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January 31, 2008
Why hedge funds look so smart
Observers used to say hedge funds would cause financial disaster, but it appears in retrospect that they proved to be better at managing risk than banks.
According to Financial Times, Morgan Stanley lost more money in write downs and bad trades than Long Term Capital Management and Amaranth Advisors, the two highest profile HF disasters, combined.
“If you are handing out report cards for 2007,” John Coyle of JPMorgan told FT, “the hedge funds are looking like some of the smartest kids in the class at the moment.”
HF managers point out this difference between hedge funds and banks, says FT: Banks and brokerage firms take risks with other people’s money; “incentives are skewed toward uncontrolled risk-taking on the theory that heads, the traders win, and tails the shareholder lose, but the bonuses when they bet successfully are all theirs.”
Hedge funds look at things differently.
“Because it is our capital, we move more quickly to reduce risk,” an unnamed HF manager told FT. The paper cites as an example the moves by Jeff Larson of Sowood Capital Management, who closed the fund after it lost 55% of its investor money from wrong way debt bets.
“If it had been a Wall Street firm, everyone would have gotten zero back.”
FT further notes that many hedge funds have strict loss limits, even writing in their offer documents. Banks don’t - and some, like Morgan Stanley, and their customers, may have paid for it dearly.
Posted by su at January 31, 2008 11:54 AM