November 27, 2006
Beware! The End’s Near
Here’s one more opponent to hedge funds, and an influential one at that. Canadian money manager Eric Sprott believes that the entire financial system could collapse thanks to hedge funds. Sprott’s firm Sprott Asset Management Inc., runs assets of about $4-billion, of which $1.5-billion is in the form of hedge funds.
Getting back to the financial system collapse scenario, Sprott argues that banks are today offering massive leverage to hedge funds in the form of loans. Hedge funds usually borrow around three or four times their invested capital as this helps them earn bigger returns on investments.
Well, there is no problem with borrowing huge amounts of money. The problem lies with the nature of business of some of the more unscrupulous hedge funds. For instance, there is now a fast growing market for credit default swaps. So, hedge funds are now betting on the likelihood of companies defaulting on bonds. And the worrying aspect here is that most of the betting takes place on borrowed money – money that we regular guys put into our banks.
Sprott’s doomsday theory has it that if the market collapses, banks will suffer huge loan losses. Agreed, this can be quite a dangerous scenario. So what is the solution to this problem – one that allows hedge funds to grown and yet doesn’t put the entire economy in danger? Well, Sprott believes there is only one way out – regulation.
He believes that regulation will control the leverage offered to hedge funds. And, here is where he differs from other regulation theorists; it’s not the funds that need to come under scrutiny. Banks already have a set of rules in place that govern the amount of money that can be lent to managers. All Sprott wants is strict enforcement of these rules.
--
Did you enjoy this post?
Comments
Post a comment
« Window To The Future Of Hedge Funds | Main | December Is ‘Let’s Invest In Hedge Funds’ Month »
Recent Comments