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by Hugh Hendry, CIO, Eclectica Asset Management UK.
This op-ed originally appeared in the Telegraph UK, on March 11, 2010. Though it's been 2 months since it was published, its prescient of not only the collapse of the euro, which Hendry has been calling for, most of the last two years, but the vilification of hedgies by regulators as scapegoats. Hendry stresses that hedge funds' interests are aligned with those of investors.
You don't know me; we've never met. But I fear you are being encouraged to dislike me. Let me explain: I'm a speculator. I manage a hedge fund. Apparently I profit from your misery. Accordingly, our political leaders are keen to see the back of me.
Only yesterday, Germany and France were calling for the "fastest possible" adoption of new rules to put an end to financial speculation. But before you write me off I ask that you listen to my side of the story.
First, and much like the bogeyman of folklore, the size and significance of the hedge-fund industry is vastly over-stated. The best estimate is that people like me control just 2.5 per cent of total global financial assets under management. The ability to move prices and markets resides more with the managers of pension funds, unit trusts and our banking contemporaries; fortunately, for them, they are on much better terms with our political masters.
Second, and much to my regret, I have to correct another misconception. I am not guaranteed success; far from it. I have no certainty or monopoly on making money; that's the nature of risk taking, there is no free lunch. And believe me, I am subject to the harshest possible critic: the market.
Unlike my political adversaries I can't spin this out. If I am wrong in my deliberations, I have to record a loss immediately. So it should come as no surprise that I give great consideration to what I do.
But what about this short-selling business and the allegation that hedge funds seek to profit from the misery of others; are we simply a scourge on society?
I believe not. Let me explain. In short selling, investors borrow shares and sell them, hoping that the price will fall and they can buy the shares later at a lower price, replace them and thereby turn a profit.
Hedge funds are not seeking to dictate economic affairs. Rather we are preoccupied by price. A market-based economy like ours requires a pricing mechanism to allocate resources and ensure that we all prosper. Get it wrong and we endure the calamity of the technology bubble and the sleazy debacle of the American mortgage crisis.
It's not that hedge fund managers are bitter and seek to wreak havoc. It's just that we believe that recurring and periodic recessions reveal the economy's winners and losers. And through our endeavours, hedge funds attempt to discover the identity and inadequacies of the poor businesses. During hard times, such businesses typically go bust, allowing us to make an investment profit by betting on that eventuality, and ensuring that successful and prudently managed businesses prosper.
Or rather that was how it was supposed to work. But our political leaders have gone to considerable cost to avert this normal business cycle.
Fearing that the huge scale of reckless bets within the banking system threatened another depression, our politicians have used public funds to bail out the economy's losers. And in doing so they run the danger of creating a plutocracy: a society ruled by the wealthy. Consider that fact that in Latvia school teachers have had to take a 35 per cent pay cut so that the Swedish banks who funded the real-estate bubble are repaid their imprudent mortgages.
We need to stop this socialisation of risk taking: heads I win, tails you lose. Consider the American government's enormous bail out of the failed insurer, AIG. According to the world's largest bond fund manager, Bill Gross, it is perfectly acceptable for the taxpayer to subsidise his returns. As he explained it to the investment magazine Barons: "All I'm saying is the government would lose almost $50 billion if it decides AIG no longer is worth supporting. It is a game of chicken. You either call the government's bluff or you don't."
I would recommend a different course of action. It is the same one recommended in 1930 by then US Treasury Secretary Andrew Mellon. I would call the bankers' bluff and seek to purge the rottenness out of the system. All of us will work harder, prices will adjust, and enterprising people will flourish. Of course, this is a minority view. Instead, those in power would rather use the subterfuge of inflation to hide the enormous public subsidy.
The politicians' problem is that free and independent capital markets tend to be anti-inflationary. As we have seen, attempts at quantitative easing immediately depress the value of existing government bonds in addition to the value of sterling. And then you have the problem presented by my little industry. But we are intelligent, well-funded and willing to vociferously challenge public decisions. Most importantly, we are on your side.
Hugh Hendry manages the Eclectica hedge fund
Source: We Hedge Fund Managers are on Your Side, Hugh Hendry, March 11, 2010, Telegraph.co.uk
