Hedge-fund hemorrhage will end

ECONOMIC NAVIGATION AND SIGHTSEEING

the question is when

December 14, 2008|By JAY HANCOCK | JAY HANCOCK,jay.hancock@baltsun.com

Hedge-fund selling is a huge culprit in this fall's stock market decline, and everybody wants to know when it'll be over. Reports are mixed.

"The bad news is in for hedge fund managers," reports Pensions & Investments. "Come Dec. 31, many could lose up to one-quarter of their assets if investors indeed take back all that they've requested."

Investment strategist Ed Yardeni is optimistic.

"I don't know," he says in a letter to clients who ask when the hedge-fund hemorrhage will end. "But I suspect the bulk of their selling is over, and that redemption gates have been closed when possible."

Hedge funds are mutual funds for rich people. Unlike most mutual funds, however, hedge funds frequently borrow money to increase returns, buy derivatives and engage in other exotic strategies.

Two factors have plastered hedge funds and, in turn, hurt the market.

Plummeting stocks cause margin calls, or forced selling when the value of securities used as collateral declines. The higher the borrowing, the worse the fire sales.

Hedge funds also must dump stocks when clients want their money back. Numerous clients do, to nobody's surprise.

Unlike investors in a regulated mutual fund, however, hedge-fund clients can't sell just any old time. They get to bail once a quarter, and they usually must inform the fund in advance.

The stock-market inferno began in mid-September, which was too late for many hedgies to bail for the third quarter. This quarter, however, they're jamming the exits.

But that doesn't necessarily mean stocks will tank as a result. Funds knew they would have huge redemptions and have raised tons of cash. A lot of hedge-fund trauma is already reflected in stock prices.

Not everything, however.

Dozens of funds have temporarily limited redemptions to avoid unloading stocks at low-low sale prices. That means there still may be pent-up selling demand next year.

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