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Traynor Ridge Capital: A Lesson In Mismanagement And Overconfidence


The Canadian hedge fund industry is reeling from a shocking scandal involving Traynor Ridge Capital, a Toronto-based fund that specialises in arbitrage strategies. The hedge fund was barred from trading by the Ontario Securities Commission (OSC) on October 30 after it reportedly caused massive losses for its prime brokers.

The OSC said in a filing that the fund appears to be in “serious financial difficulty and may be capital deficient” after making a series of failed trades in the week of October 23 that resulted in “potential losses of $85-$95 million” for three dealers, including CIBC World Markets. The losses were incurred because Traynor Ridge failed to settle its trades with the dealers, despite several requests to do so.

The filing was published shortly after Christopher Callahan, the fund’s Founder, Principal, sole shareholder and Chief Compliance Officer (CCO), was reported dead to OSC by his lawyer on October 28. Callahan was a young and successful trader who had built a reputation for his arbitrage skills.

Callahan’s sudden demise amid mounting financial troubles at his firm has sparked rumors that he took his own life. However, the Toronto Police Service stated that Callahan’s death is not suspicious in nature and that they are not investigating the matter further. This has nevertheless not deterred people from speculating about the reasons for the fund’s losses and whether its creditors will be able to get their money back, since there is no one else left to manage the fund’s affairs.

Cannabis Stocks Burn Hole In Portfolio

It’s not just Traynor Ridge’s brokers who could incur losses due to the firm’s costly misadventures in the financial markets. The fund’s investors could also be wiped out given the extent of the firm’s liabilities to its dealers, who have had to bear losses potentially totaling $85 million – $95 million. According to Bloomberg, the fund peaked at about C$125 million in assets under management, with its flagship TR1 Fund having about C$95 million in assets under management as of September 30. It’s unclear how much of this can be recovered as the fund suffered three straight down months from May through July and was down 3.2% for the year to September.

Things got worse in October after a bet on risky assets, including several thinly traded cannabis stocks, ended up burning a hole in the firm’s portfolio. Traynor Ridge’s portfolio included stakes in three cannabis firms — Curaleaf Holdings Inc., Cresco Labs Inc., and Cannabist Company Holdings Inc. — and a small energy exploration company named Trillion Energy International Inc. The fund also traded convertible bonds and preferred shares in relatively illiquid companies, sources familiar with its strategy said.

In the weeks leading to the Traynor Ridge’s collapse, the firm made dozens of “failed trades,” according to a lawsuit filed by Virtu, a market-making firm that has been doing business with the fund since its inception. Cannabist shares plunged 48% in Toronto over four trading sessions beginning Oct. 24, while Curaleaf and Cresco each dropped more than 20%. Virtu said in the court filing that it has so far lost more than C$5 million in resolving Traynor’s failed trades and that it expects that number to rise. “Traynor Ridge was a client of Virtu. We are working with our client and regulators to help resolve the misconduct that took place at Traynor,” Andrew Smith, a spokesperson at Virtu, said, clarifying that “our exposure was not material.”

The majority of the investors who are trapped in Callahan’s fund are clients of Westcourt Capital Corp., a Toronto-based firm that specialises in offering alternative investments to high-net-worth individuals. David Kaufman, the founder, chair and co-CEO of Westcourt, noted that his clients accounted for most of the fund’s assets under management. Westcourt’s clients typically have more than C$10 million in assets.

William Chyz, a former Westcourt executive who joined Callahan’s team in 2021, played a crucial role in Traynor Ridge’s fundraising campaign with Westcourt. He leveraged his insider knowledge of Westcourt’s clientele to target potential investors and persuade them to entrust their capital with Traynor Ridge. His LinkedIn profile shows that he worked at Westcourt for nearly a decade before switching sides. Chyz has successfully evaded the media since the scandal broke out, keeping a low profile amid heightened scrutiny of the fund and its dealings.

Pitfalls Of Overconfidence

According to a document from Bank of Montreal’s prime brokerage services desk, Traynor Ridge achieved impressive returns in its first two years of operations. Founded in mid-2019, the fund posted a 39.8% gain in 2020 and a 24.1% increase in 2021. Traynor handily outperformed the average hedge fund return of 11.6% in 2020 and 10.7% in 2021, according to data from Hedge Fund Research Inc. There is a possibility that the fund’s management got overconfident in the face of these terrific results and took on more risk than it could handle in the weeks leading to its eventual collapse.

The collapse of Traynor Ridge in a matter of weeks shows the wisdom of George Soros, a billionaire investor and philanthropist, who once said: “It’s not whether you’re right or wrong that’s important, but how much money you make when you’re right and how much you lose when you’re wrong.”

This quote aptly captures the danger of overconfidence and the importance of being rational and effective when investing. Overconfidence is a cognitive bias that makes people overestimate their own skills or the accuracy of their forecasts. Overconfident investors may take on too much risk or trade too often. They may also think that they can outsmart the market, leading them to put all their eggs in one basket rather than spreading their investments across different assets.

Cognitive biases are systematic errors in thinking that affect the decisions and judgments that people make when investing. Besides overconfidence, other common ones include confirmation bias, which is the tendency to seek out information that confirms one existing beliefs, and herd behavior, which is the tendency to follow what other investors are doing without sufficient forethought.

The collapse of Traynor Ridge has also exposed the dangers of poor governance and lack of due diligence in Canada’s hedge fund industry. The fund was run by a single person, who acted as both the Principal and the Chief Compliance Officer (CCO) of the fund. This created a conflict of interest and a lack of accountability, as the same person who was responsible for the fund’s strategy and performance was also in charge of ensuring compliance with laws and regulations. The fund also lacked a backup plan in case the Principal/CCO became unavailable or incapacitated. Investing in a hedge fund that does not have separate individuals for these key roles is risky and ill-advised. 

Investors who trusted Traynor Ridge Capital with their money should have been more careful and vigilant about the fund’s governance structure and practices. The fact that the company had a skeletal staff structure with only three employees, only one of whom is a director and shareholder, was a glaring red flag that investors shouldn’t have missed. The Traynor Ridge Capital scandal is one of the worst cases of hedge fund failure and mismanagement in Canadian history, and it calls for more scrutiny and regulation of the sector. It is also a cautionary tale of the dangers of overconfidence in investing, lest it be forgotten that the market giveth and the market taketh away.

Author: Acutel

We are global investors who invest in good companies at fair valuation and speculate on all else subject to the risk exposure we can afford.

The editorial team at #DisruptionBanking has taken all precautions to ensure that no persons or organisations have been adversely affected or offered any sort of financial advice in this article. This article is most definitely not financial advice.

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