Muddy Waters Ends 2016 with a Big Gain

Carson Block’s Muddy Waters Capital hedge fund, which launched last January, has beat the odds against short sellers — and then some. It ended 2016 with a 16 percent net gain, according to an individual familiar with the results.

Block’s showing, which is net of a 30 percent performance fee, is even more impressive given how tough 2016 was on short sellers. The year had started off promising for the naysayers, with stocks tanking on China worries. But the Standard & Poor’s 500 stock index ended 2016 with a 12 percent return. By year-end the HFRI short-biased index was just barely positive, with a 0.39 percent gain, while some big-name short-sellers like James Chanos were sporting double-digit losses even before the so-called Trump rally sent stocks soaring during November and December. The rally ate into Muddy Waters’ profits, too, as the fund had been up 20 percent through September.

Block’s bang-up first year also occurred in spite of the overall market performance of his six publicly touted equity shorts of 2016, which gained an average of 8 percent for the year — representing a loss for short-sellers — after he made his calls, according to Activist Shorts Research, a research service. Among his poor performers were Bank of the Ozarks, up 50 percent since he detailed his short thesis on it at the Sohn Investment Conference in May, and U.S. contractor Tutor Perini Corp., which gained 28 percent since he publicized his short in October. (It’s not known whether Block covered his short position, to gains, before the stocks rose.) A big winner for Muddy Waters, however, was German media group Ströer, which fell last year almost 12 percent since his April 21 short call.

Block’s most controversial short of last year was St. Jude’s Medical Inc., which sued him in September after he claimed its pacemakers had cybersecurity problems and should be recalled. (The short idea was brought to Block from MedSec, a cybersecurity firm.) St. Jude’s initially dropped 8 percent on Block’s August 25 short call but recovered slightly as its announced deal with Abbott Laboratories looked more certain. St. Jude closed the year down only 2.5 percent from the short-seller’s first public comments.

In an interview on CNBC on Thursday, Block, 40, said he had a spread bet against the merger going through, but he declined to say whether he made or lost money on the trade. The deal closed on January 4, and just days afterward, the company acknowledged the problems Muddy Waters had highlighted.

“After vehemently denying its devices suffer security vulnerabilities and then suing us, St. Jude issued a statement today that effectively vindicates the research published by MedSec and Muddy Waters,” the short-seller said in a January 9 statement. “This long-overdue acknowledgement, just days after completion of St. Jude’s sale to Abbott Laboratories, reaffirms our belief that the company puts profits over patients. It also reaffirms our belief that had we not gone public, St. Jude would not have remediated the vulnerabilities,” his statement continued. Block said he was considering shorting Abbott but had not yet determined the full impact of St. Jude’s problems on the drug company.

Although Block’s activist equity shorts get all the attention, they are not all the hedge fund does. In May Muddy Waters Capital hired Terrence Ing, who had been a senior credit analyst and portfolio manager at PIMCO, as head of credit. Block said high levels of corporate debt would make shorting credit attractive. Since then, the jump in interest rates has no doubt increased the allure.

Block rocketed to fame in 2011, when his then-unknown Muddy Waters Research firm alleged that Sino-Forest Corp., a Canadian-listed Chinese company worth $6 billion at the time, was a multibillion dollar Ponzi scheme, catching prominent hedge fund titan John Paulson flatfooted. The company ended up filing for bankruptcy, and Paulson sold his stake at a $720 million loss. Since then, Block has continued to expose alleged Chinese frauds; one of his public shorts last year was a Hong Kong–based company.

In 2015 an unnamed institutional investor approached Block about expanding from research to start a hedge fund and gave him $100 million to manage. For now, that institution is Muddy Waters Capital’s only investor. The short-seller has said he wants to cap the fund at $500 million.