LAST JANUARY IN DAVOS SWITZERLAND, at the World Economic Forum’s annual gathering of heads of state, corporate titans, and other veterans of the global conference circuit, some of the most influential money managers on the planet met for a private dinner at the Sunstar Parkhotel. The event focused on a growing phenomenon in the high-stakes world of corporate finance: public companies “going private” to avoid the regulatory scrutiny and relentless short-term pressures of the stock market. In attendance was everyone from venture capitalists to CEOs, but many hailed from private equity firms—which specialize in buyouts of public companies—including David Rubenstein, a managing director of The Carlyle Group, an investment firm with $44 billion under management, and Stephen Pagliuca, a managing director of $40 billion Bain Capital.

Like most intimate confabs at the conference, the dinner wasn’t expected to generate much controversy, or to compete for press coverage with just about anything uttered by Angelina Jolie, who was on hand in Davos as a United Nations goodwill ambassador. Toward the end of the evening, however, the collegial vibe took a turn: During an informal question-and-answer session, hedge fund manager Daniel Loeb—seated in the audience—began to criticize private equity firms for hoarding profits that rightly belong to public shareholders. While some attendees may have agreed privately with Loeb, those dinner guests well accustomed to the sanguine navel-gazing of business conferences were taken aback. In the pantheon of audacious acts, Loeb’s behavior was akin to wearing an NRA T-shirt to a peace rally.

Of course, nobody who has followed Loeb’s career was too surprised. As the founder and chief executive of the $3.6 billion New York-based hedge fund Third Point LLC, Loeb has developed a reputation as one of America’s most outspoken and controversial investors. A self-styled successor to activists such as Carl Icahn and T. Boone Pickens, the 44-year-old California native takes large stakes in companies and then agitates for change through public, often hostile negotiations with management. He is known as Wall Street’s poison pen—an epistolary assassin who employs words as ammunition against the top brass of corporations in which his fund invests. Witty in comparison with the mind-numbing style of most securities filings, Loeb’s bons mots have attracted a cult following among analysts and money managers, who forward them like off-color jokes and post them on investing blogs.

Loeb’s activist MO has been lucrative for Third Point, raking in an average annual return of nearly 23 percent since 2002, according to a former employee, well above the 7.7 percent average of HedgeFund Intelligence’s Absolute Return Composite index, a leading benchmark. As one of the 100 largest hedge funds in the country, Third Point earned Loeb $150 million in 2005—landing him twentieth on the list of America’s highest-paid managers in Alpha magazine, the bible of the kill-or-be-killed industry.

Increasingly, however, Loeb’s brash style has put him at odds with some Alpha associates—and the saber-rattling that fueled his fortune now threatens to undermine him. The hedge fund community is under siege after operating in relative obscurity for decades. High-profile funds have been accused of crossing the legal line; the federal government is pushing for more oversight; and the media, once content with an occasional peek behind the curtain, is clamoring to tear it down. The glare has motivated some of Loeb’s peers to adopt a level of secrecy not seen since the early days of the Cosa Nostra, and it’s not necessarily paranoia: In 2003, hedge fund billionaire Edward Lampert was kidnapped at gunpoint while leaving his Greenwich office and held for nearly two days.

Loeb appears to recognize the need to restrain himself in order to succeed in this new climate. He talks to the media less, and declined repeated requests to be interviewed for this story. But his antics in Davos—one of a series of recent incidents in which he has turned his patented vitriol on his own colleagues—suggest his activist investing may not be just a calculated strategy. “When Dan walks in a room, he makes everybody nervous,” says a Davos dinner attendee. “He will sit quietly for a while and then suddenly have an outburst. People don’t really know how to handle that.”

To be sure, the saga of Daniel Loeb offers a revealing glimpse into the hush-hush world of hedge funds—whose influence on Wall Street has grown in equal measure with their swelling coffers. Since 2003, cumulative hedge fund assets have skyrocketed from an estimated $600 billion to $1.2 trillion, consolidating wealth in fewer hands and transforming what was once the Wild West of investing into an increasingly institutional place—and leaving little room for the cowboys who once roamed free.

