Sherr's One William Street Leads New Hedge Fund Rush

Sherr's One William Street Leads New Hedge Fund Rush

March 20 (Bloomberg) -- David Sherr, a former Lehman Brothers Holdings Inc. executive, is opening a New York-based hedge fund to trade today's most toxic investments: mortgage bonds and asset-backed securities.

Sherr, a 21-year Lehman veteran who most recently ran the firm's securitization group, is starting One William Street Capital Management LP after Peloton Partners LLP and Sailfish Capital Partners LLC collapsed because of losses in the credit markets. With the Standard & Poor's 500 Index down 11.6 percent in 2008, Treasury yields at five-year lows and Wall Street firms cutting more than 15,000 jobs, it's a good time for managers with a clean slate to raise money, according to industry executives.

``The timing is great because the market dislocations create opportunities and have shaken out a lot of very good talent,'' said Patric de Gentile-Williams, chief operating officer of FRM Capital Advisors Ltd., a London-based firm that seeds hedge funds. ``Some guys on Wall Street prop desks who feel like their capital has been cut are looking at making the leap to setting up their own business.''

Sherr, 44, expects to start by June with more than $1 billion, including backing from his former employer, said people with knowledge of his plans, who declined to be identified because fundraising hasn't been completed.

In all, at least 10 funds with $1 billion or more will open globally by the end of the third quarter, said brokers involved in attracting investors for the new offerings.

`Critical Mass'

That's almost double the number in all of 2007, when six managers raised a combined $13 billion, according to data compiled by New York-based Morgan Stanley, Wall Street's largest prime broker. This year may tie or surpass 2005, when 13 funds raised a combined $19 billion.

``The fact that a large number of high-profile startups are taking strategic capital on day one to gain critical mass and build institutional infrastructure is an indication of the maturing of the industry,'' said Vineet Kapur, managing director and head of U.S. capital introductions at Morgan Stanley's prime-brokerage unit.

About 22 percent of the 1,023 institutional investors and pension funds surveyed last year by Greenwich, Connecticut-based consulting firm Greenwich Associates said they planned to increase hedge-fund investments by 2009.

At the end of last year, there were about 3,500 firms worldwide that collectively managed 10,000 funds with $1.9 trillion of assets, according to data compiled by Chicago- based Hedge Fund Research Inc.

Stemerman, Finemore

All the managers in this year's crop of billion-dollar startups came out of investment banks or established hedge funds. They include 39-year-old David Stemerman, who left Stephen Mandel's Lone Pine Capital LLC to start Greenwich, Connecticut-based Conatus Capital Management LP in January with about $2 billion of assets.

Shane Finemore, former head of equities proprietary trading at Zurich-based UBS AG, also is planning to start a fund, said three people with knowledge of his decision.

Sherr, Stemerman and Finemore declined to comment.

Hedge funds are mostly private pools of capital whose managers participate substantially in the profits from their speculation on whether the price of assets will rise or fall. Firms usually charge a management fee equal to 2 percent of assets, meaning a fund with $1 billion would earn $20 million. They also take a performance fee that's generally 20 percent of any investment gains.

Starting a hedge fund requires capital for offices, computers, staff, brokers, accountants and lawyers. And it can take as long as a year to line up investors.

Cash Infusions

Most of this year's startups have gotten cash from banks and securities firms, including New York-based Lehman, the fourth-largest U.S. securities firm, and Charlotte, North Carolina-based Bank of America Corp., the biggest U.S. bank by market value.

Some fund managers, including Sherr and Ian Banwell, have opted to give their seed investors a stake in their management companies in exchange for a large amount of cash to manage. In some instances, the investors agree not to pull their money for several years.

``Having a strategic investor gives the new funds some permanent capital, and it gives the banks the opportunity to get in on the ground floor,'' said Larry Chiarello, director of research at Red Bank, New Jersey-based Riverview Alternative Investment Advisors LLC, which invests in hedge funds.

`Gives Us Comfort'

Banwell, former chief investment officer at Bank of America, sold a minority stake in Round Table Investment Management to his former employer. He started the fund in January with about $1 billion from investors, including Bank of America and the endowment of Harvard University in Cambridge, Massachusetts.

``A former employer investing in a fund always gives us comfort,'' said Stewart Massey, founding partner of Massey & Quick, an investment consultant to wealthy individuals, endowments and foundations based in Morristown, New Jersey.

While some funds have reported spectacular blow-ups this year, the average hedge fund declined less than 0.5 percent in the first two months of 2008, according to Hedge Fund Research. That compared with the 9 percent drop of the Standard & Poor's 500 Index and the 1.86 percent gain of Lehman's Aggregate Bond Index.

Harbinger, Paulson

Philip Falcone's Harbinger Capital Partners Offshore fund rose 12.6 percent through March 7, and John Paulson's Paulson Advantage Ltd. climbed 9.8 percent. Paulson's firm runs about $32 billion in all. Both funds are event funds, which make money trading securities of companies going through corporate changes such as mergers or spinoffs.

Funds run by Falcone and Paulson were among those that profited from the collapse of Bear Stearns Cos., the Wall Street Journal reported earlier today, citing regulatory filings and people with knowledge of the matter. Falcone's firm was betting shares of the fifth-largest securities firm would decline from mid-2007 through March 17, the Journal said. Bear Stearns fell to $5 from $150 in New York trading during the period.

Being in the right strategy, where money is being made, has helped some of the newcomers, Massey said.

``Strategies that are working, such as long-short equity, will attract a lot of money this year,'' he said.

For Sherr, whose One William Street fund is named after the address of Lehman's erstwhile headquarters, will try to profit by buying mortgages, credit-default swaps and other asset-backed securities, which are selling at bargain prices after having caused major losses at investment banks and some hedge funds.

``Volatility in the markets creates opportunity, and people who are interested in running their own funds get inspired by those opportunities and it sparks their entrepreneurial spirit,'' said Elizabeth Flisser, president of Capital Z Investment Partners, a New York-based firm that seeds funds.

BLOOMBERG