- The Washington Times - Monday, October 12, 2009

Paolo Pellegrini has a nose for trouble.

He saw it in rising housing prices in early 2006, when he cranked through decades of home price data and concluded that the bubble was poised to burst. Mr. Pellegrini then helped engineer a massive bet against subprime mortgages that catapulted Paulson & Co. hedge funds to 2007 gains of as much as 590 percent and firmwide profits of more than $3.5 billion.

Mr. Pellegrini, 52, pocketed tens of millions of dollars, allowing him to buy a couple of what he laughingly calls “entry-level supercars”: a silver Ferrari F430 with a base price of $168,000 and a black Audi R8 for $109,000.

By April 2008, the Rome native smelled danger again. Nearly six months before the collapse of Lehman Brothers Holdings Inc. and the bailout of American International Group Inc., he saw that the unfolding crisis would trigger U.S. government intervention: bank rescues, a stimulus plan and yawning deficits. That move would eventually undercut the dollar and U.S. stocks, unleashing market havoc, Mr. Pellegrini reasoned.

“The losses would be massive,” he says. “I knew the policy response would be commensurate.”

So, after wowing the investment world with Paulson & Co.’s subprime bet, Mr. Pellegrini is proving he is no one-hit wonder. While still working for Paulson, Mr. Pellegrini plowed a chunk of his personal winnings from the subprime bet into PSQR LLC, a private fund he created. He began shorting exchange-traded funds that held financial stocks and, later, those that track the Standard & Poor’s 500 Index.

PSQR’s gain from April 15, 2008, through December was 52.4 percent, according to a fund document.

In December 2008, Mr. Pellegrini quit Paulson & Co. to start his own firm, PSQR Management LLC. As panicked investors stampeded into Treasuries, sending the yield on the 30-year bond down to 2.52 percent, Mr. Pellegrini began betting against U.S. Treasury futures. In January, Treasury prices plunged, with 30-year yields rising 92 basis points.

PSQR’s short position resulted in a year-to-date gain through July of 80 percent, according to fund documents.

For the moment, Mr. Pellegrini’s outsized returns benefit only himself and a handful of employees. His firm is staked with $100 million of his personal money. He plans to market it to outsiders in 2010.

“There will be a tremendous amount of interest in his new fund,” says Sol Waksman, founder of BarclayHedge Ltd., a Fairfield, Iowa-based firm that tracks and invests in hedge funds.

When asked why he left Paulson & Co., Mr. Pellegrini takes a swig from a bottle of Volvic spring water before answering. “I’m an engineer,” he says. “As interested as I am in making investment decisions, I’m equally interested in designing and building an organization.”

Mr. Pellegrini, a former member of Italy’s Radical Party with an engineering degree and an MBA from Harvard Business School, is pursuing a global macrostrategy, wagering on fundamental world economic trends. He’s buying and shorting futures on government bonds, stock indexes and commodities like oil as well as forward foreign exchange contracts. At Paulson & Co., his brief was narrower; he co-managed two funds that bought credit protection on mortgage-backed bonds.

Mr. Pellegrini has some unconventional views on how to fix global finance. He sees no reason, for instance, why Americans should deposit their savings in private banks, since the government already guarantees those deposits. The public’s cash, he says, can be held at accounts at the Federal Reserve System. Loans can be made by nonbank lending institutions. “We don’t need bankers to take risks with our money,” he says.

Asked how well has the U.S. Federal Reserve has handled the financial crisis, he says: “The Fed is printing money, as instructed by the financial-services industry, so that they can stick all of us with the bill.”

And Federal Reserve Chairman Ben S. Bernanke? “I have zero confidence in what the Fed is doing.”

Mr. Pellegrini says his fund’s name, PSQR, is a play on his own: Paolo Squared. It’s also an anagram of SPQR, the initials of the ancient Roman Republic that stand for Senatus Populusque Romanus, or the Senate and the People of Rome. The four letters are still emblazoned on monuments and signs around the city, where Mr. Pellegrini was born and spent his first five years amid the cobblestoned alleys of the Trastevere district.

Friends say Mr. Pellegrini has a rare ability to apply rigorous analysis to specific financial markets, as he did with the subprime trade.

“Paolo is a deep thinker,” says William Michaelcheck, founder and chairman of Mariner Investment Group, a New York hedge-fund firm where Mr. Pellegrini worked as an analyst in 2003 and 2004. “It’s the iconoclast’s ability to see things other people can’t see.”

Mr. Pellegrini’s economic outlook for the next 5 to 10 years is a sobering one. He says the U.S. economy will groan under the weight of budget deficits, increased regulation and household debt. Europe will perform only slightly better, and Asian economic growth will outstrip that of the developed world. “There are going to be huge shifts in wealth around the globe,” he says. “I want to invest in that.”

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