘hui. The attack on Plotkin’s six-year-old Melvin Capital shifted the balance of power in ways that would have seemed unimaginable just a few months ago. On Wednesday, the firm surrendered to fans and covered the GameStop court.
The explosive growth of retail day trading, fueled by platforms like the Robinhood trading app and forums like wallstreetbets, has turned the old order around. Melvin Capital’s mistake, if you can call it that, has been to leave footprints in the market. Reddit users were able to identify the stocks Melvin was betting on and then buy them in droves, triggering a sharp rise in prices that turned Melvin’s winning bet into a loser.
The losses were so steep – around 30% until last week – that Melvin turned to billionaire hedge fund founders Ken Griffin and Steve Cohen – the former Plotkin boss – on Monday to shore up the business.
As of Tuesday, the fund’s losses had increased even with the repositioning of the portfolio, although investors are not sure how much fear of angering the fund manager, who they believe can still fight.
A representative for the company declined to comment on performance, other than saying the portfolio had been repositioned in the past few days and that “the social media posts about the Melvin Capital bankruptcy are categorically false. Melvin Capital is focused on generating high quality risk-adjusted returns for our investors, and we appreciate their support. “
The risk of going long is intuitive: buy $ 50 of shares, and if the price drops, you lose that amount. But losses on bearish bets can be more severe and faster. Classic $ 50 shorts can lose multiples of that amount if the stock soars. And while the use of options can limit losses, investors can be quickly wiped out if the stock goes up.
The shorts listed on Melvin’s Q3 regulatory brief have all exploded in recent weeks. Names include Bed Bath & Beyond Inc., iRobot Corp. and GSX Techedu Inc. GameStop, the stock that appeared to trigger the short-term squeeze, climbed 634% from the month to Tuesday. That night, Elon Musk tweeted a link to the Reddit thread with the caption “Gamestonk !!” And by mid-Wednesday in New York, the stock had more than doubled.
Gamestonk !! https://t.co/RZtkDzAewJ
– Elon Musk (@elonmusk) January 26, 2021
Investors caught in short squeeze may close bets and eat their losses, or try to weather the price spike, which usually requires putting in more money.
Melvin’s cash injection was almost unheard of in hedge fund lands. Griffin, his partners, and the hedge funds he runs at Citadel threw in $ 2 billion, and Cohen’s Point72 Capital Management, which had already invested around $ 1 billion in Melvin, brought in an additional $ 750 million.
Cohen, you might say, was bailing out his own investment. For Griffin, this was a rare opportunity to invest in a talented manager on the cheap. The two companies obtained a minority share of the company’s revenue for their intervention.
Late Tuesday, Cohen broke his usual habit of tweeting only about his New York Mets. “Hey jockeys keep bringing it,” he wrote on the social media platform.
Restless crowd on Twitter tonight Hey stock jockeys keep bringing it
– Steven Cohen (@ StevenACohen2) January 27, 2021
Until this year, Plotkin, 42, had one of the best track records among hedge fund security selectors. He had worked for Cohen for eight years and had been one of his biggest producers of money before he left to form Melvin – named after his grandfather – in December 2014.
Plotkin’s reputation was so good that the firm closed itself off to other investors before word had even spread that he was going on his own. Despite a loss in 2018, it has posted an annualized return of 30% since opening, ending last year up more than 50%, according to one investor.
Then came January, when Melvin first became aware that a Reddit mob had put a target on the company’s positions, escalating an attack on GameStop and other short films.
Position exposures
Why they chose Melvin remains a mystery. When it comes to hedge fund managers, Plotkin is considered low-key. He doesn’t show up at many conferences or party tables at company balls. Former colleagues and current investors say he’s a nice, calm guy – not the type to make enemies.
The most obvious explanation is that his positions were in some sense knowable. Hedge funds usually go to great lengths to keep their positions short. If they use put options, for example, they’re buying them over-the-counter, which means they don’t have to list them in regulatory filings. Plotkin’s filing in the third quarter showed puts on 17 companies, many of which were very short names.
“There is no targeting going on – WSB is much less organized than all the articles claim,” said Lucas Severyn, a wallstreetbets member. “Every now and then WSB is obsessed with certain titles, now it’s GME, and for the first time that title just keeps giving.”
Melvin’s losses rose in January, and after surpassing 15% last week, he had conversations with investors and secured commitments of around $ 1 billion for February 1. By the end of last week, losses had climbed to around 30%.
On Monday morning, Plotkin struck a deal with Point72 and Citadel to provide him with more cash to help put Melvin back on the offensive. That Cohen steps in in a way, given his long-standing relationship with Plotkin – and an initial investment of around $ 200 million in the company that has grown to around $ 1 billion.
Griffin, who founded Citadel in 1990, has a habit of rushing when others are in distress. He hired teams or took over assets from hedge funds such as Sowood Capital Management, Visium Asset Management and Amaranth Advisors after their implosion. He may also have welcomed the opportunity to invest in Plotkin’s fund. Melvin typically manages the money for charitable organizations such as endowments and foundations.
New risk
Investors have expressed their belief that Plotkin will come out of this hole.
Griffin said on Monday that he and his partners “have great faith in Gabe and his team.” Cohen called him “an exceptional investor and leader”.
A person familiar with the thinking inside the Plotkin company said one lesson is clear: don’t leave a trace and only buy over the counter put options.
“This phenomenon of retail investors jumping on the bandwagon to dominate trading activity is a new kind of portfolio risk,” said Jay Raffaldini, Global Head of Sales and Distribution at UBS O’Connor. “This will cause many hedge funds to rethink their approach to their long and short investment strategies.”
(Updates with shares in the ninth paragraph. An earlier version of this story corrected a title in the 19th paragraph.)
– With the help of Sarah Ponczek, Spencer Norris and Misyrlena Egkolfopoulou.
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