When Alfred Winslow Jones launched what is widely regarded as the first hedge fund in 1949—coining the phrase to describe his approach to guarding against the risk of the stock market—the notion that a fund manager could earn anywhere near as much as his wealthy clients was heresy. Charging a management fee as well as a share of his fund’s profits, Jones reconfigured the economics of the manager-investor relationship and paved the way for today’s celestial earnings. In 2005, the top 10 hedge fund managers each cleared more than $275 million—nearly $162 million more than the combined compensation of the CEOs at Morgan Stanley and Goldman Sachs.

Flush with wealth and power, today’s hedge fund managers have become the It Boys of American capitalism, following in the footsteps of the Gordon Gekko?style buyout barons of the eighties and the dot-com wunderkinds of the nineties. Newly minted MBAs who once flocked to JP Morgan now crowd the early-morning trains from Grand Central to the constellation of hedge fund offices in Greenwich, Stamford, and other moneyed Connecticut towns—lured by the promise of earning more in a single week than they could otherwise earn in a year. Commercial rent in downtown Greenwich has climbed to more than $80 a foot—on par with prime office space in Midtown Manhattan—while Fairfield County’s manicured suburbs have become a giant construction zone, with each mega-McMansion more garish than the last. SAC Capital head Steven Cohen, who took home a $550 million paycheck in 2005, has a 32,000-square-foot estate with an ice-skating rink and an indoor basketball court—and scattered throughout are pieces from his estimated $700 million art collection, which includes a Van Gogh, a Pollock, and Damien Hirst’s formaldehyde-preserved tiger shark.

The “2 and 20″ fees often associated with hedge funds—2 percent management fee on all assets and a 20 percent share of the fund’s trading profits—haven’t deterred investors: In the past three years, the number of U.S. hedge funds has jumped from 6,000 to nearly 9,000. As funds have multiplied, they have branched out into increasingly varied investment strategies, placing them in the same orbit as the other behemoth of the investing world—private equity—and blurring the distinctions that once separated them. Similarly, private equity firms now invest like hedge funds, taking large stakes in public companies. “The concept of public and private equity is defunct,” says Anand Sunderji, a vice president of the $2.5 billion Swiss firm Adveq Management. “It’s all just equity.”

Most of the new money flowing into the industry comes from giant institutional investors—such as pension funds and university endowments—which attract a higher degree of scrutiny from both the media and regulatory bodies. In recent years, prominent hedge funds have been accused of insider trading (Pequot Capital Management) and naked short-selling (Rocker Partners)—to say nothing of Bayou Management, which swindled $450 million from its investors before its founder and CFO were both charged with fraud. (Pequot was subsequently cleared of the charges; members of Bayou’s management pled guilty and await sentencing; and Rocker Partners, whose lawsuit is ongoing, maintain there is nothing illegal about their short-selling practices.) The recent implosion of Amaranth Advisors, which lost $6 billion in capital almost overnight, has only intensified the pressure. In a victory for the libertarian-minded, the U.S. Court of Appeals for the District of Columbia ruled last summer that the SEC no longer has the authority to impose rules on hedge funds beyond those that govern all investors—but given that hedge funds account for roughly half of all daily trading on the New York Stock Exchange, Congress will no doubt continue to push for government regulation.

Institutional investors have also fostered a more conservative outlook. Many are turned off by what they call “headline” risk—the idea that an irascible, heat-seeking manager like Loeb could bring them negative attention or embarrassment. “We initially looked at Third Point because of its extremely attractive performance history,” says one portfolio manager at a multi-billion-dollar fund who invests solely in hedge funds. “But we decided not to put our money with him for reputational reasons.”

