*** LTC article ***
Hedge Fund's Problems May Be Lesson
c The Associated Press
By JOHN HENDREN
NEW YORK (AP) -- It started with a billion-dollar Rolodex.
Long-Term Capital Management fund's partners had all the right marquee names -- a legendary Wall Street trader, two Nobel laureate economists and a top banking regulator. And they traded on them to gain access to the world's largest banks and other coveted investors.
Now the once unsullied names bear the taint of a near-collapse that required a Federal Reserve-sponsored corporate rescue. And Wall Street analysts say investors will likely demand an end to the secrecy that kept them in the dark about what was happening to their money.
''I think you'll see a lot of these funds being less secretive than in the past,'' said Hunt Taylor of Tass Management, a hedge fund advisory service. ''The marketplace will demand it.''
Long-Term Capital Management -- effectively an unregulated mutual fund for rich investors -- got into trouble after its managers used their door-opening pedigrees to borrow lavish sums and then made spectacular gambles on the money. Because lax regulation allows so-called hedge funds to cloak their investment strategies in secrecy, investors who now fear staggering losses had little else to go on.
''It's what I call betting on the jockey,'' said Robert Stovall, president of Stovall/Twenty-First Advisers. ''They had that global network of contacts and they looked so impressive that they got the money from banks and others without people doing their homework.''
LTCM had about $2.2 billion in capital from its investors, but it borrowed money from financial institutions to buy securities worth more than $90 billion. Fund managers then used those securities as collateral to make speculative bets representing $1.25 trillion.
Among those to plunk down a minimum investment of $10 million was the government of China. Other states may also have contributed, but it's hard to tell because hedge funds aren't required to disclose investor names or their strategies -- even to investors themselves.
Even investment bankers -- who usually rely on their own expertise to pick their bets -- subcontracted some of their investments to Long-Term Capital.
Federal regulators might find themselves adding monitoring hedge funds to their job. Fed Chairman Alan Greenspan on Thursday urged Congress not to require it. But Brooksley Born, head of the Commodity Futures Trading Commission, called the fund's meltdown a wake-up call that ''highlighted an immediate and pressing need to address whether there are unacceptable regulatory gaps relating to hedge funds.''
Federal action may be moot. Many on Wall Street say big investors won't wait.
''Clearly we need far more transparency, and a far better understanding on the part of the banks and the brokerage firms as to just what the financial situation is of the people to whom they're lending,'' Princeton University economics professor Burton G. Malkiel said.
Chase Manhattan Corp. and Bankers Trust this week became the first major banks to give their investors details about the banks' investments in hedge funds-- limited by law to fewer than 500 investors with investments worth $5 million apiece. The banks, in turn, are expected to press funds for more information on what they're doing.
For many of those who joined Merrill Lynch and Warren Buffett as investors, the reputations of the fund managers at Long-Term Capital were apparently enough. Looming above the firm's larger-than-life figures was John Meriwether, the fund's chief executive officer. He was a top bond trader at Salomon Brothers, one of Wall Street's most prestigious investment firms, in the 1980s.
''They had pedigree,'' Taylor said. ''Meriwether came into this game as a very rarified elite ... These guys were considered to be cutting edge, the creme de la creme in the world.''
On Wall Street, Long-Term Capital's partners are known as ''friends of Alan,'' a reference to Greenspan. One Long-Term Capital partner, David Mullins Jr., is a former Fed vice chairman.
When Meriwether left Salomon's trading floor following a 1991 bond scandal, so many of the investment firm's managers joined him in the tree-lined suburb of Greenwich, Conn., that Wall Street regulars referred to Long-Term Capital as Salomon North.
''There clearly was a panache both to Meriwether and the (economists),'' Princeton's Malkiel said. ''Undoubtedly they did get access to more credit and to different people around the world than others might have.''
Meriwether has long drawn attention with his sporting blood.
During a golfing trip to California, he once bought a dozen lobsters at a restaurant, taped numbers to their backs and called out the race as Long-Term Capital partners placed bets, according to a 1994 BusinessWeek report. The 1989 book, ''Liar's Poker'' describes how Meriwether and former Salomon boss John Gutfreund once placed a $10 million bet on the serial number of a dollar bill -- a story Meriwether has denied.
Creating the complex mathematical formulas that traders call ''rocket science'' were Robert Merton and Myron Scholes, who won the Nobel Prize in Sciences in 1997 for their work on options pricing.
When Long-Term Capital's rocket scientists discovered they'd overextended themselves, New York Fed officials feared the collapse of the fund would lead to a selloff that could devaluedstocks all along Wall Street and leave depleted banks unable to extend credit.
''Their fear is that banks won't only stop lending to hedge funds but will stop lending to shoe stores,'' Taylor said.
Fed officials gathered financial institutions -- including such fund investors as Merrill Lynch and Goldman Sachs -- for a $3.6 bailout in which the firms would buy 90 percent of the fund.
AP-NY-10-01-98 1557EDT |
