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Volkswagen bet runs down SAC

Legendary trading honcho Steve Cohen's fund is among those laid low by a short bet gone wrong.

By Roddy Boyd, writer
Last Updated: November 10, 2008: 4:56 PM ET

NEW YORK (Fortune) -- As the lights fade across the hedge fund universe, SAC Capital Advisors had been one of the few funds unbowed by the rout that has forced countless rivals to close or suspend redemptions.

But now, some wrong-way bets at SAC - notably on the disastrous Volkswagen-Porsche trade that hammered many hedge funds last month - are forcing fund founder and general partner Steve Cohen to dismiss staff in the wake of double-digit losses.

While Cohen has hardly been shy about reducing his exposure to equity markets and "going to cash," SAC - with $16 billion in assets - was still whipsawed in October's ugly markets, booking an 11% loss for the month and 18% for the year to date.

For a man whose fund's performance has reliably averaged between 20% and 30% for north of a decade - and whose bonuses frequently are measured around the billion dollar mark - this is surely a bitter pill for both Cohen and SAC.

To be fair, being down under 20% is, according to trading desk wags, "the new up" with respect to performance. And in the hedge-fund heavy Greenwich- Stamford, Conn., corridor, being down only 12% is likely the object of dreams when losses of between 20% and 40% have become the norm.

Nonetheless, a series of large positions went south in October rather spectacularly for CR Intrinsic Investors, one of SAC's four primary portfolios, leading to some sharp losses. Last week, Cohen dismissed the team of seven portfolio managers and analysts who were said to manage a total of $2 billion of assets, including Cohen's own money.

A fund insider confirmed the moves and told Fortune that while CR Intrinsic is staying open, there is some "reorganization" under way.

One of the CR Intrinsic team's key positions was a bet that shares in Volkswagen, the German auto-maker, would continue to decline in value as the credit crisis forced consumers to the sidelines.

Unfortunately for SAC and numerous other hedge funds making that assumption, just the opposite ended up happening. Volkswagen shares spiked last month after Porsche, a small luxury carmaker that has for several years held a sizable stake in its much bigger rival, stunned the market by saying it had a huge option position in VW and aimed to take a majority stake.

The effect was that Porsche - abetted by lax regulatory filing requirements in Germany - stealthily engineered a so-called short squeeze, in which Porsche's stock purchases forced VW's stock price sharply higher. Short-sellers, newly acquainted with Porsche's intent to buy most of VW, rushed to buy back stock at massively inflated prices, locking in huge losses for many funds.

At one point early last week, the short-sellers' frenzy to buy back stock - and rival traders' quest to bid it higher - drove VW's stock price to nearly $1,300, making the automaker briefly the most valuable company in the world.

Of course, the VW wreck wasn't SAC's only problem. Bets on Orient-Express Hotels (OEH), Atlas Pipeline Partners (APL) and Alliance Data Systems (ADS) also did not work out, forcing SAC to take the trades off at a loss. To top of page

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