Armed with a B.A. from Columbia, several years of Wall Street experience, and $3 million from friends and family, Loeb started Third Point LLC in 1995. An avid surfer, he named his fund after the choicest break at Malibu’s Surf-rider Beach near his boyhood home in suburban Los Angeles. It didn’t take long for him to make headlines. In 1999, he was sued for libel by public relations executive John Liviakis for allegedly “repeatedly and maliciously publish[ing]” anonymous postings on Yahoo! Finance, Silicon Investor, and other Web sites under the pseudonyms “John_Crimiakis_StockSwindler” and “Mr. Pink” (after a character in Reservoir Dogs). Liviakis’s complaint quoted one posting: “I have registered 1.7 million shares to sell and these will soon flood the market. Hopefully I will sell these before the company loses its Nasdaq listing…Then I will laugh at you fools for buying my shares and I will celebrate with a bottle of grappa, some fresh feta, and a nice young boy—just like in the old country.”

The lawsuit was eventually settled, and Loeb has never acknowledged a connection to either pseudonym. In August 2005, three days after Bloomberg Markets published a flattering piece about Loeb, the article appeared on Mr. Pink’s Silicon Investor message board with the caption “Oh Lord He is Wise!”

In 2000, Loeb honed the strategy that would come to define him, already introduced by his L.A. hedge fund pal Robert Chapman. After penning a scathing letter to the CEO of an investment trust, Chapman attached it to a Schedule 13D form, which the SEC requires major stockholders to file when they take an action that will influence the company’s business. Typically the form alerts shareholders that an investor has acquired a significant stake in a public company, but Chapman had a more cunning calculus: It ensured that his letter would be widely seen.

Emboldened by Chapman’s approach, Loeb stepped out from behind the curtain. His first target was William Stiritz, the chairman of two companies, one of which, Ralcorp Holdings, had made an offer to acquire the other, Agribrands International. Third Point had a substantial stake in Agribrands, and Loeb’s 13D letter argued that the offer was too low. In the first of many vindications for Loeb, a competitor topped Ralcorp’s bid by 28 percent, netting Third Point $20 million. In the years since, Loeb seems to have grown more charmed with his own voice and more personal with his attacks, emphasizing the pay, perks, and lifestyle of a CEO in addition to the issues afflicting his company. Their result is often to humiliate an executive so badly that he resigns, is fired, or acquiesces to Loeb’s demands. “Dan refers to it as ’social pressure,’” says a former Third Point employee. “He believes that if you embarrass a CEO in front of his friends at the club, make him feel like people are talking about him, you can exert change on his company.”

A 2005 letter to Irik Sevin, then CEO of Star Gas Partners, called him “one of the most dangerous and incompetent executives in America.” Another missive to the board of directors of Salton Inc. criticized CEO Leonhard Dreimann’s decision to advertise at the U.S. Open tennis final. Loeb’s tones seemed to show arrogance, not just in the skewering of his target but in the self-aggrandizing possibilities of the cannonball communiqué: “You can only imagine my consternation when I…saw the Salton name emblazoned all around the interior of the stadium walls next to such robust companies as IBM, JP Morgan, and Mass Mutual….My bewilderment quickly turned to anger when I saw…the private box that seemed to be occupied by Mr. Dreimann and others who were enjoying the match and summer sun while hobnobbing, snacking on shrimp cocktails, and sipping chilled Gewürztraminer.”

Loeb’s belligerence is unusual even when compared with other hedge fund managers, who tend to flex their muscle behind the scenes. “Our first approach is to talk to management on a friendly basis,” says Charlie Penner, general counsel at the $5.5 billion activist fund Jana Partners. “We don’t see any point in taking a tone or approach that is personal or bitter. Our goal is never to get in the headlines.” Wilbur Ross—the legendary investor who runs a $200 million hedge fund and several private equity funds totaling $4 billion—has a similar philosophy. “Most of these young shareholder activists have no management experience,” says Ross. “[I]t would be societally more responsible if they said, ‘I don’t like that company, but I’m not just going to terrorize them. I’m actually going to take control, put out the management, put in new people, and fix it.’ I don’t see them doing that. It’s all wham, bam, thank you ma’am.”

