Dawn Fitzpatrick wanted to be a trader.
As a student at the University of Pennsylvania’s Wharton School back in 1992, that meant one thing: landing a job at Chicago-based O’Connor & Associates. “O’Connor was the only place I wanted to work—and the only place I interviewed,” Fitzpatrick, 44, says. She was hired in her senior year.
The trader’s instincts are in the DNA of the O’Connor Global Multi-Strategy Alpha Fund that Fitzpatrick now leads. The fund combines 15 separate investment strategies crafted by 34 portfolio managers in areas including U.S. long-short equity, European credit and merger arbitrage.
The aim of packaging the strategies is to create a stream of returns that is relatively uncorrelated to major asset classes. It’s worked. The $4.8 billion fund returned 9.9% a year from its June 2000 inception through the end of July, according to an investor letter obtained by Bloomberg. Its annualized volatility was 7.9%.
By comparison, the MSCI AC World Index, a benchmark for global shares, returned 4% a year over the period, with volatility of 16.5%. The O’Connor fund’s correlation with the MSCI index was 0.45 and negative 0.16 with a benchmark gauge for U.S. government bonds.
Corralling all those strategies requires complex risk management, something the firm has been doing since its founding in 1977 by mathematician Michael Greenbaum, with backing from commodities traders Edmund and William O’Connor.
O’Connor Firm
O’Connor & Associates was a proprietary trading firm that tapped into two developments from 1973: the opening of the Chicago Board Options Exchange—the world’s first market for trading listed options—and the publication of the Black-Scholes model for valuing options. An option is a contract that grants the right to buy or sell an asset at a set price.
Nobel laureate Myron Scholes, who received the economics prize in 1997 for the formula, believes that O’Connor & Associates developed the first quantitative risk management system. “They used the option-pricing framework not only to trade positions in options and underlying stock, but also they used the technology to monitor the risk taking of floor traders who they financed,” Scholes says.
Fitzpatrick’s first job at O’Connor was as a clerk on the American Stock Exchange. She then moved to the equity options pit on the CBOE as a market maker. Soon after she joined the firm, O’Connor was purchased by Swiss Bank Corp., which in turn was acquired by Zurich-based UBS AG. Over the years, traders from O’Connor spread into different areas of the bank, Fitzpatrick says.
Band Back Together
In 1998, a group of O’Connor traders reassembled to form UBS O’Connor LLC, the unit that Fitzpatrick now heads. The group started the multistrategy fund, which makes up the bulk of the unit’s $5.7 billion in assets, two years later. “It was kind of getting the band back together,” she says.
Despite its options roots, the fund invests mostly in stocks and corporate bonds. “We definitely have a strong bias toward liquidity,” Fitzpatrick says. “That’s why the vast, vast majority of things in this portfolio are simple securities.”
While some multistrategy funds isolate their teams from one another, UBS O’Connor wants its managers to share information, Fitzpatrick says. Traders on the proprietary desks at investment banks often proved to be the best collaborators across asset classes and strategies, she says. The Volcker Rule has forced many banks to close those desks, creating a vacuum that the UBS O’Connor fund can exploit.
Merger Arb Opportunity
Fitzpatrick points to merger arbitrage as an example of where cooperation across teams creates opportunity. Buying and selling stock is the typical way arbitrageurs bet on a deal.
That’s changed since the financial crisis, Fitzpatrick says. “We see way more opportunities of expressing a merger arbitrage position through credit and convertible bonds,” she says. “My view is that when those bonds came up for sale before the financial crisis, that flow was internalized at the proprietary-trading-desk level.”
At UBS O’Connor, members of the convertible arbitrage team sit next to the merger arb team. As soon as a deal is announced, the convertible team will know whether there’s a convertible bond outstanding and how the security is treated in the event of a takeover, she says. They’ll then tell the merger arb managers about the bond’s characteristics and where it can be bought.
Every month, the 15 teams put together packets of quantitative analysis on the risk and reward of each approach and how they interact in aggregate. While a given strategy may be risky on its own, Fitzpatrick says, it may actually reduce the risk of the whole fund.
The largest position in the fund is about 2.5% of capital, Fitzpatrick says, limiting the damage if one investment sours. “When I wake up in the morning,” she says, “there’s no headline in the paper that’s going to ruin my day.”
