Those on the hedge fund beat may recall how themasters of the universe have in most cases suffered a reversal of fortune. 2008 was a bad year for most strategies, and the perterbations of September and October made matters worse. Sudden plunges in markets lead to margin calls, and the funds would sell whatever seemed most least bad to sell at that particular moment. Iwt was a regular feature those two months to see sudden downdrafts that looked to be someone dumping a large position.
To make matters worse, prime brokers, the friendly money junkies to hedge funds, had been getting more and more restrictive. both raising rates and reducing the amount of credit on offer. That too put pressure on levered funds to reduce positions.
To add insult to injury, investors have been withdrawing funds, to the point where some funds have restricted redemptions, arguing that the investors would be better served if the positions were liquidated gradually and opportunistically, rather than against a short timetable.
The reason for the long-winded intro is two-fold. First, there is still a fair bit of hedge fund liquidation in the pipeline, due to the need to meet payout obligations. We now have an additional source of hedge fund selling pressure, namely, that banks are cutting down even further on hedge fund borrowing.
From the Wall Street Journal:
Under financial pressure, securities firms are dividing their hedge-fund clients into lists of those they consider best able to weather the financial turmoil and those they’re less sure of. The result is that more funds may have to merge, find other financing at higher cost or close.
The squeeze, described by a range of brokerage-firm and hedge-fund officials, takes different forms. For instance, they say firms have reduced financing for the flagship fund run by John Meriwether, a founder of Long-Term Capital Management, the fund whose near-collapse caused a brief market crisis in 1998. The move has forced Mr. Meriwether’s Relative Value Opportunity fund — down 42% in 2008 — to reduce its borrowing to finance trades, putting pressure on returns…
Banks also have pressed Kenneth Griffin’s Citadel Investment Group, whose biggest funds lost 54% last year, to sell some securities and reduce its borrowing to finance trades…
Being on banks’ less-favored lists doesn’t necessarily mean a death knell for hedge funds…But since many hedge funds make heavy use of borrowed money, or leverage, reduced financing can crimp performance…
Wall Street banks have put 200 or more other funds on what might be called B-lists: funds seen as either too risky — because they could fold — or not profitable enough to the banks….Some funds find that brokerage firms are adding monthly “custody fees” or “administration fees” and ceasing to accept certain assets as collateral on loans.