30
mar

Are Hedge Funds guilty?

Escrito el 30 marzo 2009 por Francisco López Lubián en Corporate, Financial Markets

One of the most striking proposals of the new Obama plan to fix financial system is the regulation of the so-called prívate pools of capital: hedge funds, prívate equity funds and venture capital funds.

According to this plan, which would require Congressional approval, these fund advisers would have to register with the SEC and provide to government confidential information on topics like level of leverage, investors and partners. Most probably, these tougher rules will limit fund´s ability to borrow money to invest in high risk bets.

Before this approach I wonder whether, for this kind of investments, it makes sense to regulate more or rather to enforce what it´s already regulated. Especially on topics related to information and transparency.

At least until now (and in theory), hedge funds were limited to investors who can afford big risks, looking for big rewards… that can become positive or negative. So, what is the explanation to the fact that in the last years traditional investors (like university endowments and pension plans) had become heavy hedge funds investors?

On the other hand, can we say that these funds caused the present crisis? Do we have enough evidence on this? The answer is clearly no. I do believe that the financial mess which led to the current economic crisis was provoked by investments banks acting as hedge funds, or selling to their customer hedge funds solutions as normal investments.  

As Wharton´s Professor M.E. Blume notes: “If the hedge funds lose money, that´s okay. No problem. It´s when the banks lose money that we have a problem”

More than new regulation, I would say that emphasis should be put in to fulfill the present one.  And avoid speculative actions with lack of transparency, like selling short without control. In that sense, the “uptick rule,” which limited short selling, is likely to be proposed early next month by the Securities and Exchange Commission. The rule, which was in effect in the USA from 1938 until 2007, restricted short selling in a declining market. Under the rule, the market needs to have an upward drift to it in order to short.

Comentarios

Miguel Amaral 2 abril 2009 - 20:09

Dear Francisco,

I have to agree with the Obama point of view about this issue, I think it’s necessary a more restrict supervision and regulation on these investment vehicles because they have a deep speculative nature, especially, hedge funds. We can’t forget that Georges Soros was responsible for crashing the British Sterling some years ago on a famous Black Wednesday and many Asian economies have complains about hedge funds speculative actions during the Asian crisis. This may seem very naïve but I think every single investment should have a healthy proposition for the economy and this prospect isn’t always present in hedge funds because they behave like markets raiders catching for free money and this kind of behavior might jeopardize all of us.

Best regards,
Miguel Amaral.

Brian Dapelo 8 abril 2009 - 12:49

Great article for discussion Mr. Lubian and Mr. Rodriguez. I couldn’t agree more. Miguel, I see your point but I would have to disagree. Your idea, (which is NOT naive I might add) that every investment should have a healthy proposition is unrealistic and would interrupt the cyclical nature of business and economies. As Mr. Lubian and Mr. Rodriguez point out, hedge funds are reserved for high net worth clients looking for extraordinary returns. Now, one may say that hedge funds are the “market raiders” and that they are in a position to jeopardize our economy. This is far from the truth. They are not the “bad guys” but more of a necessary evil to help the business cycle run its course. It is naive, to assume that the whole reason for banks and ultimately the economy is flailing is because of these hedge funds shorting the bank’s shares. In reality, there are far more than just one issue at hand plaguing the capital markets and this “hedge fund raiding” this is just a by-product to an exposed weakness in the banking system (ie overleveraging).

For example, hedge funds, with their less regulated nature, are able to short shares where there is a weakness. Thats how they make their money and provide extraordinary returns because they are able to go short in a down market unlike traditional long-only mutual funds available to the common investor . Did John Paulson’s $3billion returns in 2008 destroy the subprime mortgage market? Of course not, the issue was already there, he just played the weakness already present and actually made money for his clients. Hey at least some people were making money in 2008.

Personally, I think this crisis is what the world needs; a consolidation to rid the market of weaker banks, and de-leverage the ones that are still standing, and teach the world a lesson about buying on credit. It may be painful to watch, but metaphorically speaking, “You cant rebound until you hit the bottom.” If these hedge fund become regulated, then the free market is being restricted, thereby elongating the process of a downturn in the business cycle. In my opinion, government intervention is not the answer to solve this crisis, rather, allowing the free market to act as it will to complete the business cycle is the only way for the world to move forward and learn from this mistake. Regulating hedge funds is probably the worst thing to do, instead, increased regulation of BANKS, who invested in those hedge funds is a more realistic approach. As for pension funds and endowments, why doesn’t the government regulate them as well?

Jefry 18 mayo 2009 - 06:39

hedge funds, with their less regulated nature, are able to short shares where there is a weakness. Thats how they make their money and provide extraordinary returns because they are able to go short in a down market unlike traditional long-only mutual funds available to the common investor . Did John Paulson’s $3billion returns in 2008 destroy the subprime mortgage market? Of course not, the issue was already there, he just played the weakness already present and actually made money for his clients. Hey at least some people were making money in 2008.

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