Picking CCC as your ticker symbol when you’re listing a fund that invests in debt seems a little like tempting fate. But that’s what private equity shop Carlyle Group did when it floated Carlyle Capital Corp. (CCC) in Amsterdam. The fund invests in AAA-rated bonds backed by Fannie Mae and Freddie Mac, the US mortgage giants that carry an implicit government guarantee. But with 32 times leverage at the end of 2007, there wasn’t much cushion against the margin calls that are now coming in.
Many hedge funds borrow heavily, but banks are increasingly cautious about lending. If a fund’s creditors decide they want to offer less debt or hold more collateral against trades, it can lead to forced asset sales. If the fund’s trades happen to be losing money too, the result can be a vicious spiral. That’s what happened at structured finance fund Peloton.
CCC is struggling to meet margin calls from financing counterparties. Its $21.7 billion (Rs87,885 crore) portfolio was supported by just $670 million of net assets at the end of last year.
Carlyle Group has lent the fund some money—a credit facility recently upped to $150 million—to help ease its cash crunch. The fund also held back on paying a dividend last quarter. And it has sold $1 billion of assets since August.
All that should have cut its effective leverage somewhat. But prices for the traditionally ultra-safe “agency” mortgage bonds the fund invests in have been sliding. Hedge funds—in contrast to investment banks—may have avoided toxic subprime mortgage exposure.
Fund boss John Stomber said in CCC’s 2007 annual report that he saw small price declines as “contrary to normal price movements for our securities relative to interest rates”.
In hindsight, that sounds a tad unconcerned given the extraordinary situation that was already unfolding in credit markets. He’s now working towards “more stable financing terms”.
CCC’s investors, who knocked nearly 60% off the fund’s share price, must be worried that it could be too late.