Hedge Funds Have Finally Pressed their Luck Too Far
The past two weeks has been a time of reckoning for the hedge fund industry. While Bear Stearns continues to try and salvage a hedge fund that invested in risky sub-prime mortgage using $20 billion of debt, the details of Amaranth’s dubious commodities strategy has become public via a Senate report. Both confirm what we already knew: the hedge fund industry puts individual investors at risk both directly and indirectly. Here’s how:
* Pension funds are heavily invested in hedge funds
* The minimum requirement to invest in many funds is now as little as $25,000 with many smaller individual investors getting involved
* Many funds target commodities and their bets are so large that the monthly gasoline, electricity, heating oil, bill goes up
* Funds are leveraged with so much debt, that if a collapse occurs the economy can be sent into a recession (See Long Term Capital Management)
So is the answer regulation? Maybe, but hedge fund managers are a smart bunch. Over regulation may cause them to sink deeper into the abyss and trade in secret “dark pools” more frequently than they already do. On the opposite spectrum, it is clear that under regulation, or no regulation, as is the current environment, puts more than just those invested in a hedge fund at risk.
Transparency is one answer. A hedge fund’s style and strategy should be transparent so that if any “style shift” occurs without the consent of the investors and regulators, the fund is penalized and subject to a lawsuit. Consider for the moment what Amaranth’s investors would have said if they were told that their money was going to be used to borrow billions of dollars which will then be invested over a lightly regulated exchange into enough gas futures contracts that it could manipulate the price to its benefit on the backs of ordinary citizens struggling to pay their utility bills.
Many of the hedge fund investors who I’ve been in touch with would shake their heads in disgust. Lifting the veil on what fund managers are actually up to and its effect on small investors and even families living check-to-check, would add a much needed level of scrutiny. If that doesn’t work, let’s revisit the use of the stockade.
* Pension funds are heavily invested in hedge funds
* The minimum requirement to invest in many funds is now as little as $25,000 with many smaller individual investors getting involved
* Many funds target commodities and their bets are so large that the monthly gasoline, electricity, heating oil, bill goes up
* Funds are leveraged with so much debt, that if a collapse occurs the economy can be sent into a recession (See Long Term Capital Management)
So is the answer regulation? Maybe, but hedge fund managers are a smart bunch. Over regulation may cause them to sink deeper into the abyss and trade in secret “dark pools” more frequently than they already do. On the opposite spectrum, it is clear that under regulation, or no regulation, as is the current environment, puts more than just those invested in a hedge fund at risk.
Transparency is one answer. A hedge fund’s style and strategy should be transparent so that if any “style shift” occurs without the consent of the investors and regulators, the fund is penalized and subject to a lawsuit. Consider for the moment what Amaranth’s investors would have said if they were told that their money was going to be used to borrow billions of dollars which will then be invested over a lightly regulated exchange into enough gas futures contracts that it could manipulate the price to its benefit on the backs of ordinary citizens struggling to pay their utility bills.
Many of the hedge fund investors who I’ve been in touch with would shake their heads in disgust. Lifting the veil on what fund managers are actually up to and its effect on small investors and even families living check-to-check, would add a much needed level of scrutiny. If that doesn’t work, let’s revisit the use of the stockade.
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