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Hedge Funds May Sell At Year End As Banks Skimp On Lending

Date: Thursday, November 20, 2008
Author: Dow Jones Newswire

For equity markets, 2008 will long be remembered as a year of massive selling, and it's likely to end the same way.

Hedge funds will find it increasingly difficult to obtain lending at the end of the year, a time when banks typically tighten their lending anyway as part of the "window dressing" process. This year, two key securities firms that supplied loans to hedge funds, Bear Stearns and Lehman Brothers, have disappeared, and the remaining firms that lend to hedge funds are hanging on to cash in an effort to deleverage themselves.

"These tight financing positions over year-end are likely to result in the forced sales of securities prior to year-end," said an Alliance Bernstein research report put out Wednesday.

The prospect of tight lending and higher rates for hedge fund borrowers suggest that the markets across asset classes still face further selling by hedge funds, a process that has contributed to market selloffs this fall. Already, hedge funds have to sweat out more investor redemption deadlines - some funds force investors to give either 35 or 30 days notice if they want to withdraw money by Dec. 31 - which could lead to selling as well.

As Dec. 31 approaches, banks, in a bid to prepare their balance sheets for year-end reporting and raise Tier 1 capital, will reduce their discretionary lending. "As this large funding source disappears, the cost of funding over that short period near Dec. 31 rises rapidly," wrote Brad Hintz, analyst and author of the report.

Major lenders face pressure and sources of lending are dwindling. Commercial banks experienced huge losses in 2008, and continue to face challenges regarding capital positions.

Goldman Sachs Group Inc. (GS) and Morgan Stanley (MS), which are in the middle of complying with their new bank holding company status, are under pressure to deleverage their balance sheet. Lehman Brothers and Bear Stearns were major sources of funding, and in 2007 provided $385 billion in funding, or about 40%, during the year-end turn, Bernstein says.

Bernstein notes that the "the year end turn is simply a seasonal spike in funding costs and liquidity pressure that occurs every December and ends Jan. 1. Though we believe this year will be worse than normal, conditions will quickly recover in the New Year."

-By Jessica Papini, Dow Jones Newswires; 201-938-2437; jessica.papini@ dowjones.com

-By Joseph Checkler, Dow Jones Newswires; 201-938-4297; joseph.checkler@ dowjones.com