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Blue Flameout
How Giant Bets on Natural Gas
Sank Brash Hedge-Fund Trader
Up in August, Brian Hunter
Lost $5 Billion in a Week
As Market Turned on Him
A Low-Profile Life in
By ANN DAVIS
September 19, 2006
32-year-old Canadian named Brian Hunter made some of the brashest bets and the
fastest money.
Last week, he fell hard, proof of how quickly fortunes can reverse in gyrating
commodities markets.
Here in this bustling new energy frontier, Mr. Hunter headed the energy desk for
a
trading natural gas, he was up roughly $2 billion for the year. Then he lost
approximately $5 billion -- in about a week.
His losses savaged returns for Amaranth, dragging its assets under management
down to some $4.5 billion from $9 billion at the start of September. In
disclosing the losses to investors in a letter yesterday, the fund said it was
aggressively reducing its natural-gas bets, effectively cutting out the majority
of Mr. Hunter's operation. He remains at the fund. (Even as Amaranth was
losing, some gas traders were winning; see article.1)
What hurt Mr. Hunter is what he had ridden to glory for the past year or so:
volatility.
Though unknown in public, he had created a buzz on Wall Street -- a wunderkind
to some, a ticking bomb to others. From a cramped trading desk, he thrived on
big price swings, reaping billions of dollars on price declines and surges
alike. Late last week, he watched with growing alarm as natural-gas prices took
a steep dive, particularly in futures contracts for delivery of gas for this
coming winter. His losses mounted in after-hours trading this weekend.
"The cycles that play out in the oil market can take several years, whereas in
natural gas, cycles take several months," Mr. Hunter said in an interview late
in July, when his returns were looking rosy. "Every time you think you know what
these markets can do, something else happens."
At that time, Mr. Hunter had more than $3 billion of bets outstanding, investors
familiar with the funds' holdings say. Shortly thereafter, a heat wave caused
natural-gas prices to go haywire, then soar. Many traders took hits. One
energy-trading firm, MotherRock L.P. in
shop. The lanky Mr. Hunter, however, came out hundreds of million dollars ahead
in August, Amaranth investors says, and continued taking positions some other
traders had abandoned as too risky. He declined to be interviewed yesterday.
Big commodity players bypass the geopolitics of oil for the most-volatile major
commodity: natural gas. The blue-burning fuel heats 52% of
many power plants in peak air-conditioning season. It also is a raw material in
a variety of industries, from fertilizers to chemicals.
Unlike oil, gas can't readily be moved about the globe to fill local shortages
or relieve local surpluses. Forecasts of freezing
heat and hurricanes in summer can send prices jumping, while forecasts of mild
weather can do the opposite. Last December, amid a cold snap, gas soared to a
record $15.378 per million British thermal units on the New York Mercantile
Exchange, or Nymex. This month, prices fell below $5 in the absence of major
hurricanes and with forecasters talking about another warm winter. Yesterday,
gas for October delivery settled at $4.942 a million BTUs on the Nymex, off four
cents.
Backed by borrowed money and a deep-pocketed fund, Mr. Hunter took on more
exposure to certain futures contracts than do some big investment banks
employing more than 100 energy traders, say several traders and ex-colleagues.
He sometimes held open positions to buy or sell tens of billions of dollars of
commodities.
His wins and losses were outsized: He was up for the year roughly $2 billion by
April, scoring a return of 11% to 13% that months alone, say investors. Then he
lost nearly $1 billion in late May when prices of gas for delivery far in the
future suddenly collapsed, according to investors in the Amaranth fund. He won
back the $1 billion over the summer, only to lose that and much more last week.
The whiplash trading in these markets could work to the detriment of energy
consumers. Some consumer advocates, utilities and federal officials say
speculation in the energy markets accentuates the volatility of this staple fuel
and that the increased volatility, in itself, hurts consumers. Volatility makes
it harder for utilities and municipalities to determine the best time to buy
gas for their operations. Many utilities posted losses on gas purchases over the
past year that proved to be poorly timed. They passed on those costs to
electricity and heating customers, even as futures prices were dropping.
But while energy consumers have seen their bills rise, many traders' paychecks
have soared. Mr. Hunter is estimated to have taken home $75 million to $100
million last year.
