Reaology

The money manager that made a bundle on Realogy

October 11, 2012: 10:37 AM ET

A hedge fund placed big bets on the company ahead of its IPO -- and they paid off handsomely.

FORTUNE -- Realogy was on the ropes. It was the winter of 2010, and the financial crisis and housing crash had crushed the realty company's revenue. Realogy had long struggled to make interest payments on the giant debt that Apollo had borrowed to buy the company for $8.5 billion. The situation looked exceedingly grim and the business was flirting with bankruptcy.

That's when a hedge fund manager named Jason Mudrick started looking for a way to invest in the company that owns iconic brands like Century 21, Coldwell Banker, the Corcoran Group, and Sotheby's International Realty. And he found an opportunity in an obscure bond that had been issued by Apollo as it fought to keep Realogy from Chapter 11. "There was piece of the capital structure that was held by only a handful of guys, Apollo and Paulson & Co.," says Mudrick. "It paid a high yield, but the more I learned the less risky it seemed."

Specifically, Mudrick was interested in a bond Apollo created last January in an attempt to keep Realogy afloat. Apollo and Paulson owned about $1.7 billion of $2.1 billion worth of these bonds, which paid a nice 11% yield. For lots of reasons – Realogy's fragile state, forced selling by banks that were hurt by the financial crisis – the bond's price sank and Mudrick was able to buy them 58 cents on the dollar. The discounted price boosted the effective current yield to nearly 20%.

Now all of the company's bonds are trading at or above par, Wall Street jargon for the full 100 cents of every dollar, and Mudrick has more than doubled his money.

Meanwhile, Realogy (RLGY) just priced an initial public offering for 40 million shares at $27 each. The deal, worth about $1.1 billion, makes it the third largest IPO this year, behind Facebook (FB) and Grupo Financiero Santander México (BSMX). The bonds that Mudrick bought can be converted to equity, and with Realogy shares rising this could mean even more upside for his fund.

Mudrick's ability to take advantage of this obscure opportunity has burnished his reputation as a great distressed investor at a very young age. Fortune named him one of 2011's top traders and Institutional Investor gave him the 2010 Rising Stars of Hedge Funds award.

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Mudrick, who is only 37, was a bit of a wunderkind at his old firm Contrarian Capital Management, which specialized in distressed debt and special situations. There he found moneymaking opportunities in every conceivable piece of the Enron bankruptcy; and in the six years that he ran Contrarian's Equity Fund, it was the firm's highest returning fund with a net annualized 19.5% internal rate of return.

The University of Chicago and Harvard Law grad struck out on his own and formed Mudrick Capital in 2009 with just $5 million. He now has about $250 in assets under management, and has booked a 12% annualized return. That's a bit under the S&P's 14% over the same period, but it trounces the index of distressed investing hedge funds, which has a returned about 2% a year. This year the fund is up about 20%, making it one of the better performing distressed investing firms around.

"I think Jason's edge is that he can look at a company from many angles and have a deep understanding of every part of the capital structure," says Neill Chriss, the founder of hedge fund Hutchin Hill. "He finds mispricings. He reads people well, so he can talk to management. And thinks about risk. No one can survive in the markets without recognizing market dynamics, and Jason can do that, too."

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