Hedge funds charging hefty fees for sophisticated trading strategies aimed at outperforming the wider market have collectively parked $100bn in simple money market funds typically used by investors seeking safe rather than spectacular returns.
Citigroup estimates that hedge funds have now placed $600bn in cash, and that $100bn of this is held in money market funds,
normally seen as some of the safest places to invest cash.
However, last week, those money funds became embroiled in the wider financial crisis to the point that the US Treasury was forced to offer a blanket guarantee on them as part of its attempts to prevent the spillover of the financial crisis into the $3,400bn sector.
The extreme measures taken by the Treasury followed mounting fears that retail investors in the sector could be starting to panic and might withdraw funds on a large scale.
But some analysts say the extent of hedge fund investment in money market funds shows how scarce attractive investment opportunities and safe havens have become.
In other words investors are paying a fee of 2% +20% of profits and the investment managers are partking the cash in money market funds yielding around 2$.
The WSJ noted the difficulty if not impossibilty for some funds to implement their strategies
Hedge Funds Wrestle With Short-Sale Ban
The short-selling ban is taking the "hedge" out of hedge funds.
The Securities and Exchange Commission has banned short sales of roughly 950 financial-related stocks until Oct. 2, a list that ranges from Goldman Sachs Group Inc. to International Business Machines Corp., which was added Wednesday.
With their hands tied on those stocks and the algorithms that do much of their trading running into technical hitches, many quantitative and other "market-neutral" hedge funds are significantly reducing trading activity, according to people on Wall Street. Once major buyers and sellers on the stock market, these funds may have to reinvent their models in the event the rule is stretched beyond the Oct. 2 deadline.
Such an extension is expected. The top executive at New York Stock Exchange parent NYSE Euronext said Wednesday he believes the emergency short-selling ban on the U.S.-listed financial stocks will be extended....
That would be continued bad news for most hedge funds. "There are very, very few short-only funds on Wall Street, so the ban mainly removed long/short funds from the market," said Dan Mathisson, head of the algorithmic-trading unit at Credit Suisse Group. "If they can't put on their short positions, they can't put on their long positions, either."
Market-neutral funds offset the risk of random market swings that they take when buying stocks by short selling, or selling borrowed stock, in an equivalent dollar amount of other shares. That way, as long as they choose their stocks well, they will make money whether the market goes up or down.
Many of these funds are "quantitative," and use mathematical models to identify relative strength and weakness in the market. Often, automated "algorithmic" trading programs keep their portfolios balanced between the long and the short side. Removing a large chunk of the "shortable" universe upsets that cosmic balance.