Losing Streak at Tom Brown's Hedge Fund Shows the CEO's Not Your Bro

Tom Brown, as a top-ranked U.S. bank analyst for more than a decade, got to know executives at the nation's lenders well. Like, very well. 

So well that now, as CEO of the hedge fund Second Curve Capital, he touts his proximity to bank management teams in monthly presentations to investors. The problem is that, lately, those relationships don't seem to be helping.

Brown's flagship fund is down 24% this year through June, after losing 20% in 2015 and 33% in 2014, documents obtained by TheStreet show. By contrast, the Standard & Poor's 500 Index was up 2.7% through June, after posting a net gain over the prior two years.

It's axiomatic for many Wall Street analysts that regular meetings and discussions with corporate executives are a key job requirement, yielding invaluable insight that can then be passed along to investors in return for trading commissions. But Brown's recent track record shows that such access isn't a guarantor of success.

"If you're close to management, you're heavily influenced," said Roger Ibbotson, a Yale School of Management professor emeritus who runs his own hedge fund. "You start buying into the management's stories. And the stories are overinflated."

In an e-mail, Brown said he couldn't discuss the reasons for New York-based Second Curve's underperformance publicly, since the funds are private and restricted to accredited investors. The firm, which started in 2000, had $212 million of assets under management as of Dec. 31. Like many hedge funds, Second Curve uses a long-short strategy, meaning it makes bets on declining stocks alongside potential gainers.

According to Second Curve's regulatory filings as of March 31, the firm held shares in Newstar Financial  (NEWS) , a Boston-based lender to medium-size companies; Regional Management  (RM) , a Greenville, South Carolina-based consumer finance company; and Tristate Capital Holdings (TSC) , a Pittsburgh-based bank and money manager.

"We have been running funds for 16-and-a-half years that have delivered volatile but impressive absolute and relative performance," Brown said.

Indeed, the flagship Second Curve Partners fund doubled in the year following the financial crisis, and returned 53% in 2010, according to the documents. Since inception, that fund is up 51%, slightly beating the S&P 500's 47% gain over the same period.

The firm's Second Curve Opportunity Fund, started in 2003, is down 36% since inception, however, and the Second Curve Vision Fund, started in 2006, is down 81%. Earlier this year, Second Curve started a fourth fund that's designed to produce less-volatile returns.

Brown was so close to management teams that at one point, he said in the e-mail, no fewer than 15 financial-services firms gave Second Curve money to manage. They were required to redeem the stakes following passage of the Volcker Rule, part of the 2010 Dodd-Frank Act, which restricted lenders' ability to make speculative trading bets, he said.

"As an industry thought leader, Second Curve has developed strong relationships with many companies in the financial services sector and their management teams over the past 30-plus years," according to an investor presentation from July.

In past interviews with Bloomberg Television, Brown has discussed meeting with JPMorgan Chase  (JPM)  CEO Jamie Dimon, as well as with executives of Cincinnati-based Fifth Third Bancorp  (FITB) , Cleveland-based KeyCorp  (KEY) , Pittsburgh-based PNC  (PNC) , and Capital One Financial  (COF)  , based in McLean, Virginia.

During the 1990s, Brown worked for brokerage firms PaineWebber, Smith Barney and Donaldson, Lufkin & Jenrette, where he consistently ranked as the No. 1 regional bank analyst in Institutional Investor's annual survey, according to his bio. He also served a brief stint at the hedge fund Tiger Management. 

In addition to managing Second Curve, Brown oversees the website Bankstocks.com, where he posts commentary on the financial-services industry. According to that site, he frequently is asked to make presentations to industry groups, company managements and financial-company boards of directors.  

In the e-mail, Brown declined to discuss whether any bank executives were currently investors in Second Curve or serving as advisers. Asked whether the relationships with executives were beneficial to Second Curve's investment strategy, he said, "The respect we have earned from managements leads to more meetings and better discussions."

U.S. Bancorp  (USB) CEO Richard Davis is an unpaid adviser to Second Curve, according to Dana Ripley, a spokesman for the Minneapolis-based bank. Ripley said it would not be appropriate for him to disclose whether Davis is an investor in Second Curve or its funds.

Securities laws prohibit publicly traded companies from privately disclosing material information that's not widely available. But it's legal to disclose less-than-material information in private meetings, and there's some evidence that it can help. In 2012, researchers from the University of Southern California and Harvard Business School found that hedge funds that meet privately with management typically make "more informed trading decisions." 

In the opposite camp is Charles Peabody, founder of the brokerage firm Portales Partners; he eschews management meetings in favor of spending more time analyzing financial filings and understanding the economy.

"I'm not uninformed as to what management is saying, but I don't make it a point to try to get close," Peabody said in an interview. "I feel that I can remain a little more objective." He acknowledges he does occasionally speak with investor-relations officials. And in March, he met with Citigroup  (C) CEO Michael Corbat, but it was at the bank's request, he said.

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James Angel, a finance professor at Georgetown University, says many investors try to use meetings to glean "morsels of information" to put together a "mosaic" that reveals a stock's worth. 

"The flip side is that every good CEO is a master salesman," Angel said. "When you are speaking with one of these top-level wizards, you are always in danger of falling under their spell."

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