It seems almost impossible that the US can avoid a recession, and unlikely that Europe won’t suffer the same fate. Australia might courtesy of our dual speed economy and distance from the storm’s epicenter, but that might depend on India and China avoiding the fallout also. There are still some other train wrecks waiting to either happen or show themselves. CDO’s may have become a well known terms in the last month, but watch out for Credit Default Swaps, Conduit Funds and Counter Party Risk joining the party.
Specifically for the Hedge Fund sector, there’ll be frantic activity as funds which used Lehman’s as their Prime Broker try to establish alternative arrangements, literally overnight. Hedge Funds use their prime broker for a range of services, including trade settlement, stock borrowing, funding, trading platforms, systems and capital introduction. Larger funds might employ more than one prime broker and will find it easier to switch, but for others it won’t be as easy.
On a more positive note for Australian based funds, Lehman’s were not directly active in the local prime brokerage market, but it won’t prevent a tightening of credit lines and risk limits from the main Prime Brokers, the leading players in Australia being UBS, followed by Goldman Sachs, Morgan Stanley, ABN Amro and Merrill Lynch.
In reality there aren’t too many local funds over leveraged at present, but any change in a fund’s credit or other limits will certainly result in the unwinding of some trades, putting further downward pressure on markets.
Otherwise, some hedge funds (and their investors) will not only ride the storm out, but benefit from it also. The local industry has a wide disparity of performance, with the majority not only outperforming the ASX200 year to date, but approximately one third handing in positive returns. The volatility of the past two months, along with the sharp retracement of resource prices, will test some managers who thought the bull market would last forever. With approximately 50% of results now in, the local industry is currently positive for August, with September shaping up to be an interesting month.
