The Polygon Convertible Opportunity Fund, managed by seasoned
convertible bond specialist Mike Humphries at $12 billion
London-based asset manager Polygon Global Partners, has good
reason to celebrate its fifth anniversary - having notched up a
remarkable track record of high performance in an asset class
that has been largely eschewed by investors since the financial
When the fund was launched five years ago, Humphries and
Polygon were responding to what had been a massive withdrawal
of capital from the convertibles asset class in 2008, during a
period of severe deleveraging and a sharp contraction in market
liquidity as bank prop desks and many hedge funds retreated
from the space.
The Polygon Convertible Opportunity Fund differs from many
of the more traditional hedge fund players in the CB space, as
it does not focus solely on straightforward arbitrage plays -
instead taking more of a multi-strategy approach to investing
in the asset class, drawing on detailed fundamental research
and employing a variety of different investment styles.
Humphries' approach has proved successful from the off:
launching in May 2009, the fund made an impressive 41% in the
remaining months of that year, followed by 25% in 2010, 11% in
2011, and 11.5% in 2012. In 2013 the strategy's return of
9.15%, combined with an exceptional Sharpe ratio of more than
8, resulted in a comfortable win in the Convertibles &
Volatility category at the annual EuroHedge Awards - the fund's
second victory after taking home the same award in 2011.
Since launch and to the end of May this year, the fund has
produced a compound return of 162.32%, annualising at 20.89%
with a Sharpe of 2.64. The fund is up 10.29% year-to-date,
compared with 2.65% for the EuroHedge Convertible & Equity
Humphries was already a highly experienced convertible bond
trader when he joined Polygon in 2009. Having started his
career in 1993 as a research analyst with James Capel in
Toronto, he moved to Goldman Sachs a year later to begin an
eight-year stint with the firm - initially as an investment
banking analyst and later as a convertibles portfolio manager
and trader, first in New York and later in London.
From 2002 until 2005, Humphries was the portfolio manager
for European and Asian converts, special situations and credit
at Sagamore Hill, and was also responsible for establishing and
managing the US-headquartered firm's European office.
Upon leaving that firm, he co-founded multi-strategy hedge
fund boutique MKM Longboat, which amassed $2.5 billion with its
flagship fund and performed well in its first two years of
trading, but opted to close down the strategy in 2008 amid the
Lehman Brothers collapse and a wave of redemptions.
Humphries has seen significant changes to the convertible
bond market ever since he first began analysing, and later
trading, the asset class during his days at Goldman.
"The opportunity set, like most things hedge funds have
touched, has evolved significantly since then," he says. "In
those days, there were only a handful of prop desks and hedge
funds involved, and the options market was not particularly
liquid. There was very little freely traded credit with which
to benchmark the quality of the issuer."
In the intervening years, the converts market has grown
substantially, both in size and complexity. "There are a lot
more credit instruments including, most importantly, credit
default swaps," he says. "For me, the evolution of the CDS
product was the one thing that changed the market most
dramatically. It outsourced credit research to a broader
audience and allowed for far greater transparency on the
creditworthiness of issuers."
Following nearly a decade of compelling returns and growth
among the prop desk and hedge fund players in the space, from
2002 onwards the market traded far closer to fair value - with
CB arbitrage funds producing lower returns and running cyclical
to flows in the asset class.
By the time Humphries launched his Convertible Opportunity
Fund at Polygon in May 2009, the fall-out from the financial
crisis meant that the market for convertible bonds had shrunk
dramatically, with bank prop desks virtually absent from the
market and many hedge fund players having been wiped out.
"Before 2008 there were dozens of convert-arb hedge funds,
but now there aren't many of a meaningful size," he says.
"Long-only funds are now the majority of the market and there
have been significant inflows into the space, but really only
to long-only vehicles."
Investors had been burned by their converts exposures, and
were in no hurry to repeat the mistake. "People had been sold
convert funds as a long-volatility strategy, but it was
probably the worst performing strategy in 2008," says
Humphries. "Investors didn't get what they thought they were
In such an environment, the decision to launch a new hedge
fund focused on convertible bonds must have seemed contrarian
to say the least. But Humphries was not developing a straight
convert-arb strategy; instead, he had plans for a fund that
would apply distressed, event-driven and long/short portfolio
management techniques to a concentrated, high-conviction
portfolio of convertible bond exposures.
"Pre-Polygon, I had been involved in equity, event-driven
and more diverse credit strategies - so I could see there were
other places to make money," he says. "Converts can be an
interesting opportunity to express a fundamental view on a
company, or an event view. In a sense, this is almost a
multi-strategy fund that's focused on converts."
