IOSCO has released the results of their second hedge fund survey, capturing data on 1,044 fund managers with US$1.94 trillion in assets. The data on leverage remain difficult to portray accurately, however. Here’s what we see going on.
IOSCO sees hedge fund leverage occurring in two ways:
• Financial leverage (prime broker financing, repo transactions, direct secured or unsecured lending)
• Synthetic exposure obtained through the use of derivatives
We go further in breaking out financial leverage, as each of the types noted rely on a credit intermediary in a different way or in rare occasions escape the intermediary altogether with a direct non-bank counterparty providing funding (direct repo being one example). We think it is important that these types of leverage are broken out as the FSA used to do in their survey. Lumping together IOSCO’s financial leverage category creates some opportunities for hiding important data points and trends.
IOSCO says that they had some data collection and/or methodology issues that prevent a full reveal of their data at this time. However, the data imply that for US funds, which comprised 823 managers, financial leverage (borrowing in some way or another) was about 139% of AUM. For UK funds the figure was about 76%. Again, this says nothing about leverage from derivatives positions.
IOSCO is working to express leverage using a concept they call Gross Notional Leverage, which tries to capture all the economic impacts of leverage in the hedge fund industry including derivatives exposure. We’re not sure yet if this will become an important global measure, but the more that IOSCO publishes the statistics the more credence it will have, so its worth getting up to speed on now to stay with the conversation. According to IOSCO,
“GNE is calculated as the absolute sum of all long and short positions, considering gross notional exposure (delta-adjusted when applicable) for derivatives…. Gross leverage is then simply the division of GNE by net AUM (NAV).”
By the GNE measurement, UK funds are phenomenally leveraged relative to AUM as compared to funds in Asian or other European. IOSCO finds GNE in the UK at US$12 trillion as compared to AUM of about US$340 billion. This is gross leverage of 37X. France comes in next with gross leverage of 23X. This high leverage is driven by macro and fixed income relative value funds. US data is not presented, which is really too bad, since this is where the majority of funds and AUM in the survey are based.
The IOSCO survey is interesting as an early step in developing robust global statistics on hedge fund leverage. We miss the FSA survey, which used to provide good leverage data twice a year. The occasional prime broker report also provides some leverage data. The IOSCO methodology holds the most promise for a global picture of all both borrowing and synthetic exposure data, but we wish that IOSCO will take this to the next step by breaking out the different types of financial borrowings to account for each piece in turn. The FSA data were especially valuable for showing prime brokerage borrowing vs. repo and other funding activities. Reporting that data breakout on a global scale would add tremendous value to the markets and to regulators for risk management purposes.
A link to the IOSCO report is here.