Why Should I Care: Hedge Funds-Minyanville

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Why Should I Care: Hedge Funds

Minyanville Staff Nov 19, 2008 8:30 am


		Like shooting finance in a barrel.

But not everyone finds the path to Alpha.

Long Term Capital Management, or LTCM, almost took down the entire financial system when it collapsed in 1998. In stark contrast to the many bailouts of late, back then the government convened Wall Street’s heaviest hitters -- JPMorgan (JPM), Goldman Sachs (GS), Morgan Stanley (MS) and others -- and forced them to clean up the LTCM mess themselves.

Recently, the stock market’s dramatic declines have been exacerbated by dying hedge funds. When markets swoon, lenders often get worried they won’t get paid back, and therefore demand that a fund sell assets to repay the loan. Selling off begets selling off, which begets more selling off, which begets - well, you get the idea.

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When historians write about the great financial crisis of 2008, hedge funds are likely to be vilified as some of the most egregious culprits of the reckless risk-taking that got us into this mess. Which isn’t exactly fair.

Hedge funds, by and large, carefully manage risk by using hedges -- modeled after old Mr. Jones’ strategy -- that protect them in the event trades work against them. Conversely, mutual funds just buy and hope to hold - which is why retirement accounts take a beating when markets head south.

Like these funds, we all hedge our bets, whether we know it or not. Maybe it’s asking 2 girls to the prom in case one bails. Maybe it’s bringing a flask to the family reunion, just in case crazy Uncle Charley forgets to bring the beer (again).

Consider this: In a year when the stock market is down an eye-popping 37% and our supposedly safe 401(k)s are dwindling, the Credit Suisse/Tremont Hedge Fund Index is off just under 10%. Most Americans would give their eyeteeth to be down a mere 10% for the year.

Their ability to manage risky assets allows capital to flow to parts of the economy it might otherwise never see. Just go to a deli and try finding that turkey baster you desperately need in the middle of the night.


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Comments (10)

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Andrew Jeffery

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11-19-2008, 10:37 pm
Hi Eric, True, that we don't have a lot of choices when it comes to our IRAs and 401ks. The goal of the piece was to show that entities like hedge funds that are (sometimes) capable of taking on riskier loans than traditional banks Read More

Eric Worthen

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11-19-2008, 10:46 pm
That does, I do appreciate your experience and perspective. Thank You! Read More

Ralfph Aralfp

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11-19-2008, 11:06 pm
Hedge funds need to return 20% and more to their investors. The only way a fund will make loans at 12% is by leveraging their fund capital with bank loans at conventional rates. In other words the fund puts up $2 cash collateral to the bank then bo Read More

Peter Stern

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11-20-2008, 1:09 pm
>Their ability to manage risky assets allows capital to flow to parts of the economy it might otherwise never see. Just go to a deli and try finding that turkey baster you desperately need in the middle of the night. Ok this may sound Read More

Andrew Jeffery

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11-20-2008, 8:31 pm
Peter, Your speculations are accurate. In hindsight, I really didn't NEED that turkey baster. In fact, I sort of wish the deli had been sold out! Andrew Read More


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