Pensions to Hedge Funds: Lock Me Up
As markets tumble, hedge fund investors are asking for longer lock-up provisions in order to preserve their investment.
Say what?
The reasoning goes like this. If an investor can redeem, and does in fact ask to redeem, a hedge fund manager may be forced to sell assets to raise cash. More liquid assets are sold first, leaving behind less liquid assets that are arguably harder to value. Pre-mature sales, due to accelerated redemption requests, may even force a hedge fund to close and "give long-term investors their money back at a time when asset prices are low." By asking for longer lock-up periods, investors are seeking to forestall forced sales and thereby protect their original investment. See "Hedge investors ask for lock-ups to avoid closures" by Laurence Fletcher, Reuters UK, October 8, 2008.
We caught up with Mr. Edward Stavetski, Director of Investment Oversight, Wilmington Family Office, and asked him for his two cents. Here is what he has to say.
"This crush of cash outflows may be only one cause of fund closures at year end. Consider high water marks as we near the end of the calendar year. As news that some hedge funds are down 30 to 40 percent, it will become quite difficult for those fund managers to realize any earnings from their respective 20 percent performance clause. Most funds use management fees to keep the lights turned on but depend on the performance fee income to hire star traders or retain top talent. Without the near-term promise of a high performance payout, we could see a dramatic shift of key players in the hedge fund world. While people may rejoice that the 'nasty' hedge fund cult is finally getting its just desserts, the damage will reach far beyond the hedge fund community. The rush to buoy cash holdings will depress prices of stocks, bonds, mortgage-backed securities and other capital-raising mechanisms in the near-term. None of this is good news for investors, asset managers and/or consumers."
This blogger wonders if smart money will head towards or away from hedge funds. After all, if pensions and 401(k) plans are dumping stocks in record numbers, and U.S. treasuries (and international equivalents) return little, how else will plan sponsors and individuals "make up for losses?"
We'll watch and see.
