Germans set to take swipe at hedge funds

The incoming German presidency of the EU is planning to launch a wide-ranging inquiry into the role of hedge funds in financial markets even though Charlie McCreevy, the European commissioner for the internal market, has made it clear that he is unconcerned about hedge fund activities and sees no need for further regulation.

The German view is that too little is known about the activity of hedge funds, which are highly-speculative and highly-leveraged investment vehicles. Their assets have mushroomed from an estimated €150 billion to perhaps as much as €940bn today, according to Bank of England estimates.

But the actual volume of investments held by hedge funds is unknown, except to the managers of each individual fund.

It is this lack of information about these investment funds which is worrying not only the German government but also financial market regulators and the European Central Bank. "This is a big and growing market and we think we should know more about it," says an EU official.

The aim of the German initiative will be to find out more about who sells hedge funds, who buys them, what they invest in and what are the risks they are running. There is increasing concern, for example, at the potential for fraud and abuse by managers of such secretive funds, and the impact such behaviour might have on financial market confidence, especially if, as seems to be the case, the funds are increasingly being sold to smaller, retail investors. There is also concern that the sums of money they control could, through ‘herding’ behaviour, destabilise financial markets and, as with the US fund Long Term Capital Management in 1998, potentially threaten the global financial system.

Germany is not, however, going to confuse the activity of hedge funds with that of so-called private equity groups which are active in acquiring companies and restructuring them, usually for future sale and usually with the addition of considerably increased debt finance.

In April last year, in what was seen as a nationalistic outburst with, some said, racist overtones, Franz Münterfering, chairman of the Social Democratic Party (SPD), attacked the activities of private equity groups in the Germany, many of the largest of which are American, calling them "locusts".

Germany is clearly anxious not to revive this controversy, hence the emphasis on examining specifically hedge fund, without any preconceptions about whether, and if so what, further action should be taken to allay concerns. The German initiative could be taken to the level of Group of Seven (G7) finance ministers, which Germany will chair in 2007.

The German stance on hedge funds will not be welcomed by McCreevy who insists that to call hedge funds entirely unregulated is inaccurate. Steps to increase the transparency of their operations would itself be highly controversial, however, since sometimes it is secretive trading strategies which are the key to a fund’s success.

The incoming German presidency of the EU is planning to launch a wide-ranging inquiry into the role of hedge funds in financial markets even though Charlie McCreevy, the European commissioner for the internal market, has made it clear that he is unconcerned about hedge fund activities and sees no need for further regulation.