Mr. Hunter's swift reversal calls into question how well some hedge funds grasp
the risk they are taking in the now-popular energy markets. Vince Kaminski, a
risk-management expert who protested chancy trades while at Enron Corp. and
until recently was at Citigroup Inc.'s commodities desk, said yesterday that
it's dangerous to take giant positions in relatively shallow markets, which
certain months are in gas futures. "This is a typical mistake of inexperienced
and aggressive traders," he said. Mr. Hunter "appeared to have a position that
the entire market knew about. The markets are very cruel." Citing a well-known
epigram, Mr. Kaminski added, "'The market may stay irrational longer than you
can stay solvent.'"
Nick Maounis, Amaranth's founder and chief executive, said in August that more
than a dozen members of his risk-management team served as a check on his star
gas trader. "What Brian is really, really good at is taking controlled and
measured risk," Mr. Maounis said.
When Mr. Hunter began trading natural gas eight years ago, it was far less
volatile, hovering under $2 a million BTUs. Mr. Hunter had grown up in farm
country near
rig in northern
in college, he poured himself into math at the
professor of his was a leader in the emerging field of financial modeling and
derivatives.
Mr. Hunter joined TransCanada, a
player in the growing business of trading energy, rather than simply
transporting it. The company would help customers like gas producers lock in
prices for some of the fuel it shipped for them.
Mr. Hunter, then 24, came armed with fresh theories about options pricing, and
impressed his bosses with his ability to spot price anomalies. They gave him
increasing amounts of money to trade with after early successes. Among them: He
convinced them that options in Canadian gas were underpriced as a pipeline from
"He helped us prove that mathematically...and it paid off hugely," says Shondell
Sabad, a former colleague there who now trades for a Calgary bank.
Traders like Mr. Hunter make complex wagers on gas at multiple points in the
future, betting, say, that it will be cheap in the summer if there is a lot of
supply, but expensive by a certain point in the winter. Mr. Hunter closely
watches how weather affects gas prices and whether conditions will lead to more,
or less, gas in a finite number of underground storage caverns. Roughly akin to
counting cards in bridge, a trader keeps track of how much gas is injected into
storage and how much might have been withdrawn for industrial and household
use.
Mr. Hunter moved to Wall Street to do the same work for more pay. He joined
Deutsche Bank's energy desk and gained a name trading
-- where his wide profit and loss swings provoked a stormy face-off with
superiors that ended in litigation.
In his first two years at the bank, Mr. Hunter generated $17 million in profit
in 2001 and $52 million in 2002, according to a complaint he later brought in
state court in
bonus and began supervising the gas desk.
In December 2003, just as his group was close to closing the year up $75
million, things went badly awry. In a single week, they had losses of $51.2
million, he said in his suit. He blamed "an unprecedented and unforeseeable
run-up in gas prices" along with "well-documented and widely known problems
with" Deutsche Bank's electronic-trade-monitoring and risk-management software,
which he said hurt traders' ability to extricate themselves from bad moves.
Deutsche Bank denied its systems were to blame.
Mr. Hunter argued that even though the desk as a whole lost money, he personally
made trades that netted the bank $40 million that year. He and his natural-gas
colleagues got no bonus. By February 2004, relations had soured to the point
that supervisors locked him out of the trading system and made him an analyst,
moving him off the desk. Mr. Hunter left in April and subsequently sued over the
withheld bonus and claimed Deutsche Bank defamed him. It denied the
allegations. The suit is pending.
Mr. Maounis, the head of Amaranth, took a chance on Mr. Hunter. Amaranth was one
of the first hedge funds to build an energy desk soon after the demise of
Enron, under the leadership of former Enron energy trader Harry Arora. Messrs.
Arora and Maounis hired Mr. Hunter and initially kept him on a tight leash. Mr.
Maounis says the firm knew of Mr. Hunter's history at Deutsche Bank but did
extensive checks and found "nothing that made us uncomfortable."
Mr. Arora was relatively conservative and sought to make diversified commodities
investments. He brought Mr. Hunter along and the energy group posted steady
returns of 30% to 40%, say people familiar with its operations.
Mr. Hunter wanted to make bigger bets in his main market, gas. He had an ability
to keep calm with huge bets on the line and markets were going berserk. In July
2005, for instance, he was in
gas market began moving erratically. Mr. Sabad, his former TransCanada
colleague, says Mr. Hunter got on the phone a few times but didn't panic or
trade from his hotel room. "He asks himself, 'Do I still like my position?' If
he does, he adds more," Mr. Sabad says.
Around that time, Amaranth agreed Messrs. Hunter and Arora could separate their
trading "books" and each control his own trades. Then late last year, the
double-whammy of Hurricanes Katrina and Rita made Mr. Hunter a hero at Amaranth
and a minor legend on Wall Street, as he made $1 billion for Amaranth.
