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Comment by danwyd | Hacker News Reader

Fairy long article. Here's the summary:

Hedge funds are investment vehicles that have avoided being heavily-regulated because they only accept money from government-certified "accredited investors." Their investment strategies are secret and unconventional. Some of them deliver floods, while the average one doesn't do that well.

Hedge funds provide liquidity, which makes it easier to trade; and conduct arbitrage, so that prices are muscled into line before they get totally irrational. (The latter doesn't always work though.) Meanwhile, since they have fewer safety nets, hedge funds are more aggressive about monitoring their own risk. They're better than banks in that respect, which are much more heavily leveraged and which have a history of being supported by the government when they mess up. Hedge funds have never been bailed out by the government like banks have time and again.

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Long-Term Capital Management's bailout was organized by the Fed even though it didn't actually take on the assets. If the private bailout hadn't been agreed to, then the Fed would have directly intervened.

I say this to correct the record, not to detract from your point about risk management, which is true.

And it is not whether an organsiation is a bank or a hedge fund that determines if it is bailed out - it is the expected social cost of it's collapse that determines it - hence LTCM was bailed out, because the smart money thought it would take us all with it and why Lehmens was not (mistakenly?)

I think the issue at the time was that none of the big banks/financial entities trusted each other anymore. Everything was grinding to a halt and one by one companies were collapsing and having to be bailed out by the US government. I think a point was reached where it was decided to let Lehman fail, stress test the system in order to see who was really solvent and who wasn't and then prop it backup and reinflate it.

Oh I got the impression it was more a philosophical idea "moral hazard" was allowed to proceed, then it scared everyone. I seem to recall the Governor of the. Bank of England saying Lehman was an example of avoiding the moral hazard of bailouts then 24 hours later bailing out started.

There is a good podcast on LSE / iTunes with Adair Turner and Buttonwood Writer from The Economist who are the fire I have heard to beyond "Banks and fraud and regulation" and into "Global savings, infinite credit" and suggest things like 100% reserve banking (ie no credit if not created by central banks)

It's worth listening too even if it's rather uneven.

Oh there was an element of that in there as well. But bear in mind before Lehman they'd bailed out AIG I believe to the tune of 200billion USD? I think to keep effectively writing blank cheques to cover Wall Street's fuckups was becoming increasingly untenable. I think they were faced with three choices, keep bailing out publicly which was politically untenable, bailout on the quiet which would likely have ended up with Japanese style Zombie corporations or let Lehman fail and get the worst over with.

If their investment strategies are secret, then how do we know that hedge funds haven't been bailed out by governments - at least indirectly? The secrecy makes it more difficult to evaluate if public policy could have been steered by politically connected hedge funds.

1. There is no relationship whatsoever between the secrecy of their strategies and the likelihood of a government bailout. Most companies have some sort of proprietary secrets, after all.

2. They are no more secretive than the average private company. In fact, this is largely a myth, as is the belief that hedge funds are "lightly regulated". You can in fact find a lot of information about a fund by spending five minutes on the SEC website.

We know they've been bailed out indirectly. Among other mechanisms: as counterparties to bailed out banks, as money market investors, and as holders of corporate and GSE debt.

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