Research and publications

Disorderly exits from crowded trades? - On the systemic risks of hedge funds, A reply to the ECB's statement on hedge funds

An article in the June 2006 edition of the European Central Bank’s Financial Stability Review (FSR) claims that hedge fund activities pose considerable risk to the financial system. We disagree with this conclusion, which is based on mere speculation. We outline the fallacies in the reasoning of the FSR article and makes some propositions on how to assess the welfare impacts of hedge funds. In particular, we argue that it would be worthwhile for financial regulators to work towards obtaining data on hedge fund leverage and counterparty credit risk. Such data would allow a reliable assessment of the question of systemic risk. In addition, we argue that besides evaluating potential systemic risk, it should be recognised that hedge funds play an important role as “providers of liquidity and diversification.”

Author(s):

EDHEC-Risk

Summary:

An article in the June 2006 edition of the European Central Bank’s Financial Stability Review (FSR) claims that hedge fund activities pose considerable risk to the financial system. We disagree with this conclusion, which is based on mere speculation. We outline the fallacies in the reasoning of the FSR article and makes some propositions on how to assess the welfare impacts of hedge funds. In particular, we argue that it would be worthwhile for financial regulators to work towards obtaining data on hedge fund leverage and counterparty credit risk. Such data would allow a reliable assessment of the question of systemic risk. In addition, we argue that besides evaluating potential systemic risk, it should be recognised that hedge funds play an important role as “providers of liquidity and diversification.”

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Type :	EDHEC Publication
Date :	06/05/2006
Keywords :	Alternative Investments

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Marking the priority assigned by the School to sustainability issues and building on its research programmes exploring the relationships between climate change and finance, EDHEC-Risk Institute became EDHEC-Risk Climate Impact Institute in October 2022. The Institute's mission is to help private and public decision-makers manage climate-related financial risks and make the best use of the financial tools available to transition to low-emission and climate-resilient economies. The Institute’s research programmes explore the relationships between climate change and finance and our key ambition is to become a leading academic reference point for long-term investors, helping them to manage the asset-pricing implications of climate change as well as mitigation and adaptation efforts.