Galleon Group's Historical Returns: Did They Gain Too Much Of An Edge? ~ market folly

Friday, October 30, 2009

Galleon Group's Historical Returns: Did They Gain Too Much Of An Edge?

It's been a little while since we checked in on the happenings at the current circus known as Galleon Group so we wanted to cover all the updates. Raj Rajaratnam's (R Squared) hedge fund is involved in one of the largest insider trading cases to rock Wall Street. But, of course, Raj says he is innocent in his letter to investors:

"October 21, 2009

Dear Galleon Employees, Clients and Friends,

I have decided that it is now in the best interest of our investors and employees to conduct an orderly wind down of Galleon’s funds while we explore various alternatives for our business. At this important time, I want to reassure investors of the liquidity of our funds and assure Galleon employees that we are seeking the best way to keep together what I believe is the best long / short equity team in the business.

As many of you know, we have built our business on the fundamental belief in rigorous investment analysis combined with active trading around core positions. We have encouraged and invited our investors to attend our daily research morning meetings. Many of you have done so and got a first hand look at our process. This research process is the core of our investment and trading strategy.

The privilege of managing investors’ capital is a responsibility that I have always taken very seriously. I want to reiterate that I am innocent of all charges and will defend myself against these accusations with the same intensity and focus I have brought to managing our investors’ capital.

For those who have been my partners and supporters over the last 17 years, I sincerely thank you. I also want to thank you for the innumerable expressions of support I have received from you over the past few days.


Raj Rajaratnam"

So, he says he is innocent yet he is winding down the funds... hmm. That probably has something to do with the fact that over the course of 3 days, he received $1.3 billion in redemption requests. On that note, it looks like he was trying to head off redeemers at the pass, given the inevitable. After all, many pension funds can't be doing business with alleged felons. Their largest fund had $1.3 billion in assets and typically wouldn't pay redeeming investors until the new year, but they are obviously trying to hand out payments before then. Their $350 million technology fund on the other hand allows monthly redemptions with 45 days notice.

What's also interesting here is that apparently, over $1 billion of the firm's assets is money from insiders of the firm, including Rajaratnam. We heard just a few days ago that Galleon has already liquidated 90% of their $3.7 billion portfolio. Some of their largest positions had been Yahoo, Tyco, Amazon and various other technology names. (But do keep in mind that those holdings were as of June 30th, 2009). So, maybe the recent market drop was everyone trying to get out of the way of Galleon's liquidation? Either way, that certainly seemed like a rather painless unwind.

Galleon's history has now become very questionable given the fact that news has surfaced regarding them 'badgering and bullying' brokers for information on what firms were trading what shares. They were essentially trying to front-run firms who were dumping large amounts of shares. Raj wove a massive web of contacts throughout Silicon Valley and Wall Street given that he operated a hedge fund often focused on technology stocks. Galleon was conducting hundreds of trades a day, generating some nice commissions for brokers. Raj even mentioned one time that Galleon dished out $250 million in commissions to brokerage firms each year. That would easily put them in the top echelon of broker spending. It's said that Galleon would use this dominant client position to then garner handfuls of shares of upcoming IPO's, where apparently a lot of their profits came from. And reports suggest that Galleon tried to use their status to bully information out of people so they could benefit. To Galleon's credit though, they were also very research intensive and did plenty of due diligence. They just apparently wanted so much information that they crossed boundaries. Raj always liked to get an 'edge' on any given company.

While at first glance it appeared this might be a one-off insider trade, it is now becoming more clear that this sort of activity was much more frequent. As such, it calls into question their entire performance history. Thanks to the Pragmatic Capitalist, we see a table of Galleon's historical returns and the results are quite astonishing, which makes you wonder even more.

(click to enlarge)

(click to enlarge)

We'll continue to monitor the developments but this certainly has the potential to get more interesting as the digging gets deeper. If you've somehow missed out on this circus, check out the initial insider trading charges. And for those curious, we've posted up Galleon's September commentary and exposures sheet that they sent out to investors before the scandal emerged.

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