Hedge Fund Question

My colleague Joyce Koh assumes that hedge funds are about to play a more prominent role in the global economy:

In Japan, low returns and weak company profits have alienated hedge funds and fund managers. Goldman Sachs figures that average return on equity for companies listed on the Tokyo Stock Exchange's main section will be around 10.2 percent in the current fiscal year through March, 2008, compared to 20 percent in the U.S. and 15.7 percent in the rest of Asia. In the US, the sub-prime mortgage crisis have bruised many lenders, which would welcome a cash injection ala Citigroup and the Abu Dhabi fund.

The reality is that these funds will play a bigger role in the global investment scene. The question is how and where they will put their money. Unless domestic investors step up to the plate, or regulators curtail these investments, it will be hard to resist their immense purchasing power. That is the big story of the next few years.

While I agree with Koh on many levels (although not in the case of Japan, where hedge funds are in fact investing, just not in equities, but rather in the Japanese yen) there is one counter argument to her hypothesis that is worth considering.

As western derivatives volumes continue to decline, this is arguably more the sort of environment where pension funds and mutual funds snap up safe, big, cheap companies at bargain basement prices than it is one where hedge funds are sprouting up across the globe to take advantage of greedy investors.

The question boils down to what will happen when the volatility subsides, and if it will lead to excess redemptions in hedge funds – which we broadly saw in August this year. If that does happen, hedgehogs may be hiding in the bushes for a little bit before braving the streets again.