Cramer:"Fixed-Income Hedgies Are Dead Without Leverage
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Cramer:"Fixed-Income Hedgies Are Dead Without Leverage
"Fixed-Income Hedgies Are Dead Without Leverage"
By Jim Cramer
RealMoney.com Columnist
3/10/2008 1:49 PM EDT
"You know what? I think we actually can blame the hedge funds this time around! I think it actually makes sense. But it isn't the equity hedge funds that we have to blame, it is the monster-sized fixed-income hedge funds.
No equity hedge funds can get the kind of 9-to-1 or 20-to-1 or even 35-to-1 leverage that fixed-income funds can get. That's because equity has such a haircut -- and the Fed sure doesn't like that kind of leverage for equities, anyway -- that the money isn't being thrown at you like that. Anyone who has read Confessions of a Street Addict knows that my margin calls in 1998 had to do with the need to put up 50 cents for every dollar of stock I owned. Nothing more.
That's not the kind of leverage that is to blame for this meltdown.
No, this is a market that is going down because lots of fixed-income hedge funds went to investors and consultants for investors and said, "Look, we have a really good business model. We simply borrow money to buy lots of rock-solid investments, AAA mortgages, agency paper. We can make 1% a month, risk-free."
That was the sales pitch. It had real resonance with the biggest pension funds in the world. They want that, not the wacky up-and-down returns of equities. These levered hedge funds did it. They borrowed at 4% and bought at 5% and made a percent! They can do that all day.
And they did.
These funds typically have a bogey, they have to do better than, say, what Treasuries would give you. But without borrowing money to do this trade, you don't get much of a superior return. It isn't worth giving these people money. And it isn't worth doing their funds. The business model only works with massive amounts of leverage.
The business model doesn't work then with the changes that are happening right now. If the funds that are doing this kind of thing can't borrow 9-to-1, the returns after the bogey just aren't there. These funds should simply unwind and close. They don't have another way to make money. It doesn't matter whether the paper they bought was agency or mortgage. They can't borrow enough money to beat the bogey.
That's what you are seeing happening right now. With Merrill (MER - commentary - Cramer's Take - Rating) and Goldman Sachs (GS - commentary - Cramer's Take - Rating) and Morgan (MS - commentary - Cramer's Take - Rating) and Bear Stearns (BSC - commentary - Cramer's Take - Rating) and Credit Suisse (CS - commentary - Cramer's Take - Rating) and Citigroup (C - commentary - Cramer's Take - Rating) and Lehman (LEH - commentary - Cramer's Take - Rating) trying to shrink their balance sheets, they are in no mood to make exceptions to the rule, no matter how good.
In other words, you can be the salesperson covering Annaly Capital Management (NLY - commentary - Cramer's Take - Rating), the best there is, the best, the one that raised its dividend today, and the bosses at Merrill don't even want to hear about it. They want Merrill to stop lending to "these types" and they aren't going to make any exceptions to the rule, no matter how good the managers are.
Consider this like the CDO business. It isn't a business without leverage. It just isn't. Will the Annalys always find someone to lend to them? Of course. It is the amount of leverage that is the issue, not the leverage. With every bank trying to shrink its balance sheet, it will be impossible for everyone who needs 9-to-1 to get it, even if they are buying pure agency paper.
Things can change. This business can come back. But I think in the end, it won't ever be the same. Too much money lost. Too much sense by the actual investors -- not the funds -- that they were taking on more risk than they realized.
That, in the end, is what matters. The actual investors. They now realize they weren't in risk-free funds after all.
And the people who run those funds can't handle the liquidations, and the bogey will keep them from making any money anyway, so why bother?
Why is all of this important? Because I bet this is about a couple of trillion dollars worth of funds that don't deserve to exist.
And won't in a matter of months.
At the time of publication, Cramer was long Goldman Sachs and Annaly."
(in www.realmoney.com)
By Jim Cramer
RealMoney.com Columnist
3/10/2008 1:49 PM EDT
"You know what? I think we actually can blame the hedge funds this time around! I think it actually makes sense. But it isn't the equity hedge funds that we have to blame, it is the monster-sized fixed-income hedge funds.
No equity hedge funds can get the kind of 9-to-1 or 20-to-1 or even 35-to-1 leverage that fixed-income funds can get. That's because equity has such a haircut -- and the Fed sure doesn't like that kind of leverage for equities, anyway -- that the money isn't being thrown at you like that. Anyone who has read Confessions of a Street Addict knows that my margin calls in 1998 had to do with the need to put up 50 cents for every dollar of stock I owned. Nothing more.
That's not the kind of leverage that is to blame for this meltdown.
No, this is a market that is going down because lots of fixed-income hedge funds went to investors and consultants for investors and said, "Look, we have a really good business model. We simply borrow money to buy lots of rock-solid investments, AAA mortgages, agency paper. We can make 1% a month, risk-free."
That was the sales pitch. It had real resonance with the biggest pension funds in the world. They want that, not the wacky up-and-down returns of equities. These levered hedge funds did it. They borrowed at 4% and bought at 5% and made a percent! They can do that all day.
And they did.
These funds typically have a bogey, they have to do better than, say, what Treasuries would give you. But without borrowing money to do this trade, you don't get much of a superior return. It isn't worth giving these people money. And it isn't worth doing their funds. The business model only works with massive amounts of leverage.
The business model doesn't work then with the changes that are happening right now. If the funds that are doing this kind of thing can't borrow 9-to-1, the returns after the bogey just aren't there. These funds should simply unwind and close. They don't have another way to make money. It doesn't matter whether the paper they bought was agency or mortgage. They can't borrow enough money to beat the bogey.
That's what you are seeing happening right now. With Merrill (MER - commentary - Cramer's Take - Rating) and Goldman Sachs (GS - commentary - Cramer's Take - Rating) and Morgan (MS - commentary - Cramer's Take - Rating) and Bear Stearns (BSC - commentary - Cramer's Take - Rating) and Credit Suisse (CS - commentary - Cramer's Take - Rating) and Citigroup (C - commentary - Cramer's Take - Rating) and Lehman (LEH - commentary - Cramer's Take - Rating) trying to shrink their balance sheets, they are in no mood to make exceptions to the rule, no matter how good.
In other words, you can be the salesperson covering Annaly Capital Management (NLY - commentary - Cramer's Take - Rating), the best there is, the best, the one that raised its dividend today, and the bosses at Merrill don't even want to hear about it. They want Merrill to stop lending to "these types" and they aren't going to make any exceptions to the rule, no matter how good the managers are.
Consider this like the CDO business. It isn't a business without leverage. It just isn't. Will the Annalys always find someone to lend to them? Of course. It is the amount of leverage that is the issue, not the leverage. With every bank trying to shrink its balance sheet, it will be impossible for everyone who needs 9-to-1 to get it, even if they are buying pure agency paper.
Things can change. This business can come back. But I think in the end, it won't ever be the same. Too much money lost. Too much sense by the actual investors -- not the funds -- that they were taking on more risk than they realized.
That, in the end, is what matters. The actual investors. They now realize they weren't in risk-free funds after all.
And the people who run those funds can't handle the liquidations, and the bogey will keep them from making any money anyway, so why bother?
Why is all of this important? Because I bet this is about a couple of trillion dollars worth of funds that don't deserve to exist.
And won't in a matter of months.
At the time of publication, Cramer was long Goldman Sachs and Annaly."
(in www.realmoney.com)
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