We are the first to admit that we are quick to criticize the hedge fund manager community when it comes to multiple issues ranging from fees to valuation. We've also been pretty harsh on the role of the administrator (what, me?? You want me to take responsibility for something???)
It is, of course, hardly fair if we don't highlight some of the weaknesses and contradictions of investor behavior.
Like many observers, we believe that many hedge funds will face significant redemption requests as of December 31. By the way, despite all the media talk of the September 30th deadline, most funds offer 90 day liquidity - you still have until tomorrow to get your paperwork in. Or you can wait for your 45 day notice funds in mid November.
The result of these redemption orders may very well be a broad swathe of managers adopting redemption gates. Indeed, if recent history is a guide, many funds may simply skip the redemption gate completely and suspend redemptions to progress a fund reorganization.
In the meantime, there is a risk that hedge funds raising cash in advance of year end redemptions will be forced sellers of securities. These sales could well drive down prices further, hurting fund performance still more, and thereby leading more investors to redeem their positions. We are all very familiar with the vicious circle in today's markets.
Against this background, the concept of the "provisional" redemption is toxic. Under this model, investors - and fund of funds are by far the worst culprits - will put in a redemption order "just in case". The investor may think that they will - probably - not need the redemption proceeds, but will put in the paperwork so that, closer to the redemption date they can decide whether they really want the money after all.
This is not exactly a good thing for managers at the best of times, but in the current environment is somewhere between extremely dangerous and just plain stupid. All this does is end up harming everybody involved: managers holding relatively illiquid portfolios may be forced to sell more of their positions (driving down prices) than they really need if investors don't reveal their "real" redemption plans in adequate time.
The solution would seem to be a prohibition on provisional redemptions. We've posted before that a hedge fund, from its side, should be able to honor its published redemption provisions. It's just as fair, therefore, to say that investors should live up to their side of the bargain and abide by those redemptions provisions, rather than try to find tricky ways round them.
The real problem here is, of course, the liquidity mismatch between fund of funds and their underlying hedge fund portfolios. As we have said before:
"There are certainly plenty of fund of funds which continue to offer monthly liquidity - in Europe, in particular, investors demand highly liquid fund of fund vehicles (even though this is with apparent disregard to what those fund of funds are actually invested in.) This may well be great but, ultimately, the laws of physics still apply - a portfolio invested in relatively illiquid assets cannot offer relatively liquid redemption terms. Sooner or later you'll lose at the game of chicken."
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