Hedge Funds Seek Bankers Specializing in Capital Markets as Concerns Mount Over Leverage, Credit Derivatives
Fed Chairman, Ben Bernanke, told lawmakers on Capitol Hill that hedge funds play an important role in providing liquidity and distributing risk in financial markets. “They certainly are a benefit to the economy. They provide a good deal of liquidity in the markets.” Bernanke also said the Fed should seriously consider federal licensing of mortgage brokers in the wake of troubles in the subprime mortgages market.
The hedge fund industry has grown rapidly over the past few years. By the end of 2006, more than 9,000 funds managed more than $1.5 trillion. Though still relatively small when compared to the mutual fund industry, hedge funds can make greater use of leverage. But hedge fund borrowing to invest in credit derivatives may increase volatility in a market slump, according to a Fitch Ratings survey of 65 banks and insurers. The study concluded that hedge funds are borrowing too much to finance investments in credit derivatives, which may magnify volatility in a market downturn. In Fitch’s opinion, the uncertain outlook for credit markets, combined with the large positions taken by hedge funds, which are often highly leveraged, may result in a number of hedge funds and banks attempting to close out positions with no potential takers of credit risk on the other side.
Hedge funds’ influence on credit derivatives and debt markets has continued to grow at a “dramatic pace,” according to the Fitch survey. A derivative is a financial obligation whose value is derived from underlying assets, such as debt and equity. Banks and money managers bought and sold about $50 trillion of credit derivatives in 2006, more than twice the total in the previous year, Fitch said. Greenwich Associates also reports that the funds are responsible for 60% of all trading in credit-default swaps and about 33% of collateralized debt obligations (CDO), securities that package debt.
This may be good news for professionals with expertise in capital markets looking for hedge fund opportunities. Executive recruiting firm, A.E. Feldman, says hedge funds are increasingly looking to hire bankers who specialize in capital markets to serve in administrative and advisory roles for the debt and equity markets.
