14 November 2008

House Committee of Government Oversight and Reform hearing on Hedge Funds

The world’s five top hedge funds managers agreed that hedge funds can pose systemic risk to the financial system, and supported the need for more regulation and disclosure requirements of hedge funds activities.

The Committee held a hearing examining systemic risks to the financial markets posed by hedge funds and proposals for regulatory and tax reforms.

 

The world’s five top hedge funds managers agreed that hedge funds can pose systemic risk to the financial system, and supported the need for more regulation, in particular more disclosure of hedge funds activities. However, as there currently is not enough information available, no serious judgement can be made on possible systemic risks resulting from these institutions. They also called for equal tax treatment of hedge funds and other financial market participants.

 

The financial crisis was generated by the system itself, George Soros, Chairman of Soros Fund Management said, underlining the need for international banking regulations. The severity of the crisis shows that something is fundamentally wrong, he said and called to re-activate controls on credit in form of margin requirements and minimum capital requirements.

 

Some hedge funds pose a systemic risk, Soros said, which justifies greater federal regulation. The excessive deregulation is at the root of the current crisis, he underlined.

 

James Simons, President of Renaissance Technologies, harshly attacked the role of credit rating agencies that - in part – led to the current situation. Although there are many causes for the crises the conflicts of interest in the function of credit rating agencies aggravated the crises.

 

Simons called for the creation of a new independent credit rating agencies financed by the 'buyers', not by the 'issuers' of financial products.

 

John Alfred Paulson, President of Paulson & Co, and Philip Falcone, Senior Managing Partner of Harbinger Capital Partners both criticised the high leverage of financial institutions as well as of some hedge funds. Companies such as AIG and Lehman Brothers did not have enough equity, Paulson said. And too high leverage poses potential systemic risks, Mr Falcone added.

 

Kenneth Griffin, President of Citadel Investment Group however underlined that banks were the preliminary lenders to hedge funds, and that hedge funds themselves have not caused the crises. However, proper regulation is critical, he underlined.

 

Witnesses were concerned about the lack of transparency, in particular with regard to holdings, leverage and counterparties. In particular Mr Falcone and Mr Griffin called for clearing institutions for CDSs as this would support transparency and helps to reduce systemic risks. However, this should be open to all market participants, not only to the traders.

 

All witnesses supported steps to increase the transparency and disclosure to a regulating entity although this information must not be made public. However, the regulator should not only collect the information, but also needs the authority to impose action against hedge funds. This is exactly what is needed, Mr Soros said. However, it is critical to clearly define the requirements, like leverage ratio, etc., that have to be fulfilled.

 

Finally, the current design of the TARP programme was highly criticised. Mr Falcone for example called for the elimination of dividends, restrictions on cash compensation such as bonuses for companies taking advantage of the rescue package.

 

TARP was probably not the best idea, Mr Simons said. Sooner or later we have to question ‘what this stuff is worth’, he added and proposed come kind of an auction of the troubled papers in question. In the near term it is critical to keep people in their homes, he underlined. Also Mr Soros underlined the need to renegotiate mortgages.

 

Link to written testimonies

Video of the hearing

 

© US Congress