08.24.2011
By Terry Flanagan

Big Time Hedging

In Rancho Santa Fe, California, a pair of hedge funds is providing a mix of alpha generation and stable income.

The Caritas Royalty Funds, with 100 million under management launched in 2004 and 2005, uses leverage to invest in the portfolios of private oil and natural gas of royalty interests, such as wells, reservoirs, basins, and extraction methods located within the continental U.S.

The firm does not invest in offshore ventures, and is operated by Cornerstone Acquisition and Management Company.

“We’re a mix of a finance company, and oil and gas company and that sets us apart from our competitors,” said Derren Geiger, portfolio manager at the Caritas Royalty Funds, highlighting on-staff petrochemical engineers.

“We offer something different too as we’re absolute return generators,” a mix between alpha generation and stable income, Geiger said. The funds collect a monthly yield, but also possess the potential to appreciate in price over time. Caritas’ investor base includes 50 percent family offices, and high net worth individuals, and the other half is pensions, and endowments.

Geographically, Caritas’ family offices and high net worth individuals are European based as they can get exposure to something they can’t locally, according to Geiger, attributing the lack of oil and gas wealth in Western Europe.

Since Caritas is one of the fewer funds that focus on the physical commodity assets directly, the funds are not subjected to the constant fluctuations in commodity prices in futures contracts.

“We’re a lot more stable in times of commodity price peaks and troughs,” Geiger said. “Our investors really like the low volatility our portfolio provides.”

Despite its low volatility, investing in hard assets is not without ills. The funds’ investments are very illiquid, which makes it difficult for many players, such as fund of hedge funds who may have high liquidity requirements, according to Geiger.

“Institutions such as pensions, endowments and foundations don’t mind it (locked up capital) so much. But that liquidity premium conversation is tough for some investors—it depends on their makeup,” Geiger told Markets Media.

Caritas currently holds a one year lock up, albeit a six month redemption notice period.

In the event that an investment goes sour, Geiger noted that the firm is a big-time hedger—using total return swaps to mitigate losses incurred by natural disasters, common in many of the U.S.’s oil regions.

“We’re constantly rolling on new hedges; it has gotten us through the trough years, such as in 2008, and 2005, when it was an opportune time to hedge because of Hurricane Katrina that hit the gulf coast.”

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