German Central Bankers: Beware Hedge Funds

Published in Lipper HedgeWorld.com, December 2006 Edition
www.hedgeworld.com

BONN, Germany (HedgeWorld.com)—The Bundesbank has published its annual financial stability review, and has included surprisingly strong words of caution about the hedge fund industry and its possible deleterious effects on the economy of Germany in particular.

"The behavior and resilience of major market participants play a key role in the market's dynamics," the report stated. "Disruptive effects might be generated by hedge funds, whose major presence in some market segments has a considerable impact on price movements."

The report stated that present macroeconomic trends are positive, and this has limited the broader damage that "misspeculations" by hedge funds have caused. But that won't always be the case, the report warned, and "market reversals might be intensified" by correlated investment patterns among such funds.

These words drew an immediate rebuke from the Alternative Investment Management Association, which said in a statement Wednesday [Nov. 29] that the comments were unfounded for a variety of reasons:

• Hedge fund managers, and in some cases the funds proper, are regulated throughout Europe, and their standard of governance is high;
• Hedge funds are also subject to the market discipline enforced by counterparties such as prime brokers; and
• The growth of institutional investment in hedge funds has brought higher levels of due diligence.

Both the Bundesbank's report and the AIMA's response alluded to the blowup of Amaranth Advisors LLP, New York, which lost nearly 70% of its asset value due to misguided bets on energy prices (previous hedge World story). The AIMA statement said that the financial system had absorbed the impact of this event, and that at any rate "the European hedge fund industry has not experienced such an event."

This is only the second year that the financial stability report has been published by the Bundesbank as a separate document. Two previous reviews of the issue of stability (in October 2004 and in December 2003) had been published as chapters within the respective monthly reports.

FSA urges more price transparency on hedge funds

Published in reuters.com, November 2006 Edition
www.reuters.com

LONDON (Reuters) - The Financial Services Authority (FSA) has recommended measures to make the hedge fund industry more open and transparent at a time when regulators have been stepping up scrutiny of the sector.

The watchdog is urging fund managers to spell out policies on pricing the instruments used in their funds and disclose these policies to firms such as prime brokers, the FSA said in a letter to the International Organisation of Securities Commissions (IOSCO).

Fund managers should have procedures for the day-to-day operation of a pricing process and these should be updated if a manager adopts instruments that are markedly different from those in an existing fund, the FSA letter, which was published by the FSA on Wednesday, said.

IOSCO is working on standards on the valuation process in the hedge fund industry and is due to complete this work by April next year.

The FSA visited a number of managers at hedge funds between March and May this year, as well as administrators and other groups.

The global hedge fund industry is estimated to hold up to $1.7 trillion (870 billion pounds) in assets with the bulk of funds registered in offshore locations like the Cayman Islands.

Hedge funds use instruments like derivatives and techniques such as leverage and short-selling to make returns. Regulators have been scrutinising the sector to ensure it does not pose significant risk to the financial system.

In early November, senior members of the U.S. congress told Reuters that the hedge fund industry is likely to come under scrutiny from lawmakers soon.

The chief executive of hedge fund company Man Group, Stanley Fink, told an IOSCO meeting earlier this month that he welcomed moves to improve transparency in the industry.