Melvin Capital to Limit Fund to $5B, Will Continue Short Selling
After recuperating from massive losses last year following the GameStop short squeeze, Melvin Capital Management seems to be plotting a new course. Still headed by Gabriel Plotkin, the hedge fund will effectively start as a new fund beginning from July 1st and likely continue short selling.
Melvin Capital to Restructure After Dismal Performance in 2021
Until then, Melvin will return the existing capital to investors, who will have reserved rights to reinvest in the new fund. Meaning, that after July 1st, the reconstituted fund would have as much capital at disposal as investors deem appropriate. Typically, hedge fund managers rely on two types of fees:
- Management fee: earnings regardless of the hedge fund’s returns. Commonly 1% – 2%.
- Performance fee: earnings based on positive returns, both realized and unrealized, measured as a percentage of investment gains. Commonly 15% – 20%.
However, Melvin Capital performed exceedingly poorly, having incurred a 21% loss for Q1 2022 and nearly 40% loss for 2021. In January that year, at the height of GameStop’s short squeeze, the hedge fund was bleeding profusely, totaling a $6.8 billion loss that month alone. Out of $12.5 billion at disposal, this made for a monumental 54.4% loss.
For this reason, it is not feasible for Plotkin to make even for investors prior to earning a performance fee, as he would have to generate a 120% return. To get around that, the hedge fund will be restructured:
- Reduction of its portfolio size from $8.7 billion to $5 billion.
- The range between $4.5 – $5 billion should remain until 2027.
- Any excess gains beyond that range when they reach $7 billion will return to investors for over 90 consecutive days.
Interestingly, Plotkin was previously charging one of the highest fees, 2% for management and up to 30% for performance. The restructured fund will charge less, at 15% – 25%. The management fee will also be reduced for a period of 30 months.
It bears noting that this transition from a high-water mark (peak in the fund’s value) to restructuring is a novelty itself. Usually, such funds shut down and reopen under new management. However, Plotkin’s history is also unique enough to warrant it.
Melvin Capital’s Shaddy History
Gabriel Plotkin is a protégé of Steven Cohen, a fellow billionaire hedge fund manager and owner of the New York Mets. Prior to founding Melvin Capital, he was one of the SAC Capital consumer traders, in charge of $1 billion in positions. Interestingly, SAC was rife with scandals, having resulted in insider trading charges leading to over 80 guilty pleas and convictions.
SAC Capital Advisors was later, in April 2014, renamed Point72 Asset Management, headed by Steven Cohen. The renamed hedge fund too suffered major losses during the GameStop saga, having to rescue Melvin Capital with a $750 million infusion, which Steven Cohen started to redeem last month.
In the end, the SEC barred Cohen from the fund’s supervisory role, two years after having reached the largest insider trading settlement in history, at $1.8 billion. As the insider trading fallout was unfolding, Plotkin established Melvin Capital Management in 2014, named in memory of his late grandfather.
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Plotkin Still into Short Selling
Prior to disastrous 2021, Plotkin was one of the top performers as a short seller. From the launch of the fund in 2014 up to 2020, the average returns were in the 30% range after fees. It is because of this history that most investors tend to view the GameStop short squeeze as an aberration.
Synchronized individual traders took advantage of social media platforms, such as Reddit and Twitter, to foil his large short-selling bets on GameStop. To make sure this doesn’t happen again, Melvin’s bets will in the future engage the market in such a way as to avoid position disclosure requirements.
Needless to say, this includes reducing the size of the fund’s short bets. Likewise, leveraging will also be scaled back to reduce the potential for big losses. Of course, anyone familiar with the benefits and downsides of leveraging knows that this will slow down big gains as well.
Do you think Melvin Capital will take advantage of dark pools to avoid position detection? Let us know in the comments below.
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