The Super ‘Madoff Cocktail’
Bernard Madoff, the former Chairman of the Nasdaq, has gone into the history books, for the wrong reasons. Masterminding the gargantuan ponzi scheme which is one of the of biggest fraud cases ever, he could have changed the future of the already shaky world of hedge funds forever.
This US$50 Billion fraud scheme will send great repercussions through the world of hedge funds and alternative investments. Many of these investment schemes operate under a veil of secrecy which is under threat of being removed amid calls for greater regulation, thereby killing their efficacy and their existence. This scenario may play out in the short to mid term. In the immediate aftermath of this is the lost of trust in the strategies, which could trigger another round of sell-down.
The October sell-down was said to be the result of massive hedge funds selling to meet redemptions. With the lost of trust comes the redemption by the institutions and the rich. The funds could deal with the redemptions in 2 ways:
- Sell off the assets, even when it means doing it in a fire-sale kind of way. Many hedge funds and alternative investments hold illiquid assets which may have to be fire-sold to raise cash fast
- Suspend the redemptions. We are already seeing some funds doing this to protect the interest of other investors and avoid a fire-sale. Doing this enmass would trigger more panic and would most likely just delay the inevitable
A wave of selling can be expected next year when the new redemption period starts. On what scale will it be remains to be seen.
Calling this Madoff ‘incident’ as ‘Madoff Cocktail’ is certainly an understatement considering that a Molotove Cocktail is easy to prepare and the inflicted damage limited. The exact opposite is more appropriate and likely result.
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