The audacity of hedge funds and their lack of righteousness

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THINK ASIAN By ANDREW SHENG

IN the old days, technical books were read for one's education, but they are so boring that you would fall asleep. You read novels instead for their drama, romance and excitement. In this fast moving world where daily events are more thrilling than fiction, books like More Money than God by Sebastian Mallaby make you want to turn the next page.

Written by a former journalist, who today works for the US Council for Foreign Relations, the book has combined blood and guts story-telling of the hedge fund industry with careful analysis, tracing meticulously how the industry works like Sherlock Holmes. The narrative is so thrilling that when the author described the scene where the hedge funds took down Thailand in 1997, my hair stood on end. I was a ringside witness but I had not known who was doing what and how they did it.

If you want to know how hedge funds sniff out opportunities by talking to honest and nave central bankers who admit that they made policy mistakes and then make more money than God, read this book. It is both a clinical analysis of how hedge funds emerged from nowhere to become the market movers of today, as well as a morality story that raises more questions than it is able to answer. It may not be illegal (at least under existing law) to do a trade that tips a nation into abject poverty because there were tragic policy mistakes, but is it morally right to take home billions by accelerating the process of “creative destruction”?

The central insight of the hedge fund industry is brilliant it is that the academic finance theory is all wrong and we are all naive to believe otherwise. Modern finance theory begins with the assumption that the market is efficient and knows best. The efficient market hypothesis is based on the view that it is not easy to beat the market.

However, the hedge fund industry makes most money from the inefficiencies of the market. If you are not convinced, how between May 1980 and August 1998, the Tiger Fund earned an average of 31.7% per year after fees, beating the 12.7% return on the S&P500 index. The offshoots of the Tiger Fund, created by people who left the Fund to set up on their own, generated returns of 11.9% per year between 2000 and 2009, compared with the average of 5.3% per year for the S&P index.



Mallaby takes the story from the 1949 creation of the first hedged fund by Alfred Winslow Jones to the emergence of a sophisticated and complex US$2 trillion industry. He weaves a wondrous tale of how tribal and interconnected the industry became as it emerged.

Nobel Laureate Paul Samuelson, famous for arguing that randomly chosen stock selection would beat professionally managed mutual funds, was a founder investor of the Commodities Corporation, one of the first “quants” to use computer analysis to trade commodities. The Commodities Corporation was the nursery for three future hedge fund giants, Bruce Kovner (Caxton), Paul Tudor Jones (Tudor Investments) and Louis Bacon of Moore Capital.

Louis Bacon had connections with two of the Big Three in the early 1990s, being related by marriage to Julian Robertson (Tiger Funds) and worked briefly with Michael Steinhardt. The last of the Big Three is George Soros (Quantum Fund), who became famous as the man who made 1bil speculating in sterling and has become a philosopher/philanthropist. Many of these funds were involved during the speculative raids on Asian currencies during the 1997/98 Asian crisis and it is likely that many of them are having a food fest in Europe right now.

The last chapter of the book is a defense of why hedge funds should not be regulated. “The case for believing in the industry is not that it is populated with saints but that its incentives and culture are ultimately less flawed than those of other financial institutions.”

In Mallaby's view, “whereas large parts of the financial system have proved too big to fail, hedge funds are generally small enough to fail. When they blow up, they cost taxpayers nothing.” Yes, but when their prime brokers blew up with them, it cost taxpayers trillions.

Here lies the contradiction of their existence. Hedge funds are symbiotically tied to their prime brokers, the investment banks and large global banks that provide the leverage for their activities. No leverage means no ability to hedge or speculate. The latter group is too big to fail and its proprietary trading, combined with those of the hedge funds, are large enough to move markets.

The earlier argument that the prime brokers would safeguard systemic stability by indirectly regulating hedge funds (many of whom are former staff of the prime brokers) failed when Lehmans collapsed.

Hedge funds thrive because of regulatory and information arbitrage. The more the regular banking system is regulated, the more business drifts to the under-regulated shadow banking institutions.

Mallaby argues that it remains unproven whether heavier regulation will succeed. The regulators were scared to regulate, because of moral hazard, that is, the industry would take higher risks and the government would pay. Unfortunately, whenever there is a financial crisis, the government would be blamed and have to pay, irrespective of heavy or light regulation.

While hedge funds are not of public concern if they remain small, their herd like effect becomes a real problem when the momentum play can drive even mid-sized nations over the brink. Europe today is a live experiment of gigantic proportions. If someone makes tens of billions through speculation from the failure of some European countries and millions become unemployed, it is no longer a regulatory issue. Rightly or wrongly, this is a political crisis of the first order.

