Pellegrini Scaling Back Hedge Fund

Paolo Pellegrini
PSQR Management LLC
Paolo Pellegrini

Paolo Pellegrini, an architect of the most lucrative bets on the housing bust, is dramatically paring back his hedge fund, according to someone familiar with the matter.

In a letter issued Friday morning, Pellegrini, 53, told investors in his hedge fund, PSQR Capital, that because “substantial additional work” was needed in order to profit from his investment thesis, he planned to return their money to them by September 30. The plan was first reported by Absolute Return magazine.

Going forward, Pellegrini will trade on a smaller scale, largely with his own money, the person familiar with the matter said. Pellegrini didn’t respond to a call for comment.

By money-management standards, PSQR, which managed significantly less than $1 billion, was not a significant player. But Pellegrini, who helped orchestrate hedge-fund manager John Paulson’swinning bet against the subprime market, had the benefit of a high-profile pedigree.

In 2006, Pellegrini began looking into U.S. housing dataat his boss’s behest. Believing that the subprime market was headed for the rocks, Pellegrini helped Paulson enter into a series of credit-default swap purchases, which amounted to a big short bet on subprime—a maneuver that ultimately created tens of billions of dollars in gains.

As Paulson’s assets under management skyrocketed, Pellegrini was rewarded handsomely; for 2007 alone, Pellegrini’s year-end bonus was $145 million, according to the Wall Street Journal.

But Pellegrini also attracted attention for his involvement in a particular trade: Paulson’s bet that a package of loans tied to a Goldman Sachs product called Abacus 2007-AC1 would sink in value.

The Abacus deal, structured in 2007, became the centerpiece of a U.S. Securities and Exchange Commission lawsuit against Goldman earlier this year. Pellegrini, who became friendly with Fabrice Tourre, the Goldman trader who structured Abacus, was Paulson’s point man on the deal.

In the suit, the government accused the firm of misleading investors who were betting on a rise in the Abacus bonds by not disclosing either Paulson’s involvement in the selection of the loans or its plans to bet against them. Goldman settled the suitlast month, paying $550 million and acknowledging that it had made a “mistake” by not revealing Paulson’s role in the matter.

The Housing Fix -- A CNBC Special Report >> See Complete Coverage
The Housing Fix -- A CNBC Special Report >> See Complete Coverage

A separate SEC suit against Tourre has not yet been resolved.

As the manager of PSQR, Pellegrini held a long-term view that was bearish on the U.S.—Treasurys, equities, and the dollar—but bullish on industrial commodities, according to the person familiar with the matter.

In his investor letter Friday, Pellegrini stated that while his “views on global economies haven’t changed,” he could not now position the fund to “profit consistently” from those views.

Jesse Bergman contributed to this report.