Meanwhile, Loeb has also called attention to himself with his own conspicuous appetite, which seems to have turned him into the greed-is-good cliché that he targets. Last fall he reportedly agreed to purchase the most expensive apartment ever sold in New York, a $45 million penthouse in a building now under construction on the site of the old Mayflower Hotel. Plans for the 10,000-square-foot space overlooking Central Park are said to include 8 bedrooms, 10 bathrooms, and 800 square feet of terrace space. He also owns a modernist oceanfront house in the Hamptons designed by Rafael Viñoly, and a burgeoning art collection with works by such artists as Andy Warhol, Cindy Sherman, and Martin Kippenberger. But, like other hedge fund managers, he’s more parvenu than patron of the arts. After New York gallery owner Barbara Gladstone reportedly cancelled the sale of a Matthew Barney photograph to Loeb, he was irate. “Dan doesn’t understand that just because you have the money doesn’t mean you will get what you want,” says a prominent art consultant. “It’s not a world you can buy into so easily.”

Loeb’s aggressive persona has spilled over into his personal life as well. Before his 2004 marriage to former yoga instructor Margaret Munzer—with whom he recently had a child—he was a fixture on the social circuit in Manhattan and the Hamptons. “He was out all the time,” says an acquaintance who ran in Loeb’s circle. “There were a lot of girlfriends.” His extracurricular life was on display in a 2001 New York article about yoga, which included a character referred to only as “Mr. Hedge Fund.” I was told that it was actually Loeb, hidden behind an alias. A longtime devotee of Ashtanga yoga, Loeb practices every morning at 5:30 and often travels to Mysore, India, in search of higher learning. But evidently, Loeb has managed to weaponize the peaceful spiritual practice: “Companies are short, management’s trying to defraud us, and I’m like Rambo in the office, headset on, three computers in front of me, mowing them all down,” he told the magazine. “Yoga is all about focus and perfect aim.” Confronted with these points, a spokesman for Loeb retorts, “These allegations do not dignify a response.”

In September 2005, another Loeb letter flooded in-boxes. But this time the recipient, Citadel Investment Group’s Kenneth Griffin, was not a bungling CEO but a respected hedge fund manager. Prompted by the allegation that Griffin had hired an employee away from a fund run by Loeb’s crony David Einhorn, Loeb sent Griffin an abusive e-mail in which he referred to Citadel as a “gulag” and its employees as “indentured servants.” “I understand your need to hire employees from other firms,” wrote Loeb, “something that Third Point has not had to do based on the fact that, unlike yourself, I actually enjoy and have talent in investing and am able to nurture others within my organization….Let me be clear that under no circumstances are you to approach any Third Point employees…should you attempt to hire people from [my friends], I will consider it a similar act of war.”

Loeb’s attack on Griffin was one of several episodes, culminating with his behavior in Davos, in which he has cannibalized his colleagues. Other targets include Wilbur Ross, whom Loeb accused of unfairly profiteering from the reorganization of a coal company in which both had invested, and London-based hedge fund managing director Alan Lewis, who approached Loeb for a job, only to have his e-mail exchange broadcast across the Internet. “We find most Brits are a bit set in their ways and prefer to knock back a pint at the pub and go shooting on weekends rather than work hard,” wrote Loeb.

But Loeb’s own record as an employer may leave something to be desired. “Third Point should really be called ‘Daniel Loeb Inc.,’” says an investor. “The big question on the street is how someone who puts up such good returns can have so much trouble retaining people.” In the last year alone, according to an insider, two of six partners, two analysts (of roughly a dozen), and the CFO all left Third Point either to join other hedge funds or to start their own. Of those who remain, only two were at the firm prior to 2003.

