Amaranth Advisors

Amaranth Advisors LLC was created in 2000 as a multi-strategy hedge fund with nigh $600 million in capital. It sought to employ a diverse group of arbitrage trading strategies particularly featuring convertible bonds, mergers and utilities. In 2002, Amaranth added energy good trading to its slate of strategies with JP Morgan Chase clearing Amaranths commodity trades. A multi-strategy fund runs several different strategies in-ho physical exertion that contribute to the total performance of the fund.A single-strategy fund concentrates the square portfolio on one strategy. Amaranth was long natural squander futures. They enjoyed huge profits from natural hired gun futures and resource trades in 2005 and early 2006. Brian Hunter utilise borrowed money to double-down on his bets. Buying more futures contracts of this same lovable supported their price by increasing demand, which then increase the price gains. It seemed that Brian Hunter was acting on his own entity and that ther e was little to no communication between the star trader and the management team. flush though the firm emphasized that its fund was multi-strategy, most of the recent losses were driven by unbecoming natural gas trades. Prior to this debacle, most investors who viewed reports from this firm saw no reason to worry about its performance although some privy to their portfolio positions expressed concern. Amaranths misfortunes were solely a result of poor take chances management. Also, even though the firm lost over $6 billion in a social function of days, the losses had minimal impact in the industry as a whole.The hearings on natural gas speculation by the permanent subcommittee on investigations of the Senate Committee on Homeland Security and Governmental affairs clearly demonstrate that the Amaranth debacle could have been easily avoided had ICE like NYMEX had the ability to limit Amaranth positions. In 2006, NYMEX examined Amaranths positions and calculated that Amaranth held about 51% of the open interest in the September natural gas futures contract which would expire at the end of the month. NYMEX determined that this was too large and on August 8 NYMEX compliance officials notified Amaranth of their concerns.During a follow up notification on August 9 NYMEX further notified Amaranth that they should not reduce September positions simply by shifting those positions to the October contract. Amaranth complied with NYMEXs directions and subsequently reduced its September and October positions. However, at the same time Amaranth increased its positions in September and October in ICE contracts and as a results increased their overall positions in natural gas. The events that followed in late August and September led to huge losses with Amaranth losing signifi slewt value.The losses were created due to overconfidence, lack of transparency, and lack of risk management. Amaranth enjoyed huge profits and thought prices would moreover keep rising. There was no communication between Hunter and the management team. Also, investors had no knowledge that the mass of the portfolio was invested in natural gas positions. Leverage played a huge role in the losses. A hedge fund will typically borrow money, with certain funds borrowing sums many propagation greater than the initial investment.If a hedge fund has borrowed $9 for every $1 received from investors, a loss of only 10% of the value of the investments of the hedge fund will wipe out one C% of the value of the investors stake in the fund, once the creditors have called in their loans. Risk management at Amaranth failed in August and September of 2006, resulting in the massive loss of over $5 billion in about a week. In the commodities markets only 10 percent was required as collateral for margin calls. Amaranth could besides borrow at up to eight times assets to achieve massive amounts of leverage.Amaranths systems didnt step forward to measure correctly how much risk it faced and what steps would limit losses effectively. The risk models use historic data but the natural gas markets were more volatile in 2006, which made models useless. Amaranth used spread trades in natural gas futures and options markets to hedge their bets and control risk. Still, these spreads can widen and losses can increase. Going forward, appropriate due diligence should be done by the management team to conduct sure this does not happen again. Amaranth could have also protected with better downside protection such as put options.