Nouriel Roubini predicted that hedge funds closures would be the next leg of the financial crisis. Large scale redemptions force hedge funds to sell assets at a time not of their choosing. More assets being dumped at a time of risk aversion is likely to lead to distressed prices, putting pressure on other players, since they will have to lower the marks on similar assets.
This could get ugly indeed…
From the Telegraph:
Hedge funds are preparing to return between 10 per cent and 50 per cent of their assets under management to investors who want their money back at the end of yet another quarter of dire investment performance.
One prime broker said: “Many funds will have to close. There were a flood of redemption notices at the beginning of the quarter but many investors said they wouldn’t actually withdraw the money if performance improved. It hasn’t.”
One hedge fund said: “We’ve produced 15 per cent returns for 10 years. This year has been bad and our funds under management have been reduced from $2billion to just $300m. This is decimation.”
Not a single hedge fund strategy has produced positive returns so far this month, with convertible arbitrage and distressed securities down an estimated 7.96 per cent and 7.34 per cent, respectively, according to Dow Jones Hedge Fund Indexes. Equity market-neutral funds, which often short a stock in one sector and go long on another in the same sector, are down 1.85 per cent.
Hedge fund of funds are expected to be hardest hit. One investor said: “You take a risk with individual managers but fund of funds are paid to make sure you’re diversified. Many have failed.”…
In particular the fee model – two per cent of assets a year for management and 20 per cent of profits – is likely to be reduced.
I hate to chest-pound, since it is singularly unattractive, but I cannot resist. I have been arguing with people for years that the hedge fund fees were unsustainable given that the industry had grown so large and average returns weren’t all that impressive. Everyone to a person maintained that hedge fund fees would never never fall, that talent was scarce and would always command a premium. The industry has grown so large that not everyone is all that talented.
It reminded me of the arguments I had in the 1980s with those who argued that credit card companies would never cut their fees (I forget whether it was $25 or more annual fee, plus 19.8% on any balances).