Morgan Stanley has, perhaps reluctantly, cut its ownership of FrontPoint Partners LLC, the $7 billion hedge fund that shorted the subprime mortgage bubble. FPP will now have a majority stake in its own firm. The move comes as Washington regulators have tightened their scrutiny of Wall Street as a result of the new Dodd-Frank Act.
The deal, due before the end of the year, will see FPP portfolio managers and senior managers take majority control. Among these FPP managers are co-Chief Executives Daniel Waters and Michael Kelly.
While Morgan Stanley Investment Management will retain an equity stake in FPP, the stake — purchased hedge-fund market was at its zenith – will be reduced to between 20% and 25%.
“It is challenging for institutions like us, for lots of reasons, including conflicts, to fully own 100% of hedge funds,” was how Morgan Stanley Chief Executive James Gorman tried to put a brave face on the deal. Banks like MS are now restricted by Dodd-Frank from deploying their own capital in hedge funds and other proprietary trading operations.
Gorman said the bank has $300 million in seed capital in FrontPoint, which it aims to “repatriate over a relatively short period of time.”
Talks of lowering Morgan Stanley’s stake in FrontPoint went on for months, when regulators started discussions on curbing banks’ investment with their own capital. Regulators hoped to avoid a repeat of what happened to Bear Stearns, whose hedge funds suffered huge losses. Bear Stears, near collapse, was eventually acquired by J.P. Morgan Chase & Co.
FrontPoint, founded in 2000, had 219 employees as of Sept. 30, including 119 investment professionals.
While the firm was extremely profitable in 2007, it wasn’t in 2008 and assets under management suffered.
The firm has attracted $1 billion in new assets so far this year. Though its current assets of $7 billion are below the $10 billion it managed at its peak, they exceed the $5.5 billion managed when it was purchased by Morgan Stanley in 2006.