Hedge Funds and International Opportunities and Threats

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Hedge Funds and International Opportunities and
Threats

• William N. Goetzmann
• Yale School of Management

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Two Parts

• Example of opportunity
• Corporate governance
• Sentiment
• Example of threat
• Blame and the Asian currency crisis

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Modeling and Measuring Russian Corporate
Governance The Case of Russian Preferred and
Common Shares

• William N. Goetzmann

Matthew Spiegel
Andrey Ukhov
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Barriers to Efficiency

• Expectations process flawed.
• Unreasonable expectations
• Poor information about benefits
• The comparison process is flawed
• Market prices not observed or accurate
• The trading process is flawed.
• Insider information vs. liquidity
• Recorded prices are inaccurate.

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Stylized facts about Russian Preferred Shares

• Minimum dividend set equal to a fraction of the
  firms earnings. Typically 10.
• Minimum dividend must at least equal that paid to
  the common shareholders.
• Protection against splits, and similar actions.

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The Puzzle

• Why do Russian preferred shares typically sell
  for substantially less than the common?
• The preferred are guaranteed cash flows at least
  equal to the common.
• The preferred are guaranteed at least 10 of the
  firms profits.
• The preferred get the legal right to vote.

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Voting

• Preferred shareholders are allowed to vote on
• . . . modifications or amendments to the
  Charter may affect the rights and interests of
  the first issue Preferred Stock owners . . . the
  decision has to be ratified by those owning two
  thirds of the Preferred Stock . . .
  Surgutneftegaz Charter
• Other firms pool votes from the common and
  preferred.
• Is voting really allowed?

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Can Corporate Governance Explain the Price
Discrepancy?

• Paper builds three simple models of expropriation
  and calculates the parameters needed to explain
  the current observed price discrepancies.
• Two cash flow perpetual growth models, with a
  constant discount rate.
• One relative return model.

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Model 1 Value Expropriation

• At some date T the common will take some fraction
  a of the preferreds value.
• Free parameters
• r interest rate
• a level of expropriation
• g growth rate
• T expropriation date.
• Fix r and a to reasonable values and then see if
  reasonable values of g and T will fit the data.

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Conclusions

• No reasonable assumptions justify the spread.
• Is Russia a place where reasonable assumptions
  make sense?
• Was this an opportunity for a convergence trade?
• What factors should be considered?

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Threats Background

• Speculators in global markets
• Soros 1992 attack
• 1997 Asian crisis
• 1998 IMF study
• Small group of funds with leverage attacking.
• Herding
• Positive feedback -- momentum

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Possible? Likely?

• Hedge fund scale vs. financial institutions
• Co-ordination vs. concealment
• Positive feedback?
• Tech bubble stocks/large investors

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BGP paper

• Focus on a set of major funds
• Monthly data.
• Estimate exposures through time.
• Examine returns around crisis.
• Some weekly data for two funds.
• Provides better estimates.

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Funds and Capitalization, 9/1993 through 9/1997
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Estimation

• Rolling correlations
• Changing frequency
• What assets/currencies?

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Fund Performance
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Managers
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Managers
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Fund Hsieh Study

• Larger number of funds 19
• Style analysis identified macro-managers
• Macro
• Trend
• Emerging Market
• More events

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October 1987
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1992 European Rate Mechanism Crisis
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1994-1995 Mexican Crisis
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According to FS

• Hedge funds never had more than 6 Billion short
  position in Asia currencies
• Was this enough?
• Small compared to banks 36 billion net outflow.

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Current/Future Issues

• Manipulation of voting rights?
• Short-selling as a threat?
• Foreign investor governance arbitrage
• Nature of arbitrage in expectations