Wonderful news for hedge funds

Thu Oct 30, 2008

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By Neil Wilson

The extraordinary events of recent weeks have tested not only the mettle of hedge fund managers, investors and service providers to the limit, but also the creativity of headline writers. And by now you might be thinking all those "market meltdown" clichés must have been exhausted.

Maybe you should think again - because I have been musing on yet more clichés, ones that would most appropriately describe what has been happening to hedge funds in this tumultuous period. I have been pondering such clichés as: shooting the messenger, witch hunt, and of course, night of the long knives.

While all those expressions may well suggest where hedge funds stand today, I think another I heard recently sums up the situation most aptly. And that is? Collateral damage.

The term came up in a discussion I had recently with someone doing battle to uphold the industry's cause among regulators and lawmakers. While markets were calm, this source told me, it had been possible to get them to listen to sound arguments about the benefits hedge funds bring - such as providing liquidity, cooling overheated markets, exposing corporate frauds and generally enhancing the efficiency of capital flows.

"But when the top priority - maybe the only priority - is salvaging the financial system itself, then most of them suddenly don't want to listen," I was told. "Their attitude is: If a few hedge funds go down in the process - even if a lot of hedge funds go down in the process - then so be it. That's just collateral damage. If the system itself is saved, then that is all that really matters."

Of course, that is very unfortunate for many hedge funds - and completely unfair. Perhaps it is possible to change that mind-set - if the powers that be eventually conclude that hedge funds are not part of the problem but part of the solution. I think that is a battle that can still be won.

But in the meantime, there is a nasty feeling of retribution in the air. Hedge funds have generally done well in recent years, much better than traditional managers. And now it feels uncomfortably like payback time - a chance for the old, established institutional world to take the hedge funds down a peg or two.

In this new world of plunging markets, fearful counterparty relationships and much more expensive leverage, it seems certain many hedge funds will go out of business - all around the world. Among Asia-Pacific funds, the number of shutdowns at midyear was already running ahead of the number of startups, and at least 68 had closed their doors by October. The attrition rate has been rising fast in Europe, too.

With so many funds now far from high-water marks and hit with redemptions, the shutdown rate seems certain to spiral. Nobody knows how many funds will ultimately go, but it seems likely at least 15% will go in the near future.

Speaking at the AsiaHedge Forum recently in Hong Kong, Marshall Wace co-founder Paul Marshall said that perhaps as much as 40% of the industry will disappear. But then, to a sharp intake of breath from the packed hall, he added: "This is of course great news."

It is harsh, perhaps. But destruction like we are now witnessing does create opportunity - for those who survive. And what is even better news, Marshall argued, is the likelihood large-scale competition from proprietary trading desks of the investment banks will disappear, too. The end result of all this, he argued, will be a world of less competition - as well as, arguably, more opportunity than for a generation.

During the same week, AsiaHedge held its seventh annual awards event - proving that, despite a subdued mood, a number of big players had still done really well in the region over the past year. These included the winner of the Best Management Firm award, Gartmore Japan of Tokyo, as well as the Brevan Howard Asia macro fund and Dragonback multistrategy funds managed out of Hong Kong, and the Artradis Barracuda volatility arbitrage fund managed out of Singapore, which took the top award for Fund of the Year.

Within days, the $4 billion-plus Artradis group proved Marshall's point - announcing plans for a new $500 million convertible fund, which aims to take advantage of the huge opportunities in the bombed-out CB market and which the team says it can exploit (initially at least) without any leverage. Whether Artradis will be the best placed to exploit the new opportunities is yet to be proved. But new opportunities are coming. And hedge funds can - and I think will - play a major role in resolving the serious problems of the global markets.

ISSN: 2151-1845 / CDC10004H

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