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Developments in the Hedge Fund Industry

Swiss Finance Conference 2005, Zurich, 04.02.2005

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Hedge funds have been an important source of innovation in the asset management industry. They have rendered financial markets more liquid, more efficient and more flexible. Nonetheless, market observation suggests that certain segments of the hedge fund industry can have some impact on market volatility, either by accentuating existing market trends or by causing sharp price reversals or gapping price movements.

The use of leverage is a central characteristic of the hedge fund industry. Overall industry leverage is extremely difficult to measure. Ultimately, leverage combined with inept asset management strategies leads to hedge fund failures. As such, these failures should be of no concern to policy makers, as long as they do not undermine the stability of the financial system. A prudent and disciplined risk management in the global investment banks provide the most reliable defense against an erosion of lending standards and the potentially hazardous consequences of the use of excessive leverage in the hedge fund industry.