Michael Sainsbury and Scott Murdoch | March 27, 2008
UP TO 1000 hedge funds around the world could collapse as the industry consolidates, casualties of the rush of long-short equity funds that entered the market during the global bull run.
HSBC's global head of hedge funds, Patrick Tuohy, said yesterday that the role of hedge funds had become greater in directing trade, as the market endured one of its greatest ever routs.
He said the ease with which hedge funds were set up while the market was strong had created a number of players who would not survive the current downturn.
"To be honest, we see this (consolidation) every 10 years and it's actually very, very healthy," Mr Tuohy said.
"If you lose 500 or 1000 it's not really the end of the world because as the hedge fund universe has expanded one has to say there has been a dilution of the quality. The guys who are suffering at the moment, in terms of prime brokerage pulling back on them, are the newer guys. It's the whole rising star philosophy - they are finding it particularly tough."
Mr Tuohy said the industry would further consolidate as people set up mixed-asset funds in which private equity and hedge funds would merge into one broader group.
"We have never been fans of investing in leveraged carry trades. That is why we were never in any of the structured finance plays that have had difficulty."
"Those guys are finding it particularly difficult because leverage is the only thing that drives their return.
"There will be a shake-out. I think some of these funds, before they go to the wall, will find it easier to sell their books to somebody else; some people might go back to being long-only managers again."
Urs Alder, the Australian chief of Man Investments, one of the world's biggest hedge funds, estimates that there have been between 10,000 and 12,000 hedge funds around the globe. But Man only invests in about 400, after sifting closely through more "a couple of thousand".
"It was very easy to set up a hedge fund between 2003 and 2007," Mr Alder said.
"During the bull market a lot of money moved into that space, but a lot of those shops will move out of the industry and many of them shouldn't have been there in the first place," Mr Alder added.
Man Investments manages $US71 billion in funds through a mix of fund of funds and its own hedge funds. "At least 1,000 hedge funds will go bust, maybe more," he said. "But it's good for investors so they can see who can handle it."
Mr Alder said that an analysis by Man showed that since last July the MSCI index had fallen 6.7 per cent but the HFRI index was up 3.6 per cent.
The HFRI is a benchmark index that charts the performance of funds of hedge funds.
"It's not great, but we are still preserving your cash better than the equities market."
Mr Alder said that he believed that market had not reached the bottom - by any stretch.
"It's going to get worse, there is more to come - it's not even close to the bottom. We haven't seen the fallout in the corporate world and that will lead to a lot of defaults," he said.
Analysis by Merrill Lynch shows the percentage of distressed debt in the US has doubled to 15.6 in January, the highest level since May 2003.
An index measured by Moody's, the ratings agency, showed 11.5 per cent of issuers had debt trading at distressed levels at the end of last year, up from 4.2 per cent a year previously.
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