Hedge fund failures a dangerous sign


CORRECTION

An earlier version of this story included the wrong logo for Highland Capital Management.


TEXT OF STORY

Kai Ryssdal: The Dow Industrials swung through 9.5 percent today. Four and a half percent down at one point then it finished almost five back on the upside. So believe me when I hear you, man, what is going on? About a million different things, of course. But big hedge funds are one of the major causes.

Hedge funds, just to refresh, are those huge, mostly unregulated piles of money that're invested by big institutions and generally rich individuals. A growing number of them have gone from big winners to big losers. This week Dallas-based Highland Capital Management announced it's shutting down two of its funds, blaming what it calls "unprecedented market volatility."

Our Senior Business Correspondent Bob Moon has more.


Bob Moon:
When times were good, the hedge fund industry promised and mostly delivered outsize returns. To make that money, they used leverage, borrowing heavily to buy shares and other securities. But the credit crunch has pushed up the cost of those loans. That's part of the reason hedge fund returns are down as much as 8 percent.

Now, Desmond Lachman of the American Enterprise Institute says, unhappy customers are scrambling to cash out.

Desmond Lachman: Investors in these hedge funds don't see the reason why they should be paying these hedge funds very high fees if the hedge funds' performance has been so abysmal.

Lachman believes that's feeding stock market volatility.

Lachman: You're talking about a rather big force in the financial markets. So, if we begin to see hedge funds like Highland or Citadel suffering very big losses, going out of business, having to liquidate, that is a very important factor that keeps downward pressure on equity prices, bond prices-- you name it.

Christopher Holt is a market commentator who specializes in hedge funds at the Web site All About Alpha. He doubts a stock sell-off by the hedge funds is the major factor behind the market's recent volatility.

Christopher Holt: You know, it takes a lot more than just hedge funds to move the market to this extent. Hedge funds are a $2 trillion industry, which is apparently shrinking this quarter--to what extent we have yet to find out. But the mutual fund industry is well over $10 trillion.

Still, the AEI's Desmond Lachman worries the hedge fund troubles are a symptom of a much bigger problem. He says financial rescue measures are failing to keep mortgage values and other depressed assets from falling further. He suggests a full-scale economic stimulus plan is urgently needed.

I'm Bob Moon for Marketplace.

About the author

Bob Moon is Marketplace’s senior business correspondent, based in Los Angeles.

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