Saturday, December 13, 2008
Deutsche Trading Hit: $1 Billion
By SCOTT PATTERSON and GREGORY ZUCKERMAN One of Wall Street's best-regarded young traders sustained a $1 billion hit recently, as the corporate-bond-trading market has been upended by the credit crisis. Boaz Weinstein A Deutsche Bank AG team led by 35-year-old Boaz Weinstein had for months been using a "basis trade" that involved buying large amounts of corporate bonds, and at the same time hedging those bets by buying credit-default swaps, in essence insurance against a default on those bonds. Profits flowed, as the corporate bonds carried yields that were slightly higher than the cost of buying swaps protection. But in recent months, amid the credit-market upheaval, investors have fled from many corporate bonds. And because they are less liquid than credit-default swaps, or harder to trade, Deutsche's corporate-bond positions have dropped more in value than their CDS hedges gained, leading to the losses. "I don't think there's anybody around who expected the CDS-cash basis to widen out this much this fast," said Brian Yelvington, senior macrostrategist at research group CreditSights. A recent move by Deutsche to reduce borrowed money in its trading area also has added to the losses, by forcing traders to sell while the corporate-bond market has fallen, according to a person familiar with the bank. Mr. Weinstein's team was involved in other trading as well, including convertible bonds. Mr. Weinstein didn't respond to a request for comment. The losses represent a setback for what has been one of the more successful credit-trading desks on Wall Street in recent years. In November, Deutsche had said it planned to lay off 900 people, including employees in its structured-products and proprietary-trading desks. Other banks such as Morgan Stanley have said they are scaling back risk-taking businesses, too. The risk premium on highly rated corporate bonds has doubled since early September to historic highs of 6.5 percentage points over comparable Treasury bonds, according to Merrill Lynch & Co. Some market observers think the losses in the basis trades are likely to shrink when credit markets stabilize. Tim Backshall, a strategist at Credit Derivatives Research in Walnut Creek, Calif., said he has been telling clients that the trades represent an opportunity. Though the German bank has recorded gains in other trading areas this year, recent troubles in the corporate-bond market have made it more difficult for Deutsche to dig out from the losses, according to a person familiar with the matter. The news of losses was previously reported by Bloomberg News. The trades that hurt Deutsche are similar to ones that led to losses at Chicago hedge fund Citadel Investment Group LLC, which was down almost 50% this year in its two largest funds through early December. Losses on the trades for Citadel have slowed in December, said a person familiar with the matter. Mr. Weinstein joined Deutsche in 1998 to trade credit derivatives and soon started trading credit-default swaps, which were relatively new at the time. His skill at trading the instruments, and in discovering hidden pockets of value in the market, put Mr. Weinstein on the fast track at Deutsche. He was an innovator of a strategy known as capital-structure arbitrage, which exploits discrepancies between the price of a company's bond and its stock, and often uses credit-default swaps. As the CDS market expanded into one of the largest in the world, so did Mr. Weinstein's cachet at the bank. In February 2008, he was appointed co-head of global credit trading at Deutsche along with Colin Fan.