Nice little story in the Times this morning about
hedge funds and the people they’ve hurt. As everybody should know by now, you’re really
no better off,
on average, in a hedge fund than in any other investment vehicle. In
this article, we get the story of one man who lost his 250k investment
in the Bear Stearns blowup.
The most striking thing about the behavior of hedge funds over the
past few months is that they’ve made perfectly clear that while they
are increasingly willing to accept investments from non-institutional
clients, they are not interested in serving the interests of those
non-institutional clients. Incorporating and shielding assets in the
Caymans isn’t a rare or shocking tactic, but misleading people about
the quality of the structured debt you’re carrying should be both rare
and shocking to anyone who cares about a sound financial system.
Another noteworthy aspect of this story: the investor wasn’t exactly looking to get rich quick:
Mr. Greene, a former engineer, said he invested in
several hedge funds in recent years, aiming to preserve his principal.
Most of the funds have worked out well, he said, producing slightly
better-than-market returns with little volatility. He estimated that he
has $600,000 to $800,000 invested in hedge funds. He invested in the
Bear Stearns fund in October 2005, and he said the fund appealed to him
because its returns of about 1 percent a month did not seem to fall
into the too-good-to-be-true category.
So a wealthy individual looking for 1% monthly returns puts some
cash into a hedge fund, the fund blows up, and the individual is
probably left with nothing (he will be the last to get paid). You know
who else sought very modest investment returns, watched their assets
disappear almost overnight, and was pushed to the end of the line when
settlements were paid? Enron employees, that’s who.
Maybe it sounds a little hyperbolic to compare Bear Stearns to
Enron. But as far as we’re concerned, financial institutions have the
burden of proof to demonstrate that they’re not crooks, and
so far many hedge funds have not met that burden. Hedge funds abuse
their use of leverage, they mislead investors about the dangers and
details of their activities, and most importantly, they completely fail
to do the one thing for which they were created: they don’t hedge risk!
A hedge fund that takes on absurd levels of risk (as so many seem to
do) is nothing other than an unregulated pool of casino money.
One reason we started this site and our iron condor
newsletter was to teach individual investors to take control of their
own financial future. In all honesty, we would prefer a regulatory
regime and a political environment that didn’t simply hand unlimited
power and infinite protection to the wealthiest and most powerful
elements of corporate America.
But regardless of whether hedge funds even learn to govern themselves,
or continue to act irresponsibly (forcing someone else to govern them),
the same conclusion holds for individuals: you’re better off either
trading conservative strategies like ours, or in hands-off index funds.