As everyone rushes to conclude that America’s financial-regulatory regime is completely broken, the FT has something to say (registration required) about hedge funds whose UK-based assets — estimated at $65 billion dollars — were frozen in the Lehman bankruptcy. “Hedge funds have been quietly shifting billions of dollars of assets out of London to the US, claiming that the US legal system provides greater protection,” the pink paper reports.
On the same topic, Hedge Funds Review notes that the US-based Managed Funds Association sent a letter to the Bank of England to inform central bankers that “prime brokerage clients are already withdrawing their assets from the UK prime brokers/UK branches of overseas prime brokers. This development is calling into question the future of the UK prime brokerage market.” (Prime brokerage is the business of providing extra-good service to good, big brokerage customers like hedge funds, sort of like personal-shopping services at Saks.)
It’s complicated, but it comes down to this: when a broker-dealer’s parent company goes bankrupt, customers’ assets held at that broker dealer are not supposed to be mixed in with creditors’ claims, whether that customer is an individual will a few thousand dollars’ worth of securities or a hedge fund with billions’ worth. Customers are not creditors. (By contrast, counterparties on trades, like credit-default swaps, for example, are creditors, and have no such protection.)
Transferring customer accounts could be complicated, especially when customers allowed the broker-dealer to lend their stocks out to other clients for securities-shorting purposes (This practice, too, is different than allowing the firm to borrow against these securities using its own credit.)
But on our side of the pond, since the Lehman holding company declared bankruptcy Sept. 5, customers’ assets have been transferred to other brokerage firms in an orderly fashion. The Securities Investment Protection Corporation, which oversees this process, said five days after the firm’s court filing that “[w]e [are] working with all parties to achieve what will be the fastest-ever restoration of customer accounts in the history of the Securities Investor Protection Corporation.” Since then, no one has complained.
In London, however, assets are still frozen, the process to figure out who owns what seems more complicated, and customers are not pleased with the prospects for the free use of their own funds and securities anytime soon.
A similar issue has come up in Australia this year, as well, with US regulations looking favorable in comparison.
Hedge fund assets could continue to shrink considerably on both sides of the Atlantic, as they have over the past few months. Leverage to funds has been cut off, asset values are falling, and customers jittery about any opaque, high-priced investment are questioning the business model. Still, though, if surviving and future hedge fund and other asset managers determine that American regulators and court administrators were better stewards of their assets than were their global counterparts, such a perception could encourage the movement of a higher percentage of global assets under management to the US, including to New York.
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