John Paulson is famous for betting against subprime mortgages at a time when most Americans thought real estate was a sure thing. He made billions. Lately, his contrarian streak hasn’t served him as well. Since 2009, he’s placed bets on a U.S. recovery, and his recent results are as dismal as the economy itself. Paulson’s largest hedge fund, Advantage Plus, lost 34 percent this year through August, according to two people familiar with the firm, who asked not to be identified because the fund is private.
A good chunk of that decline came in August, when the fund fell 15 percent, these people say. Standard & Poor’s 500-stock index fell 5.7 percent in August, ending the month down 3.1 percent for the year. “John Paulson is considered one of the top hedge fund managers in the industry—a 30 percent drawdown will cause a number of investors to watch his performance very closely going forward,” says Donald A. Steinbrugge, managing partner of Agecroft Partners, a Richmond (Va.)-based firm that advises hedge funds and investors.
Paulson, 55, had positioned his Advantage and Recovery funds to benefit from a U.S. economic upturn, in part by buying big stakes in banks and other financial-services companies. “We’re in the middle of a sustained recovery in the U.S.,” he said at a conference in London in June 2010. “The risk of a double dip is less than 10 percent.” He cited the housing market as a sign of good news to come. “It’s the best time to buy a house in America,” he said. “California has been a leading indicator of the housing market, and it turned positive seven months ago. I think we’re about to turn a corner.” Since then, home prices have dropped 4.5 percent according to the S&P/Case Shiller 20-city index, and economic growth slipped to 1 percent in the last quarter.
Paulson, who manages $35 billion through New York-based Paulson & Co., has scaled back some of his bets. In the second quarter he cut his stake in Bank of America (BAC) by more than half and sliced about 19 percent from his holdings in Citigroup (C). He also sold shares in SunTrust Banks (STI), Hartford Financial Services Group (HIG), JPMorgan Chase (JPM), and asset manager BlackRock (BLK), according to his most recent regulatory filing.
Paulson suffered losses this year on a Chinese timber company that became the target of short-sellers. Sino-Forest has plunged about 74 percent from its closing price on June 1, the day before Muddy Waters Research, an investment firm run by Carson Block, issued a report accusing the Hong Kong- and Ontario-based company of overstating timberland holdings and production in Yunnan province. Paulson told clients in June that his fund lost $489 million that month on the investment, which it sold off as of June 17. Armel Leslie, a spokesman for Paulson & Co., declined to comment on the firm’s returns.
Making matters more stark: Some of Paulson’s hedge fun peers are having great years. Bridgewater Associates, the $122 billion firm run by Ray Dalio, posted a 7.4 percent gain in its largest fund, Pure Alpha II, in August, according to a person with knowledge of the matter. The fund has risen 25.3 percent in 2011. Brevan Howard’s $25 billion Master Fund rose 6.2 percent last month and is up 11 percent for the year, according to an investor.
Investors may see Paulson’s losses this year as a sign he’s strayed from what he knows best, according to Larry Chiarello, a former Paulson & Co. investor and partner at SkyView Investment Advisors, which places money with hedge funds. “He was successful at betting on the subprime mortgage situation, and now he’s buying specific stocks—is he still in his best area of expertise?” asks Chiarello, who adds that some investors “have said he wasn’t equipped to handle the Sino-Forest deal.”
Gold has been the one bright spot for Paulson this year. His Gold Fund, with about $1 billion in assets, can buy stock in gold mining companies as well as derivatives and other gold-related investments. It’s up 21 percent this year. Paulson was the largest shareholder of the SPDR Gold Trust ETF (GLD) as of June 30, according to data compiled by Bloomberg. His belief in the metal led him to create gold-denominated versions of most of his portfolios in April 2009, a move that other hedge funds have followed. He introduced them as a hedge against what he believed would be a falling dollar, according to a person familiar with the firm. In effect, investors who choose the gold-denominated funds instead of the dollar shares are making a bet on the metal: The value of their accounts will reflect fluctuations in the price of gold along with changes in the value of the investments Paulson makes with their money. Recently, that strategy has paid off. The Advantage Plus Fund’s gold share class is off 17 percent this year, half the decline in the ordinary shares. While Paulson’s Advantage Fund, which employs a similar strategy, has dropped 23 percent this year, the gold share class has gained 1.4 percent. Forty percent of Paulson’s clients are invested in gold shares, the person says. As Paulson told the French newspaper Les Echos in March: “Historically, gold has always been a hedge against inflation and a safe haven in periods of political instability.”