Friday, October 17, 2008

The Debts of the Spenders: Hedge Fund Summary

Hedge Fund Summary

1) The short ban really hurt the hedgies. They were unable to "hedge" against long bets. So, many liquidated their positions and went to cash. This started the sell-off.

2) Hedgie short term financing was destroyed in the past 3 weeks as Fed guarantees of money market accounts led to record hoarding by banks (as reflected in TED spread). Fund redemptions didn't help as investors dumped their positions to favor the now guaranteed money markets. This accelerated the sell-off.

3) CME/CBOT/NYMEX all raised margin requirements. Hedgies now have less leverage and are more liable to sell to cover any positions (long or short). This led to record volatility as hedgies swung from short to long to short again.

4) Conclusion: Hedgies are REALLY hoping for their lottery tickets on CDS contracts to pay off. Otherwise, they will go bankrupt.

Will Paulson bail them out? It depends on how much leverage (pun intended) hedgies have over the markets. I don't know since its all very opaque. I don't think even the hedgies or govt knows the true extent of the damage.


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