John Gaine thinks institutional investors’ demand for alternative strategies will only grow once the credit crisis is over.
“From an economic point of view, the case for alternative investments will be stronger than ever,” Mr. Gaine, president emeritus and special counsel of the Managed Funds Association, said in an interview at the Security Traders Association conference in Boca Raton, Fla. He was referring to the aftermath of the current credit crisis, in which long equity investments have fallen about 40% during the past 12 months.
Mr. Gaine expects a rush into alternative strategies similar to the one that fueled the hedge fund industry after the 2001 crash of the Nasdaq bubble.
“Institutions realized then that you can’t leave all your eggs in a ‘long-only’ basket,” he said.
One hot topic of conversation among attendees of the STA conference was Citadel Investment Group Inc.’s poor performance this year because of the erratic market. Chicago-based Citadel is one of the world’s largest hedge funds, with $18 billion in assets under management. According to published reports, Citadel’s losses could be as high as 30% and stem in part from its exposure to Lehman Brothers Holdings Inc., which filed for bankruptcy on Sept. 15.
In a letter to clients sent earlier this week, Citadel CEO Kenneth Griffin warned that "In the weeks to come, I expect we will continue to see significant volatility in our earnings as the world manages through the unfolding crisis."
Because of Lehman’s bankruptcy, market participants who were counterparties in transactions with the Wall Street firm can't settle their positions until a decision is reached in court.
“The lack of coordinated administration or settlement of debtor in state is increasing systemic risk,” said Mr. Gaine, noting the current reluctance of many financial intermediaries to get into non-cleared transactions. “How do you pick your counterparty? How often do you update your information? Valuation is a huge issue.”
A debtor in state cannot collect money or assets owned until a bankruptcy court approves terms of a settlement.
Mr. Gaine said the Lehman counterparty problem is complicated by the fact that the Wall Street firm had a large U.K. subsidiary and its assets are frozen in different jurisdictions.
“We know now that the bankruptcy of a U.S. broker-dealer with a huge UK subsidiary is a huge issue,” he said.
Mr. Gaine agreed with other industry experts that another result of the market crisis is likely to be a significant drop in the number of hedge funds.
“We’ll see some consolidation,” he said, adding the industry will adapt to new regulations as it did in the past. “The issue remains about the regulatory structure. If we need to raise the standard for the hedge fund model, we’ll see,” he said, referring to pressure to enhance disclosure. He also noted that MFA members represent 65% of all assets under management in the hedge fund universe. That total asset figure stood at $2 trillion worldwide before the crisis intensified.
One point where the MFA is not ready to be flexible is short-selling restrictions.
“The short-sale ban, we adamantly oppose that,” Mr. Gaine concluded, as it would make it would make some hedge funds strategies impossible to implement.
Contact Isabelle Clary at [email protected]
