Hedges could cause Apple falls
An investment analyst has cited Apple as an example of a firm whose stock could take an undeserved hit thanks to the way hedge funds operate. However, the piece may simply act as a self-fulfilling prophecy.
The warning comes in a piece by Scott Rothbort, who writes as ‘The Finance Professor’ at TheStreet.com. His column deals with hedge funds, private investment funds with a small number of (usually wealthy) investors. Because of this set-up, hedge funds are not as heavily restricted as many types of investment, while the large sums of money involved make their activities particularly influential on the market as a whole.
Rothbort explains that several factors work together to produce the situation which could affect Apple. One is that hedge funds only have short periods (either once a quarter or once a year) during which investors can withdraw their money. When markets are doing badly, that means you’ll often get lots of money coming out at one time.
Compounding this effect is the rules on leverage for hedge funds. Normal investors must put up at least half the cash for buying stocks, with the rest borrowed from a broker. That limit is to minimize risks to the brokers: unless the stock price falls by more than half, the broker can always safely take the loan back before handing over what’s left to the investor.
With hedge funds, investors can stump up as little as a fifth of the purchase price. (In market jargon, this makes the fund more ‘leveraged’.) The problem comes when investors want their cash back: if somebody wants $100 back, the fund must sell $500 worth of stocks.
And the third factor is that fund managers needing to raise cash quickly will usually try to sell the highest-price stocks, regardless of how solid an investment they are in theory. Here’s where Rothbort gives the Apple example: he suggests fund managers are more likely to sell Apple stock (approximately $200) than Altria (approximately $25). And even though those sales are nothing to do with Apple’s inherent worth or strength, they still drive the price down – which could happen on Nov. 15, the next major deadline for withdrawals from hedge funds.
Here’s the irony though: Rothbort doesn’t appear to have picked Apple for any reason other than that it’s a highly-priced stock. Indeed, given the examples he chose, he may just have chosen the first notably high and low-priced stocks he found running his finger down an alphabetical stock list. But if people don’t realize that point and rely on second-hand reports which suggest this problem is specific to Apple, they might wind up selling stock now and worsening the situation.
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