Archive for December 20th, 2007

Anyone can be a Hedge Fund manager it seems

December 20, 2007

This is an amusing piece from Dean P. Foster (of Wharton) where by using humour he points to an important point- hedge funds need to be regulated.

Scarcely a day goes by without another story of some large hedge fund blowing up due to bad bets. While many of the latest hedge fund casualties are linked to the subprime mortgage crisis, investors should not be lulled into thinking that the problem will be solved once the mortgage mess is mopped up.

Hedge funds are risky for another reason. It is extremely difficult to tell, based on past performance, whether a fund is being run by true financial wizards, by no-talent managers who happen to get lucky or by outright scam artists.

He then shows how easy it is to become a hedge fund manager and make huge returns by riding on his luck. The logic is simple:

take a position that yields high returns with high probability and extremely poor returns with low probability, and keep your fingers crossed. Credit default swaps are one example, so are bets on interest rate spreads. Such strategies are risky but not fraudulent; the manager can always argue that his opinion about the odds differed from the market odds (he was simply engaging in arbitrage).

The suggestions are common stuff- should be registered with regulators, should publish their financial statements regularly etc.

Nice and simple.

Posted in Financial Markets/ Finance, Policy | 3 Comments »

Fed’s manna from heaven seems to be ending

December 20, 2007

Yesterday I had pointed to a Charles Possner (Philadelphia Fed President) interview where he raised inflation pressures appear more broad based.

Today I read this recent speech from Jeff Lacker (Richmond Fed President) where he also suggests inflationary risks are building up:

As measured by the 12-month change in the PCE price index, inflation was 3.5 percent ending in June 2006. That measure of inflation fell to 1.8 percent in August 2007. Similarly, core inflation, which omits volatile food and energy prices, was 2.5 percent in August 2006, and then declined to 1.8 percent in August 2007.

Those declines were heartening, and when the financial market turmoil intensified in August the improving inflation picture allowed even an inflation hawk to endorse an easier monetary policy stance. Since August, however, the inflation picture has deteriorated.

In September and October, the overall PCE price index rose at a 3.3 percent annual rate, and the core index rose at a 2.6 percent rate. Judging by the closely related consumer price index, the numbers for November will be even worse. Now these numbers do display transitory swings, so I wouldn’t extrapolate them forward indefinitely. Still, I have to say that I am uncomfortable with the inflation picture, and disappointed that the improvement we saw earlier this year was not more lasting.

So now Fed members are getting concerned about rising inflation. He ends the speech by saying:

Going forward, markets expect oil prices to back off slightly from their current level, and I hope they are right. If energy prices fail to decline, monetary policy decisions will be that much more difficult in 2008.

This is the stance of many a economists and analysts (like me)- What will Fed do if inflation risks materialise and subprime woes continue? Which way will it swing?

Actually all this points to an irony. Fed is taking all these steps to prevent economy from slowing down but a slowdown would actually help inflation from rising. Inflation is expected to rise on account of rising food prices but can be moderated due to a slowdown in the economy. Slowdown means less demand and as a result prices do not increase as much.

Interesting times certainly.

Posted in Central Banks / Monetary Policy, Economics - macro, micro etc, Financial Markets/ Finance, Speech / Interviews | Leave a Comment »

Assorted Links

December 20, 2007

1. Fed released the result of the first TAF operations held yesterday. Here are economists’ reactions.

2. WSJ Blog points to US Senator Charles Schumer ‘s speech on 4 subprime myths:

1. The Myth of Vastly Expanded Home Ownership from Subprime Lending
2. The Myth of the Unqualified Borrower
3. The Myth That Borrowers Can Easily Obtain Perfect Knowledge of The Terms of Their Mortgage Loans
4. The Myth that the Free Market Alone Will Fix Everything

Superb.

3. Numerous suggestions are being floated to fix this subprime mess. Read Summers’ advice (suggest fiscal policy intervention) and Fisch et al ‘s suggestion (taking a cue from Savings & Loan crisis, provides excellent advice). Eminent economists comment on whether fiscal measures would help.

4. TTR on dangers of rupee appreciation, and on whether the Central Bank intervention would work or not.

5. Ajay Shah says capital controls are futile.

Posted in Assorted Links | Leave a Comment »

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