LONDON The collapse of FX Concepts, once the world's biggest currency hedge fund, is symptomatic of the dramatic decline in a once-profitable sector that faces another tough year in 2014 at the mercy of central bank policy.
U.S.-based FX Concepts once managed more than $14 billion, but a combination of increasingly difficult market conditions and self-inflicted wounds killed it off earlier this year.
If that fate can befall the king of the jungle, the smaller beasts will be reminded of their own mortality.
The compression of interest rates across the developed world to virtually zero has wiped out the so-called "carry trade", where investors borrow a low-yielding currency and sell it to buy a higher-yielding one.
And many central banks, as part of their crisis-fighting and growth-boosting armory, have explicitly or implicitly tried to weaken their currencies, which has led to fewer well-defined long-term trends in currency markets, a trade that many computer-driven funds specialize in.
The result has been a slump in total assets run by quantitative currency funds, from around $35 billion at the start of 2008 to approximately $6 billion this year, according to the Bank for International Settlements.
"It's been tricky. The problem is carry and momentum - neither strategy is working well. They've done quite poorly," said a London-based macro hedge fund manager.
"The challenge is to make sure you make money on your good trades and not lose too much on the bad trades. You let the good 50 run and try to limit the losses on the bad 50," he said.
This year has proved particularly troublesome. Many managers were too bullish on the dollar, expecting the Federal Reserve's tapering of its bond-buying in September rather than December. And some were caught out by the rise in sterling and the euro.
Already a number of funds have closed or suffered losses.
Brevan Howard, one of the world's biggest hedge fund firms, recently closed its currency fund, which held around $1 billion last year. The fund fell 2.3 percent last year and 6.4 percent this year to end-October.
The Ortus fund, which is run out of Hong Kong and tries to make money from cycles in global currencies, is down 15.6 percent this year, having lost 17.3 percent last year.
Having made money every year between 1997 and 2008, UK-based manager C-View has seen its Currency Managed Account Programme lose money in each of the past three calendar years.
"Major currencies have been pretty difficult to generate returns in," said CIO Paul Chappell, adding that the euro had been stronger than he had expected. However, he said the firm's Emerging and Minor Currency programme had performed better.
London-based firm The Cambridge Strategy saw its Extended Markets Currency Alpha lose 10.8 percent this year to November 22.
"Currency funds will become profitable again when economic trends become more important and the interventions of central banks become less important," said Jan Viebig, chief executive of Harcourt Investment Consulting.
"Almost all hedge funds have reduced the size of their positions in currencies. Typically, funds that had 7 percent of their risk in currencies now have 3.5 percent, while funds that had 14 percent have now reduced that to 7-8 percent," he said.
NUMBERS DON'T ADD UP
According to the Newedge Trend Indicator - a model portfolio that replicates the trades managed futures funds might make - bets this year on the euro, Swiss franc, Australian and New Zealand dollars were loss-making trades.
Trends in the yen, the Canadian dollar and sterling have been strong enough to generate returns.
Since the onslaught of the credit crisis, currency funds have not proved popular with investors. They've posted net outflows every calendar year since 2008 with the exception of 2010, according to data group Hedge Fund Research.
And while five years ago systematic currency funds accounted for 11.4 percent of the macro hedge fund universe by assets, by the third quarter of 2013 this had shrunk to just 2.7 percent.
The average macro currency fund is up just 3.7 percent from the start of 2005 until the end of September this year, according to HFR. The S&P 500 has gained 40 percent over the same period despite the dramatic plunge of more than 50 percent from the then-peak in October 2007 to the March 2009 low.
So the trading environment for currency hedge funds is tough. But what lessons can be drawn from FX Concepts?
Management complacency, a failure to adapt to rapid industry and technological changes and simply wrong-headed bets were the cause of its undoing, said a source with close knowledge of the fund.
FX Concepts' management team also failed to adapt quickly enough to changing market conditions; "mission drift" over a number of years rather than too much leverage, the source said.
"It was never doubling, tripling or quadrupling up," he said, referring to how much a fund would borrow to invest, much as a housebuyer funds a mortgage.
The "final straw", according to a Chapter 11 bankruptcy court filing in New York, came in September this year when the San Francisco Employee Retirement System said it was redeeming its investment - 66 percent of FX Concepts' remaining assets.
FX Concepts had been a going concern for over 30 years. The lifespan of most funds is somewhere in the mid-single digits.
"The hedge fund world is no place for old men," said the source familiar with the fund.
(Graphics by Vincent Flasseur; Editing by Will Waterman)