Hedge funds blowing up helps pay for pensions | Hacker News Reader

Hedge funds blowing up helps pay for pensions

fattailedthoughts.substack.com

2 pointsjaredeklee138 comments

Linked article says nothing about how hedge funds blowing up helps pay for pensions.

Quick trigger finger.

"Most of the money these hedge funds manage comes from pension funds, endowments, and similar organizations that are trying to grow their investments today to pay out the needs of retirees and students tomorrow. We do not know how to create a system that allows fund managers to design novel investment strategies that are risk-free. If we want to continue to encourage fund managers to invent strategies that potentially generate large returns for their investors, we have to accept that blows-ups are part of that invention process."

I read that. When a hedge fund blows up, the pension funds that invested in it lose all their money. That's all there is to it.

The linked article presents a straw man that the only two hedge fund investing options are "risk-free" and "occasionally blowing up", and since we can't have the former we have to accept the latter.

But the Archegos-Credit Suisse case shows clearly that there is a middle ground, that much can be done to prevent blowups. The big banks just don't bother. Proper risk management by banks would help pension funds much more than simply negligently letting hedge funds blow up.

The purpose of the bank's risk management is to protect the bank. A bank who services a hedge fund as a prime broker does not have an obligation to assist a pension fund in proper due diligence of a hedge fund investment.

The interests of the prime broker and hedge fund investors are often not aligned. e.g. Archegos - Goldman dumped the Viacom shares to save the bank from losses at the expense of Archegos.

Responsibility for a pension fund's risk sits with the pension fund.

Now if you're proposing that limiting a hedge fund's access to leverage by preventing banks from extending such leverage would overall de-risk the system thus providing a safer playing field for pension funds... possible, but you're attempting to derive causation in a complex system which begs the question of what unpredictable derivative effects come along with the change, the magnitude of those effects, and their net effect on safety.

If you're suggesting that the system is too complex to derive causation feasibly in the field of leveraging risk, then it's simply insane for pension funds to invest in hedge funds, and the fact that they occasionally blow up doesn't help the pension funds at all; because from the standpoint of all outside observers (including pension funds and other hedge fund managers), the blowups will appear random and provide no helpful information for future decisions.

The unstated assumption in the above paragraph is that net returns from hedge funds, accounting for losses from blowups, are still high enough to warrant pension funds investing in them. But experience shows that's not the case, e.g.:

"I know in the long term private equity is supposed to give us very healthy returns, but that of course has not been the case for quite some time,” said Sung Won Sohn at Tuesday’s board meeting. “It’s been anything but healthy returns…"

https://www.nakedcapitalism.com/2021/04/lacers-board-member-...

Can't argue with the data - agreed on the average. Not to say there aren't brilliant fund managers and pensions that are able to identify them.

But how does it follow that regulations should restrict a pension's choices?

I'm not advocating any particular policy. I'm still trying to perceive any chain of logic that leads to the conclusion that hedge funds blowing up is good for pension plans.

The point I was trying to make above is that better risk management by banks that lend to hedge funds would be actually beneficial to pension funds, as opposed to letting hedge funds blow up randomly, whose value is as yet not established.

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