February 22 2008: 2:32 PM EST
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Top hedge funds implode

D.B. Zwirn & Co. says it will stay in business after shuttering two funds that make up the bulk of its assets.

By Roddy Boyd, writer

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NEW YORK (Fortune) -- A money management shop whose stratospheric growth propelled it to the ranks of the financial elite is closing its two biggest hedge funds after investors demanded $2 billion of their money back.

In a letter to investors late Thursday, D.B. Zwirn & Co. said it would shut its $4 billion Special Opportunities Fund, leaving the New York-based firm with about $1 billion in assets. Daniel Zwirn, the company's founder and general partner, insisted the firm would be remain open, according to published reports Friday.

The funds' demise appears to have little to do with current market volatility. Instead, investors were spooked by a scandal involving a former senior executive at the firm. The fund disclosed last year that Perry Gruss, its former chief financial officer, had improperly transferred client capital between funds in addition to misallocating $12.2 million in expenses to investors. In one instance, Daniel Zwirn's business travel in a Gulfstream G4 jet was charged to investors.

The fund paid full restitution to investors, including interest, and hired former Republican Senator Warren Rudman to help oversee its governance and regulatory compliance issues.

The moves did little to placate investors, who were already unnerved by an earlier mishap. In 2006, the firm hired David Becker, a former Citigroup commodities trading chief who had left the bank following a $20 million portfolio valuation scandal. Zwirn claims it was unaware of Becker's role in the scandal and fired him when it learned of it. Becker was sentenced last year to 15 months in prison.

The CFO scandal was likely the last straw for investors, who tend to be easily scared off by hedge fund impropriety given the long-term lockups their investments are subjected to.

The fund's shutdown, first reported in Friday's Financial Times, may take awhile. Its portfolio includes ill-liquid private equity investments, loans to private companies and credit derivatives that would be difficult to unwind even in a stable market. But given today's market volatility, valuing many of these private holdings is almost impossible.

A fund spokesman did not reply to repeated requests for a comment. To top of page

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