Hedge Funds Lose Over $1 Trillion! Investigation Ensues

Relax, the loss was only on paper.

Last winter, hedge funds were said to manage about $1.2 trillion. This summer, that figure reportedly doubled, according to The New York Times, The Wall Street Journal and other publications.

Holy Cow! From $1.2 trillion to $2.4 trillion in six months! That meant hedge funds must have grown at the rate of over $45 billion a week.

That's average growth of $6.5 billion per day!

Today, estimates of hedge fund assets are back in the $1.2 trillion range. As the Bid and Offers column in The Wall Street Journal explained, the sudden doubling represented the sum total of assets reported by hedge funds registering with the SEC, before an appeals court said they didn't have to.

John Nester, SEC's head of public relations, says the SEC figure is high because it "includes a lot of double counting."

About 2,500 registered investment advisers claim to collectively have $2.4 trillion in more than 13,000 hedge funds. But a lot of that money overlaps, Mr. Nester says. Say a fund that invests in hedge funds has $1 billion. It would report those assets. Then, the hedge funds where that $1 billion is invested would report that money again.

Here's what seems to happen: The manager of Fund A, a long/short equity fund, senses opportunity in commodity derivitives but doesn't know much about them. So he moves some of his clients' money to his commodity-maven friend's Fund B. Wouldn't be surprised to learn that a fund of funds then takes major positions in both Fund A and Fund B.

Care to guess the total management fees and "profit bonuses" paid by the unfortunate affluent soul (or pension fund) who invests in that fund of funds? Neither do I.

Good riddance

Writing in The New York Times recently, Jenny Anderson ($) says the Securities & Exchange Commission should rejoice that it was barred from registering hedge funds.

[A] hedge fund blowup would have resulted in S.E.C. officials' being hauled before Congress and lambasted for failing to protect investors. . . .

Now, when a fund explodes — and a fund will blow up — Christopher Cox, the S.E.C. chairman, can testify on Capitol Hill with the comfort of knowing that the agency simply didn't have the authority.

Imagining what comes next should not be hard for anyone who witnessed the collapse of Enron and its aftermath. Congress will express shock and dismay at the rampant greed and moral vapidity of the hedge fund business, ignoring the fact that many in Congress receive campaign contributions from those very same funds. Rather than blame the S.E.C., lawmakers will aim their fury at the hedge funds, pools of money run by rich people for rich people.

Congress will leap into action and produce Sarbanes-Oxley, Part II: The Blame Hedge Funds Bills.

Hedge funds may be primed to explode, but so far this year's returns don't seem to justify the risk. According to Merrill Lynch calculations, the average hedge fund returned less than the DJIA for the first six months of the year. The average long-short equity hedge fund was under water. No Alpha, no nothing.