Thank you, Mr. Chairman.
I'd like to express my appreciation to you for holding this hearing on recent developments in hedge funds. Approximately $600 billion is currently invested in hedge funds. The hedge fund industry represents both an important component to the capital market structure and a useful investment option. In addition, the industry provides important liquidity to the organized exchanges as well as the over-the-counter and less liquid markets.
Back in 1998, we all gained a quick education about the perils of hedge funds when Long Term Capital Management created a market crisis that wound up affecting all sorts of people with no previous knowledge of hedge funds. Long Term Capital Management was run by an unusually distinguished group of money managers, from long-time Wall Street professionals to Nobel Prize-winning academics. The end result showed that regardless of knowledge or skill, many have overestimated their understanding of the markets and paid the price. However, we were fortunate that major Wall Street firms were convinced to act together so as to minimize further detrimental impacts on the financial markets.
Hedge funds are in many ways the opposite of mutual funds. While hedge funds are limited to those wealthy and sophisticated in the market, many investors of different incomes can invest in a mutual fund. While many mutual funds are very large billion dollar operations, hedge funds are known to be smaller. Mutual funds have investment limitations, disclosure requirements, and allow investors to move their money in and out as they choose. Hedge funds, on the other hand, have very little - if any - disclosure features, and require investors to keep their money with the fund for a specified period.
Because of the requirements in the securities laws that hedge fund investors be "sophisticated," the people whose money is at risk in these funds are not the people I worry about in our economy. However, one recent trend of concern is registered investment companies which invest in hedge funds. These investment companies do not require the investor to be 'sophisticated' or necessarily wealthy. It is the less sophisticated or lower income investors whom we should be concerned about since they cannot afford to lose their investment, and they may not understand the risks which hedge funds can take. I believe it is this trend that Chairman Donaldson spoke about at his February 5th confirmation hearing when he cited, and I quote, "a distressing move toward…the 'retailization' of hedge funds" - end quote.
I am pleased that Chairman Donaldson has taken time out of his busy schedule to join us here today and share his thoughts and views on this subject. I look forward to hearing his testimony and discussing these issues with him.