<<Tuesday September 29 1998
Hedge funds face failure as borrowing costs surge
SHEEL KOHLI in London and DUNCAN HUGHES in New York
Hedge funds began experiencing an investor backlash
yesterday as reports emerged that financing costs
had soared by more than 200 basis points in the
wake of the unprecedented bailout last week of the
giant Long Term Capital Management. Brokers who deal on behalf of hedge funds and construct often complex derivative products for the industry are understood to have ramped up the cost of borrowing for highly leveraged funds. The move could force several more hedge funds out of business. It also emerged yesterday that another US hedge fund may have run into difficulties.
Convergence Asset Management, a bond arbitrage
fund similar to LTCM, has seen a 15 to 20 per cent
fall in its value on the month, and down 30 per cent in
the year to date.
Hedge funds also said last night they had seen
overnight escalation in capital-to-risk margin financing
levels demanded by lending banks.
Several hedge funds said it was rising closer to the
so-called "Reg-T" standard of 50 per cent
capital-to-risk level enforced in the US.
A London-based hedge fund manager with large
investments in Asia said the unfolding scene was "an
unmitigated disaster based purely on a herd-like
mentality".
An influential New York-based banking analyst
yesterday warned the problems that caused Long
Term Capital Management's financial crisis would
spread from hedge funds to banks and specialist
mutual funds.
Charles Peabody, senior banking analyst for Mitchell
Securities, warned the crisis was going to "sling-shot
across the world" from one product to another.
Mr Peabody said: "In a fully deregulated system it is
difficult to predict where the next implosion will
occur."
He estimated that the notional value of the US
banking system's exposure to leveraged derivatives at
US$26 trillion.
Mr Peabody, a long-term critic of high levels of debt
within the banking system, estimated that 95 per cent
was concentrated in the top-eight US banks.
"Most is over the counter, so it is hard to value and it
is also hard to liquidate. So we have a very difficult
situation.
"The banks are attempting to keep things quiet
because they are scared to death. They do not know
how to deal with it."
The London-based hedge fund manager said the
combination of sharp anti-speculative measures, such
as the imposition of capital controls in Malaysia and
the seven-point plan unveiled by the Hong Kong
Monetary Authority earlier this month, was making life
very difficult.
Added to the "near-panic exhibited by many banks
who deal with us, it is becoming quite tough to
operate", he said.
Several brokers reported that part of the sharp 3.17
per cent rise in the Hang Seng Index yesterday was
due to hedge funds closing out long-standing short
positions in the Hong Kong market to help them meet
rising financing costs and margin calls.
"I would have hoped the prime brokers and the banks
would sit down and review their positions client by
client, but I am afraid they seem to be implementing
an across-the-board hike in rates, because of the
perception that there are more problems than not,"
said one Tokyo-based hedge fund manager.
He said hedge funds in general had been taken by
surprise over the degree of volatility in markets in
recent weeks.
"The events that have been happening are right
outside the experience of markets in the last 25
years. You have to go back to the 1930s to seen
anything like this again.
"I think LTCM is just one of many that got their face
ripped off in August."
Hedge fund consultants warned yesterday that the
funds could also be faced with mass redemptions, as
investors become concerned about the vulnerability of
their investments.
"Where there might be palpable concern is in the
reaction of their clients, who might want to take their
money away," he said.
There is also a fear among hedge funds that financial
regulators around the world would feel compelled to
impose sterner levels of disclosure and transparency.
At the weekend Hans Tietmeyer, head of Germany's
central bank, the Bundesbank, said transparency
should be enforced on hedge funds, and urged the
issue be taken up at next month's meeting of the
International Monetary Fund.
The issue has already been raised at a European
Union meeting in Vienna, and most agreed
institutions not covered by regulators had to be made
more transparent.>> |