More Money than God should be the first book for everyone to read if they are to understand how the hedge funds dissect the European crisis as an opportunity.

Andrew Sheng is President of Fung Global Institute and author of From Asian to Global Financial Crisis.

Euro, death approaching soon ?

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Death of a currency as eurogeddon approaches

It's time to think what hitherto markets have regarded as unthinkable – that the euro really is on its last legs.

They need to wake up fast; it's happening before their very eyes. In its current form, the single currency may always have been doomed, but it has been greatly helped on its way by an extraordinarily inept series of policy errors. Photo: AFP

 By Jeremy Warner, Associate editor - Telegraph

The defining moment was the fiasco over Wednesday's bund auction, reinforced on Thursday by the spectacle of German sovereign bond yields rising above those of the UK.

If you are tempted to think this another vote of confidence by international investors in the UK, don't. It's actually got virtually nothing to do with us. Nor in truth does it have much to do with the idea that Germany will eventually get saddled with liability for periphery nation debts, thereby undermining its own creditworthiness.

No, what this is about is the markets starting to bet on what was previously a minority view - a complete collapse, or break-up, of the euro. Up until the past few days, it has remained just about possible to go along with the idea that ultimately Germany would bow to pressure and do whatever might be required to save the single currency.

The prevailing view was that the German Chancellor didn't really mean what she was saying, or was only saying it to placate German voters. When finally she came to peer over the precipice, she would retreat from her hard line position and compromise. Self interest alone would force Germany to act.

But there comes a point in every crisis where the consensus suddenly shatters. That's what has just occurred, and with good reason. In recent days, it has become plain as a pike staff that the lady's not for turning.



This has caused remaining international confidence in the euro to evaporate, and even German bunds to lose their "risk free" status. The crisis is no longer confined to the sinners of the south. Suddenly, no-one wants to hold euro denominated assets of any variety, and that includes what had previously been thought the eurozone safe haven of German bunds.

Investors have gone on strike. The Americans are getting their money out as fast as they decently can. British banks have stopped lending to all but their safest eurozone counterparts, and even those have been denied access to dollar funding. The UK hardly has anything to boast of; it's got its own legion of problems, many of them not so dissimilar to those of the eurozone periphery.

But almost anything is going to look preferable to a currency which might soon be assigned to the dustbin of history. All of a sudden, the pound is the European default asset of choice.

What we are witnessing is awesome stuff – the death throes of a currency. And not just any old currency either, but what when it was launched was confidently expected to take its place alongside the dollar as one of the world's major reserve currencies. That promise today looks to be in ruins.

Contingency planning is in progress throughout Europe. From the UK Treasury on Whitehall to the architectural monstrosity of the Bundesbank in Frankfurt, everyone is desperately trying to figure out precisely how bad the consequences might be.

What they are preparing for is the biggest mass default in history. There's no orderly way of doing this. European finance and trade is too far integrated to allow for an easy unwinding of contracts. It's going to be anarchy.

It's worth stressing here that for the moment the contingency planning is confined to officialdom. This week, for instance, we've had the Financial Services Authority's Andrew Bailey admit that he's asked UK banks to plan for a disorderly breakup of the euro. He'd be failing in his duties if he hadn't. Europe's political elite, as ever several steps behind the reality, still regards the prospect as unimaginable.
They need to wake up fast; it's happening before their very eyes. In its current form, the single currency may always have been doomed, but it has been greatly helped on its way by an extraordinarily inept series of policy errors.

First there was the disastrous suggestion from Angela Merkel and Nicolas Sarkozy that if Greece didn't buckle under it might be chucked out. Markets reacted logically, which was to sell bonds in any country that looked vulnerable and chase "safe haven" assets, thereby making it much harder for governments to fund themselves.

The blunder was compounded by attempts to underpin confidence in the banking system by forcing banks to mark their sovereign debt to market. This may only have recognised the reality, but it also destroyed the concept of the "risk free asset", forcing banks for the first time to apply capital to their sovereign debt exposures. Unsurprisingly, they stopped buying sovereign bonds, again making it harder for governments to fund themselves.

But perhaps the biggest sin of the lot was effectively to render all credit default swaps (a form of insurance against default) on sovereign debt essentially worthless, or void, by making the Greek default "voluntary".

This has made it impossible to hedge against eurozone sovereign debt purchases, and thereby destroyed the market. Worse, it's made investors believe that the euro cannot be trusted, that it'll repeatedly find ways of reneging on contract. That's the point of no return. This is no longer a serious currency.

Don’t be a total sucker!

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 There is no easy way to make a fast buck other than cheat and there is no such thing as love at first sight. - a warning to people not to be so silly to believe whatever strangers tell them, especially through the Internet

MORE than 10 years ago when the Internet and e-mails first became popular, many crooks found them to be the most convenient way of cheating people, especially those living thousands of miles away.