Mr. Hunter trolls for what he calls "mispriced" options -- that is, the chance
to buy or sell something at a price that appears farfetched to the market but
that Mr. Hunter sees as a distinct possibility. Leading up to the hurricanes,
Mr. Hunter had built a complex portfolio of options, among other bets, based on
the idea that gas could get extremely expensive in the early fall. An option to
buy gas at, say, $12 cost very little in summer 2005 because gas was then
trading at only $7 to $9. When gas soared to $13 after hurricanes ravaged Gulf
of
soared in value.
His success was a rebuke to his ex-colleagues at Deutsche Bank, where lawyers
were wrangling with him over his request to take depositions from former
superiors, even as he was banking big trading profits. It also was hard for Mr.
Arora, still his boss but not the rainmaker. Mr. Arora eventually left to start
his own hedge fund.
It was vindication for Mr. Hunter. In its annual Christmas card, Amaranth
referred to its energy-market winnings by quoting Benjamin Franklin: "Energy and
persistence alter all things." It sent out toy antique gasoline pumps.
Amaranth agreed to let Mr. Hunter trade from his hometown of
began with the fund's blessings to build an even bigger portfolio. A world away
from
occasionally a Bentley, which he tells friends is better in snowy
winters. Besides the cars and a new house he is building in a wooded area, he
keeps a low profile. Some of his pick-up-basketball buddies don't even know what
he does. Though he consented to several interviews for this article, he
wouldn't allow a photo.
From his desk on a trading floor, Mr. Hunter monitored dozens of "instant
messaging" tabs from brokers and pored over weather screens. Six traders traded
were there on a recent day this summer, in a space crammed with boxes of KitKats
and Hershey bars, microwave popcorn and bags of running clothes. The only fancy
touch was a basketball signed by Michael Jordan encased in Lucite.
Bruno Stanziale, a former Deutsche Bank colleague now at Societe Generale, works
with energy companies that need to hedge, or sell forward, their production. In
an interview in July, he contended Mr. Hunter was helping the market function
better and gas producers to finance new exploration, such as by agreeing to buy
the rights to gas for delivery in 2012. "He's opened a market up and provided a
new level of liquidity to all players," Mr. Stanziale said.
Mr. Hunter saw that a surplus of gas this summer could lead to low prices, but
he also made bets that would pay off if, say, a hurricane or cold winter sharply
reduced supplies by the end of winter. And he was willing to buy gas in even
farther-away years, as part of complex strategies.
Buying what is known as "winter" gas years into the future is a risky
proposition because that market has many fewer traders than the contracts for
months close at hand. Deals for those far-away months are done in
over-the-counter transactions that can be hard to exit. In May, his team's
position fell nearly $1 billion when the prices of far-forward gas contracts
took a steep dive -- much as they did last week. In this case, a number of gas
producers suddenly sold more gas than Mr. Hunter expected.
By summer, Mr. Hunter appeared to be proving doubters wrong. Amaranth's overall
fund gained around 6% in June, was roughly flat in July, and gained 6% in
August, according to investors.
Although Mr. Hunter had fared well in that period, many traders say Mr. Hunter
was acquiring positions that were too large to get out of if the market turned
-- including a bullish bet on winter gas. Amaranth won't detail its positions or
his trading strategy, so it is unclear exactly what caught Mr. Hunter unaware
last week. However, in recent weeks, people familiar with the transactions say
Amaranth bought MotherRock's gas positions in an attempt to cancel out some of
its trades and reduce its market exposure.
Expectations of a warmer-than-average winter are rising. Last week, the National
Oceanic and Atmospheric Administration said the El Nino weather phenomenon has
formed in the
lessens the threat from hurricanes in the
recent fall in crude oil, helped to devastate gas prices.
Amaranth has scrapped plans relayed only a month ago to investors to offer them
a separate energy-only portfolio to invest in. Congress, meanwhile, is jumping
in to debate whether hedge funds are to blame for all the volatility.
The Commodity Futures Trading Commission argued in a 2005 report that hedge fund
trading didn't increase volatility and even improved the functioning of the
markets by giving energy companies more trading partners. But a recent report by
the Senate Investigations Committee warned that the energy markets were badly
underpoliced. It cited an explosion of trading on electronic trading systems and
over-the-counter platforms over which the CFTC has no authority -- and in which
Mr. Hunter and other big traders are extremely active.
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