The hedge fund that won big from the credit crisis

Click to follow
The Independent Online

Paulson & Co, the hedge fund at the centre of the Goldman Sachs fraud allegations, is no stranger to controversy. The New York-based vehicle, run by its founder John Paulson, was one of the most prominent short-sellers of British banks, including Barclays, Royal Bank of Scotland and Lloyds TSB, at the height of the financial crisis in September 2008.

Mr Paulson was the fourth-best paid hedge fund manager in the world last year, according to Absolute Return magazine, and picked up a cool $2.3bn. However, that astonishing pay packet was only two-thirds of what Mr Paulson, pictured, earned in his best ever year: in 2007, his rewards came in at $3.7bn.

That reflected the hugely profitable bets Paulson & Co made that year against the US housing market, specifically the gamble the hedge fund took that the now-infamous market in collateralised debt obligations (CDOs) would collapse.

Mr Paulson's prescience in foreseeing that collapse (he was one of a tiny number of hedge fund managers to bet the US subprime housing market would implode) has won him huge admiration in the investment community, with the gamble widely regarded as one of the most successful set of trades of all time.

However, while there is no suggestion that Paulson & Co itself broke any rules in its dealings with Goldman Sachs, the charges filed against the investment bank yesterday by the SEC will embarrass the fund.

In effect, the US regulator is claiming that part of the successful run Paulson & Co enjoyed during 2007 was effectively a bet on a sure thing. Its contract with Goldman enabled it to pick a group of mortgage-backed investments it expected to fall in value – these were then sold to Goldman's clients while Paulson & Co bet that their price would fall.

It was a successful strategy. The SEC said that six months after the deal was closed, 83 per cent of the investments had been downgraded, and the figure reached 99 per cent within 10 months.