Market Watch- Hedge funds help provide liquidity and reduce volatility in financial markets, but because of their complexity and the growth of the structured products they often trade, portfolios should be stress-tested for the impact of a worst-case scenario, the Organization for Economic Cooperation and Development said in a report published Monday.
The OECD report, authored by Adrian Blundell-Wignall, didn’t call for regulation of hedge funds or of their trading partners, usually investment banks, but it did emphasize that consumer education and protection was important given rapid expansion of derivative products in the retail market.
Investment banks appear well capitalized against hedge fund exposure, but given the share of daily trading that hedge funds generate, it remains unclear whether financial stability issues might emerge in a market slide, according to the report.
Structured products “haven’t been tested when major anomalies in volatility arise,” said Blundell-Wignall.
While those products help reduce volatility mix, they are “highly exposed to downward price gaps in the ‘risky’ assets used in their construction,” he added.
