If you're not a multimillionaire, you might not pay much attention to the world of hedge funds. But even if you don’t consider investing in hedge funds, the moves that they and other big institutional investors make can sometimes have a big impact on the stocks you own.
Fallout from failure
Perhaps the clearest example of how a hedge fund can affect the overall market comes when it has to liquidate its operations, either because of losses or some other factor. For instance, the Galleon Group recently said that it would wind down its hedge funds, in the wake of last week's announcement that billionaire founder Raj Rajaratnam was among a group charged with violating insider-trading laws.
Along with executives from IBM
In response to Galleon's announcement that its funds will be winding down, some have looked to the stocks that Galleon funds own as potential short candidates. Although Galleon hasn't yet disclosed the stocks it owned as of Sept. 30, its second-quarter filings point to fairly substantial holdings in eBay
Not so fast
Now, it's true that hedge-fund selling can have an impact on the markets. During last year's financial crisis, forced sales by hedge funds and other institutional investors such as mutual funds likely contributed to the huge drop in stock prices. Mutual fund investors alone took out more than $200 billion from equity funds in 2008, forcing managers to sell stocks they once believed in.
By comparison, as big as Galleon is, it's a drop in the bucket compared to last year's market storm. The Wall Street Journal claims that Galleon has about $3.7 billion under management. As big as that sounds, it means that the positions that Galleon has in large, highly liquid stocks shouldn't be huge enough to cause major disruptions. Apple trades almost $3.5 billion in shares each day on average, while eBay trades more than $450 million, and Google around $1.5 billion.
Moreover, we don't know whether Galleon still even owns those shares. The hedge funds may have moved on to different investments by now, leaving those trying to open short positions chasing the wrong stocks.
Being smart about selling
Moreover, even if its hedge funds still own those stocks, Galleon won't be short-sighted enough to try to dump all of its shares at once. Unlike hedge funds that are suffering from an immediate need for liquidity, Galleon can afford to take its time and wrap things up in an orderly fashion.
Done that way, the impact on share prices can be fairly minimal. Right now, Berkshire Hathaway
Since the end of June, Berkshire's Class B shares are up 14%. It's clear that the Gates Foundation is taking steps to minimize the impact of the selling, and by helping to prevent a collapse in the share price, the foundation helps maintain not only its own wealth, but also that of other shareholders.
Much ado about nothing
It's not unusual to see various Wall Street players trying to profit from the misfortune of one of their competitors. However, there's little reason for shareholders of large-cap companies to worry about Galleon's impending dissolution. If short-sellers end up profiting, they'll much more likely owe that gain to a pullback in the overall market than to the hedge fund company's demise.
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The biggest boat Fool contributor Dan Caplinger has ever been in is a catamaran, but a galleon sounds like a lot of fun. He owns shares of Berkshire Hathaway. Google is a Motley Fool Rule Breakers pick. Apple, Berkshire Hathaway, and eBay are Motley Fool Stock Advisor recommendations. Berkshire Hathaway and Intel are Motley Fool Inside Value recommendations. The Fool owns shares of Berkshire Hathaway. Try any of our Foolish newsletter services free for 30 days. The Fool's disclosure policy promises smooth sailing with no insider tricks.