positioning for a return to a significantly more risk-adverse
stance by their clients, amid an exit from higher risk investments
such as hedge funds and private equity, in favour of a flight to
quality towards cash and government
obligations.
While private bankers say it is premature to talk about the
emergence of a ferocious bear market triggered by the US subprime
mortgage lending crisis, they do indicate that the steep fall in
world markets along with the de-leveraging of highly-geared sectors
is starting to unnerve many clients.
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Michael Dobson, CEO of Schroders, says he does not believe “we are
in for a bear market” but cautions “we are probably in for a period
of lower returns”.
Morgan Stanley’s Global Wealth Management Group is recommending
clients raise their cash position a couple of percentage points to
13 percent. Many advisers say they have cut their recommended
equity stakes for conservative investors from about 55 percent to
50 percent.
Credit storm
Private bankers agree that, under the current credit storm, client
sentiment may undergo a sea change that will make many happier with
more conservative asset-allocation models. Potentially, even the
huge growth in hedge funds of all classes, which has led to the
growth of outstanding global investment to about $1.5 trillion, may
be coming to an end, at least for this economic cycle.
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By GlobalDataAfter the strong four-year bull run by global equities, many
investors have been able to lock away handsome gains and may be
content to accept lower returns in safer investments. Yields of
government bonds around the world have been falling as investors
have been turning to these “safe haven” securities, bankers point
out. In the US, ten-year Treasuries are showing their best returns
for several years.
At worst, bankers say, many classes of hedge funds could take a big
mauling from the current sell-off. Many credit hedge funds have
been posting losses after sharp price falls in loans, bonds and
derivatives. Other common hedge fund strategies including
long/short equities and merger arbitrage are showing falls.
A noted critic of alternative investments, Jeremy Grantham, who
oversees $150 billion as chairman of Boston-based Grantham, Mayo,
Van Otterloo & Co, says credit market turbulence may result in
as many as one-half of all hedge funds closing in the next five
years.
The loss of investors’ appetite for risk may also cause at least
one global bank and “one or two” of the largest private equity
firms to go out of business, asserts Grantham, who has previously
warned about unsustainable “asset bubbles” in most investment
classes.
Worldwide, about 9,800 hedge funds are in operation. The US
subprime mortgage lending crisis is sparking the latest unnerving
casualties among hedge funds. These include Sowood Capital
Management in the US, which failed as investors exited riskier
debt, including subprime mortgages and loans, to fund
buyouts.
Hedge fund meltdown
A big rush is expected in August by investors seeking to liquidate
their holdings in hedge funds thought to be most at risk from the
meltdown, particularly those credit strategies funds which have
invested in subprime and related mortgage debt.
JPMorgan Asset Management ranks as the world’s largest hedge fund
manager, with nearly $42 billion under management, followed by
Goldman Sachs.
US investment bank Bear Stearns, hit by the collapse of two hedge
funds, has halted redemptions in a third hedge fund after nervous
investors wanted to pull out their money. Its $850 million
Asset-Backed Securities Fund experienced declines in July,
prompting some investors to request redemption of their
investments. The assets in the fund are tied to prime mortgages,
rather than underlying subprime obligations.
The big Swiss banks could also be hurt by de-leveraging. Earnings
at Credit Suisse and UBS could be slashed by up to 19 percent as
buyouts slow, Deutsche Bank analyst Matt Spick warned. Credit
Suisse made $2.1 billion last year from leveraged finance –
representing 13 percent of investment banking revenue and a 50
percent increase on the year before.
It is the fear of investor losses running into hundreds of billions
of dollars from subprime problems that is most undermining markets.
According to ratings agency Moody’s, nearly 20 percent of all US
mortgage debt is at risk, or about $2.5 trillion of subprime
mortgages.
However, the shock-absorption capacity of “the core of the
financial system is very high”, said Pierre Cailleteau, Moody’s
chief international policy analyst. The turbulence on financial
markets associated with the US subprime crisis has not reached
systemic levels of intensity.
Still, some degree of asset destruction will have to be absorbed by
investors and financial institutions alike, and nervousness will
linger until the size and distribution of losses is finally known,
Cailleteau cautions.
