The credit crunch causing worries in the global markets has the potential to cause the collapse of a major hedge fund that could disrupt markets even more
While there is not specific fund in mind, Moody’s believes that as investors try to unload illiquid investments such as collateralized debt obligations, hedge funds that are unable to exit their positions could run into trouble, said Chris Mahoney, vice chairman of Moody’s, during a conference call with investors yesterday.
The result could be the “failure and disorderly liquidation of a hedge fund of sufficient size to disrupt markets, as LTCM [Long Term Capital Management] threatened to do,” he said. Mahoney said the risk could exist for at least another six months. There is roughly a 50% chance of a big fund collapse such as the LTCM-style crisis occurring.
“We’ve seen quite a bit of contagion over the past two weeks, and it doesn’t seem to be abating,” he said. Moody’s also stated that smaller financial institutions could be severely harmed in the current environment, maybe needing unspecified outside intervention.
Investors should brace for “impairment losses at many banks, and in some cases these will be sizable,” said David Fanger, Moody’s chief credit officer for financial institutions.
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