October 1st marks the day on which hedge fund investors are able to withdraw their funds—being the end of the third quarter. Many funds will be hit with several billion dollars in withdrawals because of huge losses in August. These losses will be magnified through hedge-fund derivatives, for which the investors themselves have often borrowed 80% of the money put up.
In addition, fund-linked derivatives will finish their quarterly reviews by the end of next week, the Financial Times reports. Because the investments are leveraged with borrowed money, the rules the investment banks have created for them require automatic withdrawals if there are losses. Big withdrawals could create crises at funds that are invested in illiquid assets, and lead to further selling pressure on hedge funds.
Despite U.S. rate cuts and U.S. and European central bank money pumping, interbank lending remains in a comatose state. On Sept. 27, the European Central Bank (ECB) emergency lending fund of overnight money was tapped for 3.9 billion euro, more than the maximum 2 billion lent during the worst days of August. "It does make you wonder if someone out there is still in trouble," a nervous economist at one of the European banks acknowledged to the Financial Times.
At the same time, the U.S. Federal Reserve pumped $38 billion into the money market as the effective Fed funds rate went higher than 5%, far above the 4.75% target. The Fed then announced on Friday that it received almost $24 billion in bids for the $4.75 billion in 3-day repurchase agreements it had offered to try to bail out the banks.
At U.S. Congressional hearings on Sept. 27th, Democratic Representative, Paul Kanjorski said, "I'm concerned now about potential systemic failures in the international financial system." In response, witness Shaun Mathis, of Miller Mathis investment bank, said that the mortgage bubble collapse was far from over: "Financial markets are in the greatest danger since the Great Depression. There is nothing small or self-limiting about this problem. There will be collapses" of investment firms and banks.
Representative Kanjorski challenged the witnesses to say whether they could possibly disagree that we are now facing a systemic threat to financial markets and banks. And he specifically asked Prof. Joseph Mason of Drexel University, "You say that 10% of U.S. bank assets are based on structured investment vehicles (SIVs), specifically several trillion dollars in collateralised debt obligations (CDOs); can these banks survive the collapse of these CDOs? Do they have the capital base to survive that?" Mason answered, "No, and the FDIC does not have the resources to handle that event either."
Lyndon LaRouche responded: "Freeze, freeze, freeze! That's what you do in a bankruptcy: you freeze! You can't say the laws of the marketplace will control it, because the consequences would be inhuman." LaRouche will cover more detail of his approach on his upcoming October 11 webcast.
