H2O Cut Bond's Value; It Traded at Full Price That Same Day

(Bloomberg) -- On the last business day of June, accounts show H2O Asset Management had marked down its notes of Trent Petroleum to 50 cents on the euro. On the same day, 25 million euros ($27.4 million) of those bonds traded at twice that price.

The discrepancy highlights the turbulence H2O has navigated this year. The firm, an affiliate of France’s Natixis SA, lost about a third of its mutual fund assets – and took the markdown -- during an investor exodus in June sparked by reports over holdings related to controversial German financier Lars Windhorst. Several H2O funds held rarely traded bonds linked to Windhorst’s investment vehicle, Tennor Holding.

The Trent Petroleum notes weren’t the only ones where H2O’s estimated prices diverged from reported prices on Windhorst-related securities. Others included Italian lingerie company La Perla and Civitas, a property vehicle. Natixis said at the time the markdown reflected the “transactional value in case of an immediate sale rather than recording them at standard market value.”

The divergence between estimated prices and actual trades reported under Europe’s Mifid II regulations underscores the vagaries of the opaque market for illiquid securities. Establishing the value of such holdings can be a challenge for investors, particularly in times of stress. The H2O situation came just weeks after noted stockpicker Neil Woodford was forced to bar withdrawals due to his inability to sell his holdings of illiquid shares.

Read more on mutual funds facing tougher stress tests

“The gap between the H2O reported prices and Mifid prices doesn’t appear to make any sense,” Robert Southey, founder of Southey Capital, a London-based broker specializing in illiquid securities. “H2O investors might like to ask the fund managers why they have written it down, when apparently there are sizable trades reported at par.”

A spokesman for H2O declined to comment, referring to a June statement that said the lower valuations reduced the market value of these securities to less than 2% of assets under management, or about 540 million euros of the 27 billion euros at the time. The lower valuations were based on those “received by international banks” and in compliance with EU fund regulations, the statement said.

In the case of H2O, cutting the face value -- along with the June sale of 300 million euros of Windhorst-linked bonds -- helped reduce the money manager’s holdings of the hard-to-trade securities, allaying investor concerns over the liquidity of its funds.

Read more on brokers’ concerns over Windhorst

While the fund firm said in June it was marking down the value of its Windhorst-linked bonds, the pricing details weren’t reported until August 21; the over-the-counter trades -- but not the buyers or sellers -- were published on July 30 under Europe Union’s Mifid II transparency rules.

A spokesman for Windhorst was not immediately available for comment.

In addition to Trent Petroleum, the debt of Italian lingerie company La Perla was cut to just over a quarter of face value as the first half of the year drew to a close. Four weeks later, 40 million euros of notes, about 8% of the total issue, traded at 95 cents on the euro, according to data submitted to Bloomberg LLP.

H2O also marked down 50 million euros of Civitas notes, which are backed by German residential real estate, to 52 cents at the end of June; four weeks later, they traded at 95 cents. The transaction was executed two minutes after the trade of La Perla bonds on July 25.

To contact the reporters on this story: Lucca de Paoli in London at gdepaoli1@bloomberg.net;Luca Casiraghi in London at lcasiraghi@bloomberg.net

To contact the editors responsible for this story: Vivianne Rodrigues at vrodrigues3@bloomberg.net, James Hertling

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