In defence of hedge funds


Douglas Shaw of Black Rock spoke at a Civitas lunch this week on the topic 'In Defence of Hedge Funds'. Good luck to him. The industry is about to be overrun by an EU army of new regulations, which will knock any innovatory stuffing out of them. As investment businesses evolve and grow in the US, Switzerland, the Middle East and Asia, the stunted European hedge funds will look more and more like the evolutionary throwbacks of the Galapagos.

I don't know why hedge funds don't spend about a thousand times more on PR, because they have a positive story to tell. Their clients are all large, savvy investors, who probably know their business better than any regulator. There are about 10,000-odd funds, and the sector is diverse and highly competitive. Their leverage was only about 3x before the crash, maybe 2x now – much less than the 8x or so of the banks – so you can hardly say they are structured recklessly. And again, the institutions which lend them that money demand very detailed information about their risk and management profiles.

Oh, yes, they short-sell shares of basket cases like Northern Rock. But that just speeds up the demise of the inadequate, by making prices reflect what is really happening, rather than what half-blind regulators think is happening. It's not the cause of the crash. Indeed, after the ban on short selling came in, the markets continued to fall...and fall. Even the best hedge fund manager does not expect to be right more than two-thirds of the time, but the fact is that hedge funds tend to be more right than wrong – which is why their returns have well exceeded the market indicators and why government agencies, along with pension funds and all the rest, buy into them.

Still, the EU regulation is a done deal, apart from a few drafting points, so maybe it is past the time for 'defence'. Being the sole EU country with a truly global financial market, the UK will lose a lot more than others from all this. But then if the UK loses, the whole EU loses, and the US, Switzerland and the rest gain. But I repeat: why have these efficient, effective investment bodies not spent more money promoting their positive message? Perhaps they are just better at anticipating markets than at anticipating politicians. Well, they are learning the hard way.