The scams were simple ones that played on the element of pity and the sums asked for were small.

Some of the con-artists would pretend to represent certain well-known charitable organisations soliciting US$10 (about RM31).

Many kind-hearted and gullible people did reply to such e-mails and ended up sending cash by post.

If 1,000 people around the world responded, these crooks would get away with US$10,000 (RM31,000) but chances are they got a lot more.

However, people then wised up to such tricks and these criminals got more sophisticated.

While previously they preyed on people’s generosity, now they have turned to our greed. Greed is what the “winning lottery ticket scam” is based on.

People would get e-mails informing them that they had won a lottery worth millions. They would be convinced into paying some money in order to get hold of the bigger sum.

Of course, playing on greed is the surest way to make a scam work. There have been various versions of this winning lottery scheme and they are so obviously tricks, yet all sorts of people have been cheated.

I know of a doctor and a magistrate who lost hundreds of thousands of ringgit to these crooks, who more often than not originate from Africa or specifically Nigeria.

Apologies to any Nigerian who feels offended by this statement, but even the Nigerian Police Force (NPF) has set up many task force teams to tackle and arrest such cyber crooks.

Even 10 years ago, I had found that the NPF had set up a website to handle such complaints.

I even took to e-mailing all suspicious looking e-mails soliciting money or trying to tempt me with money to the NPF, which wrote me a letter of thanks for doing so.



The scams have got even more sophisticated and the crooks started registering e-mail addresses with names of people supposedly related to despots, dictators or deposed leaders from the continent. This was called the inheritance scam.

Their claim is that their father/mother/brother/sister/uncle/friend was that deposed leader and had stashed away millions in a secret account in an off-shore bank and needed to use your account to transfer the money out of that country.

They promised to share the loot and hundreds, if not thousands, have fallen for this trick all over the world.

How people can be so naïve and greedy is beyond comprehension.

Look, there is no such thing as easy money unless it is a trick by a conman to get your money from your wallet.

Just like the black money scam, where these people offer to sell you millions of US dollars for a fraction of the value. The catch was that you needed to buy special chemicals that would “wash specially treated black paper” into becoming US dollars.

Just on Monday night, 76 people, mostly Africans, were arrested by Federal police for cheating hundreds of people of RM29mil through various scams.

Bukit Aman commercial crime investigations deputy director SAC Datuk Rodwan Mohd Yusof said the police received 945 reports from January to October over con jobs that included parcel scams, black money, inheritance swindles and black magic.

A parcel scam is where the schemer would inform a victim that he or she had received parcels with expensive gifts, jewellery or cash, but the parcels had been detained by Customs.

The victim is then persuaded to make a payment to a stipulated account for the parcel to be released.
The schemers reaped RM19.6mil through this scam, the biggest loss suffered by the victims.

This was followed by the black money scam, which netted RM1.4mil.

“The crimes involving African scams are getting serious, with more people falling prey to them,” SAC Rodwan said.

This should be a warning to people not to be so silly to believe whatever strangers tell them, especially through the Internet.

But these scams only rob your pockets, unlike those who prey on innocent ones, especially young women, into becoming drug mules.

Again many Africans are being blamed for this.

They use the social media, namely Facebook, to befriend Malaysian women and lure them to carry a bag to a foreign country.

There are about 100 such women languishing in jails in places like Peru and China for trying to smuggle drugs into those countries.

Deputy Foreign Minister A. Kohi­lan said these syndicates were targeting young women, aged between 20 and 35, without any criminal record.

Kohilan said he spoke to six women who were caught for drug trafficking in Peru during a bilateral visit there last year.

“They claimed that they were cheated. One said a man had promised to marry her and asked her to carry a luggage to Peru,” he said.

Police have found that these tricksters are usually good looking and had the gift of the gab.

Young women easily “fall in love” with them and end up willing to do anything for them.

Parents should remind their daughters that there are many predators on the Internet and all of them have no good intentions.

A recent survey by the Women’s Centre for Change (WCC) found 80% of 100 girls, aged between 15 and 17 surveyed over eight months, had received calls or text messages from strangers via mobile phone while 54% of them had chatted online with strangers.

The centre’s programme director Dr Prema Devaraj said the findings showed young women were now easily accessible to people whom they did not know, including potential perpetrators.

“Many of them don’t seem to understand the danger in making friends with strangers by chatting online or over the phone.

“They may feel ‘safe’ because they are not in the presence of the person they are chatting with,” Dr Prema said.

It is not enough to teach our children to be streetwise.

They must also be taught to be cyberwise. There are just too many crooks and monsters out there.