He adds: "With equity investing, the product is very simple
but different managers approach it from very different angles:
you have bottom-up stock-pickers, quant strategies,
event-driven and so on. In a more complicated product like
converts, you have all that complexity and what does everybody
do? Primarily the same thing: arbitrage."
With the Polygon Convertible Opportunity Fund, Humphries and
his team manage a market-neutral portfolio of significantly
mispriced securities. They focus on situations in which they
believe mispricing to be most prevalent, and on events that
coincide with the largest moves in valuations.
Attractive mispricing opportunities include poorly
understood companies, often where the convertible is the only
credit instrument in the capital structure; more complex or
non-uniform securities where specific features are poorly
understood or modelled; name-specific technical supply/demand
imbalances, which are generally driven by long-only investor
behaviour or by the liquidation of hedge funds or prop desks;
extreme market dislocations resulting in a large number of
cheap names; and new issuance, where the opportunity comes
either through a discount at issue or from the novelty of the
instrument or issuer.
Event-driven opportunities might include bond
restructurings, tenders and equitisations; event-specific
re-pricing of one or more pieces of the capital structure;
credit re-pricing on improved transparency; company-specific
events leading to changes in expected volatility; and events
leading to significant moves in the underlying equity.
The fund expresses its views on the opportunity set via a
high-conviction portfolio of heavily researched strategies,
which are typically catalyst-driven and have low correlation to
each other and to the market.
"Most of our competitors manage very diversified portfolios;
we have a highly concentrated portfolio, especially for the
converts space," says Humphries, adding that 40-50% of the
fund's total risk exposure is typically tied up in the largest
10 positions. "If the book isn't concentrated, you're just
another CB guy who doesn't have that much conviction in what
he's doing," he reasons.
The lack of correlation within the portfolio plays a
significant role in the fund's risk management process. "Our
underlying investments are quite different, one from the next,"
says Humphries. "When you have a book of things that aren't
correlated to each other - trades that don't look the same as
each other and are dependent on different catalysts - that
makes a big difference from a hedging perspective. Our risk
management from the portfolio side is partly about having as
uncorrelated a portfolio as we can."
Humphries' desire to invest in a different way from that of
his competitors in the convertible bond space has led him to
assemble a diverse team. "We don't hire a lot of convert guys;
they tend to be generalists, and I want specialists," he says.
"For example, we'd rather have a distressed specialist on the
team than a convert guy who has done distressed."
The seven-strong Convertible Opportunity team includes
former colleagues from Humphries' days at MKM Longboat and
Sagamore Hill, and the team also draws on time spent at Natixis
Capital, Deutsche Bank, Carrhae Capital and Sandell Asset
Management, among others.
"We've tried, a bit like a multi-strat, to accumulate
discrete talent in various areas to ensure there are different
things for us to do in the converts space - and different
opportunities to exploit - at different times in the cycle,"
By building a team of specialist investors, Humphries has by
definition narrowed his fund's potential investment universe,
and this is something he views as an advantage rather than a
hindrance. "We'd rather know a lot about a narrow part of the
universe and not touch the remainder, than be generalists
covering everything but not as thoroughly," he reasons.
His previous firm, MKM Longboat, had a heavy focus on the
resources sector, and Humphries has continued to pursue this
specialisation via Polygon Convertible Opportunity - playing
events in the mining, metals, industrials and oil services
sectors via convertible bond exposures. "We really understand
those sectors, so when we dig down into those names we don't
think anyone else in the convert universe can be as thorough as
we are," he says.
"Raising money in 2009 for a new hedge fund wasn't easy,"
recalls Humphries. "Converts had pretty much destroyed itself
and had a bad name; people didn't even want to take a meeting
with you. So we decided just to get off the ground and not
focus on marketing."
Looking back over his fund's five-year track record,
Humphries acknowledges that the strategy launched at a good
time. "As a converts manager, if you didn't make money in 2009
and 2010, you had some serious problems," he says. "We had some
early investors, but when we got into choppier waters, from
2010/11 onwards, our performance bore out that what we were
saying we were doing differently, we actually were. And people
decided to take an interest."
Family offices account for a large proportion of the fund's
AUM, while more recent allocators have included larger
institutional clients such as pension funds, endowments and
Polygon Convertible Opportunity soft-closed in February
2013, when it managed $300 million. It is now running $366
million, and the firm is planning a hard close at $400 million.
This leaves the strategy with a buffer to allow for performance
growth, as Humphries estimates the actual capacity at somewhere
closer to $600 million.
"We want to stay true to what we're doing," he says of the
decision to limit inflows. "We want to be nimble, concentrated,
and able to invest in even smaller or more off-the-run