The Domino Effect of Hedge Funds on Financial Markets
From Citigroup to Bear Stearns, the list of major hedge funds that are on the brink of collapse or have halted investor withdrawals keeps growing by the day.
A number of news stories have given ink to the recent fall from grace of many hedge funds and the implications it has for other market participants. In an article in the Wall Street Journal, Liz Rappaport and Justin Lahart concluded that the pressures in one market no doubt render consequences in another. In this case, the troubles that some hedge funds are experiencing threaten to further weaken lending, borrowing, spending and investment in the U.S. economy.Â
According to a March 5, 2008, story in Business Week, at least 24 hedge funds have barred or limited investors from taking their money out of the funds, thereby tying up tens of billions of dollars for an indefinite period of time. A number of hedge funds have gone this route to avoid selling illiquid assets at fire-sale prices, which would almost certainly put a major dent of losses in their portfolios.
Other hedge funds are taking a different approach by liquidating their funds to maximize investor value or minimize losses rather than gamble on an uncertain future. For example, on March 5, Peloton Partners announced plans to liquidate its largest hedge funds due to various investments tied to subprime and Alt A mortgages. As these investments spiraled downward in value, the funds’ banks, Goldman Sachs, Merrill Lynch and UBS, demanded more collateral, leaving the funds with no alternative but to liquidate.
A few days later, on March 12, Drake Management announced the possibility of shutting down its largest hedge fund – Drake Global Opportunities Fund – and said it planned to evaluate closing two others, the Drake Low Volatility Fund and the Drake Absolute Return Fund.
Looking ahead, the liquidity problem for some major hedge funds is likely to continue, as more lenders, including Wall Street banks, demand that the funds put up more collateral to secure their loans. Bloomberg.com reports that since Feb. 15, at least six hedge funds, totaling more than $5.4 billion, were forced to liquidate or sell holdings for this very reason.
In turn, the continuing meltdown of hedge funds will create a domino effect, producing not only more turmoil on Wall Street but on Main Street, as well.
Our affiliation of lawyers is actively involved in advising individual and institutional investors in evaluating their legal options when confronted with subprime and other mortgage related investment losses.
