On Aug. 28 a story by Juliet Chung of The Wall Street Journal staked a remarkable claim: that a hedge fund named Universa Investments LP had made $1 billion on the preceding Monday, the 24th, a day when bad news from China rocked the markets of the rest of the world.
That’s the sort of event for which “black swan” funds exist. The idea behind such funds is that they will sustain (small) losses in normal times, but then win big, really big, easily-make-it-worthwhile big, when events come along that show that the tails of the Bell Curve are fatter than they are supposed to be.
More specifically, Universal buys out of the money puts on the S&P 500, putting it in a position to profit in a big way when there is an especially large move.
So August 24th, as interpreted by Chung at the end of the week, looked like a confirmation of the Black Swans/Fat Tails theory. She wrote of this as a success for Mark Spitznagel, the founder of Universa, and for his “longtime collaborator,” Nassim Nicholas Taleb, the man who made the phrase “black swan” famous in 2007 and who has kept at the elucidation of the theory very publicly ever since.
Taleb Backs Away
But maybe Taleb didn’t want this event to serve as a test of his theory. Since this was 2015, the issues raised by Chung’s article were discussed in tweets over the weekend. Louise Mench wrote, “Did you see @nntaleb just made a billion dollars or something?”
Dave Collum (a professor of organic chemistry) replied, “Yes, the fat tail hedge came in big.”
Then Taleb himself chimed in, “My role in minimal. Not ‘my’ fund (I am a retired trader) there are other ppl.” Hmmm.
As regular readers of this blog may know, I have found much to admire in Taleb’s writings. So I am happy he has decided to make it clear that his role in Universa is “minimal,” thus dissociating his views from this billion-dollar claim.
The following Monday, August 31st, Chung was back at it, this time in WSJ’s blog, MoneyBeat, this time discussing Spitznagel’s “broad range of interests” and crediting him for Cassandra-like warnings about the easy money policies of the world’s central bankers. But she noted Taleb’s tweet, and thus at least implicitly signaled to her audience that he had put some distance between his own theoretical musings and this supposed support.
On Wednesday, September 2, Tom Sosnoff discussed Chung’s billion-dollar claim on Spitznagel’s behalf, in Sosnoff’s podcast, “You Gotta Be Kiddin’ Me,” on the Tasty Trade financial network. Sosnoff contended, in brief, that the numbers don’t hold up.
Sosnoff’s first point in this connection (after a lot of introductory talk about the internet bubble and Bernie Madoff) is that “you don’t make anything when you don’t take profits,” and that nothing in the article suggests profits were taken off the table.
But as to the numbers: he said that the round $1 billion seems to come from the premise that Universa manages $6 billion, and that the August 24th turmoil allowed it to make 20% on that, which yields $1.2 billion. But Sosnoff says that the best estimate of the actual AUM at Universa is anywhere from $200 million to $600 million. Twenty percent of any number within that range is, then, a gain of somewhere between $40 and $120 million: a nice day in either case, but nothing to justify that eye-catching billion-with-b claim.
Not Enough Open Interest
Even more tellingly, Tasty Trade looked at the SPX Oct.59 DTE options. To make $6 billion, even assuming perfect timing, Universa would have had to buy 60,240 contracts. That way, it would have bought puts at $4.15 on August 17th and sold them at $71.70 on August 24th. That would give it a nice 16 fold profit on however much of its capital it had invested buying these puts and then liquidating with perfect timing. If it had pulled this trick with 1/17th of a billion then, it could have ended up with a $1 billion profit in this way.
But … the market wouldn’t have allowed for the purchase of 60,240 contracts to play for such an event. The open interest was: 83. Not 8,300. Not 830. Just 83.
Sosnoff’s conclusion is a familiar one: “if profits seem too good to be true, they probably are.”
Sosnoff isn’t making an accusation against Spitznagel. He is accusing the WSJ, though, of sloppy and sensationalist advertising. It is a safe guess we’ll hear more of this.