For the most part, Loeb’s former employees prefer to keep their thoughts about him private. And of more than two dozen friends, acquaintances, and ex-employees contacted for this article, most declined to speak about him. Their reluctance may be motivated by Loeb’s treatment of the last employee to challenge him, Youlia Miteva. In 2003, Miteva sued Loeb for “erratic and sometimes abusive behavior,” claiming that he had promised bonuses he later reneged on in a “scheme…to deprive [Miteva] of approximately $1 million in wages and other employment benefits.” The suit also charged that after Miteva left Third Point, Loeb deliberately sabotaged her attempt to get a position at Cohen’s SAC Capital. Loeb denied these allegations.

Possibly embarrassing to Loeb was the discovery of e-mails he sent to fellow 13D devotee Robert Chapman expressing disdain for Third Point analysts. In one e-mail quoted in the court’s findings, he wrote, “[I] hate them intensely.” In another, he joked, “I need to conduct a pogrom around here.” When Loeb fired Miteva—just four days before her $650,000 performance bonus was due—he wrote to Chapman that “the nuclear submarine launch sequence” had been “initiated” and was “headed for [E]astern [E]urope,” an apparent reference to Miteva’s Bulgarian nationality. The lawsuit was later settled.

One evening last June, the nonprofit Prep for Prep held its annual Lilac Ball fund-raiser at Manhattan’s Waldorf-Astoria. Like many New York causes célèbres, Prep for Prep counts among its trustees a roster of Wall Street heavyweights, including Loeb. Hoping to gain an audience with him, I gate-crashed the dinner. Around 7:00 p.m., I spotted Loeb holding court near one of the bars that dotted the reception area. He looked about 5′9″, his slight, yoga-toned build tucked into a black suit. Despite the gray slowly colonizing his full head of brown hair, he appeared much younger than his 44 years. I approached cautiously. “Mr. Loeb,” I said, reaching out my hand.

“Hi,” he replied blankly, betraying his lack of rec-ognition.

“We’ve exchanged e-mails,” I said. “But we haven’t met.”

“I didn’t think I knew you,” he replied, smiling, “but I always pretend I do. What were the e-mails about?”

“I’m the writer from Men’s Vogue. Since we haven’t managed to connect, I was hoping to ask you a few questions.”

His face, which had registered a pleasant calm, suddenly expressed concern. “I can’t talk to you,” he said, starting to back away. “I’m not allowed to talk to you.”

Not allowed? The gun-shy response speaks volumes about Loeb’s commitment to rehabbing his reputation. Similarly, several recent articles about Third Point have downplayed Loeb’s activism, emphasizing that the fund devotes less than 10 percent of its assets to activist investments. One former Third Point employee suggested that Loeb is using the media to improve his standing among deep-pocketed, risk-averse institutional investors—without whom Third Point will be unable to maintain its place among the T. Rexes.

Another reason for Loeb’s restraint is that 2006 may prove to be an underwhelming year for Third Point. Through the first half of the year, the fund was on course to register only a single-digit gain—which may not be enough, especially in the increasingly crowded and competitive activist-fund niche. When the $1.7 billion activist fund Pirate Capital stumbled to a 3 percent return for the first three quarters of 2006, the fund lost half its investment team, and its investors may follow. Ultimately, Loeb’s fate will also hinge on his ability to anticipate the next market cycle. “Dan is very good at figuring out where the opportunities are,” says the former Third Point employee. “He always seems to know where the hot money is going.”

If a hedge fund manager with as many sharp edges as Loeb is trying to soften his image, could the era of the hedge fund cowboy be over? Are hedge funds destined to become more like the somber investment vehicles against which they once defined themselves—mutual funds? Recent history suggests they are already there. In November, Morgan Stanley acquired $5.5 billion hedge fund Frontpoint Partners, becoming the latest in a line of giant institutions to bring once-independent funds into the fold. And the largest U.S. hedge fund is no longer run by a maverick in Greenwich. It belongs to Goldman Sachs. But if hedge fund managers become employees of large public corporations, do they really have the right to demand such enormous fees? It is a question Daniel Loeb might ask.

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