WASHINGTON - Despite closer monitoring by regulators, hedge funds still pose significant risks to the financial system, the Government Accountability Office said yesterday.
The GAO, the investigative arm of Congress, found that hedge funds' inclination to take substantial risks with increasingly large sums of money - and to leverage those bets - means losses can spread and be magnified.
Its report said banks eager to do business with hedge funds often are not critical enough when assessing the risks.
Richard Baker, head of the Managed Funds Association, a trade group, said there are ways to fix the problems and said a committee appointed by President Bush will soon offer specifics. Baker is a former House Republican from Louisiana.
Hedge funds are vast pools of capital that operate with little government supervision. Investors use them in hopes of obtaining healthy returns, even when the stock market declines, through sophisticated and often complicated strategies. Traditionally catering to institutional investors and wealthy individuals, they have grown explosively in recent years, luring an increasing number of pension funds and university endowments.
Hedge funds are also big players in the market for derivative investments such as credit default swaps.
The report noted that regulators have stepped up scrutiny of the parts of hedge fund activity that they have authority to oversee.
And hedge fund advisers "have increased their level of disclosure" in response to big investors' demands.
But the report "illustrates that even with the combined expertise of all the relevant regulators, we still lack the data necessary to judge the full risks," said Representative Michael Capuano, Democrat of Massachusetts.
