Tuesday, November 25, 2008

The Not-So-Smart Smart Money

It should be fairly evident by now that heavy redemptions at hedge funds over the past two months contributed significantly to the recent pounding in the one area where markets are liquid – stocks. Moreover, the deleveraging process continues to impact many hedgies as available capital (for leveraged strategies) has dried up*.

Accordingly and in anticipation of continuing redemption demands (many of which remain unsatisfied due to gating), many hedge funds have sold more than has been requested thus far. Lastly, there is some talk that private equity commitments of institutional investors are also forcing redemptions in their hedge fund holdings.

Investment Strategy Implications

With the market cap of the S&P 500 sitting at $7.4 trillion and money funds (institutional and retail) amounting to more that $3.3 trillion, the momentum nature of hedge funds and their high cash positions would only need a less bad environment (see Barton Biggs’ comments in yesterday’s Financial Times) to trigger a stampede back into equities.

With valuation currently at deep recession (bordering on depression/deflation) levels, any earnings surprises into 2009 (as in something north of $70) would be the justification for buying what was just sold.

*One wonders what has transpired behind closed doors between financial institutions and government re lending to the masters of the universe.

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2 comments:

Derek from Cloud9 Sports said...

Vinny, I've long believed that the bear will dominate so long as the institutional money is unsound (or more accurately: non-existent). Tens of thousands of big-time financial inst.'s and money-managing professionals are 'on the sideline' for a variety of reasons (redemptions being primary, as you cite here).

Taking this philosophy into consideration I think retail investors need to watch 'Mad Money'-type stocks, that is the stocks that institutions love to gamble on (mid to large caps with significant volume and more predictable trading patterns like Apple, RIM, MO, Lockheed, Exxon etc etc).

Would you constitute a rally in these types of stocks a good bottom-forming signal? Operating on the premise that the funds control the market, what signal best indicates their activity in your opinion?

Also, I was hoping you could comment on a metric I was conceptualizing (and have no idea if it exists or not due to my informal background in finance). In inflation-adjusted terms, can we gleam any information from a comparison between S&P and: median household income, discretionary income, median net worth. I'm looking to compare historical stock prices to the money people have in their pocket so-to-speak. Any assistance here is greatly appreciated.

Derek from Cloud9 Sports said...

A bump if you've got a minute Vinny. Thanks.