SGAM AI' s latest analysis on liquidity issues

10 February 2009

One of the major consequences of the current crisis that engulfed the world financial markets in 2008 has been a substantial decrease in liquidity in almost every asset class. As market players sought to simultaneously deleverage their existing holdings of financial instruments, liquidity suffered severely while the market for certain asset classes came to a complete standstill.

This illiquidity only served to complicate the redemption requests hedge funds received from investors at year- end. The industry was hit with a substantial amount of redemptions – the largest outflow ever reported. In addition to imposing gates, a number of hedge funds that could not accommodate the amount of redemptions placed by investors were forced to create side pockets to hold these illiquid instruments in which they were invested. Technically, most side pockets are merely a new share class created to hold these illiquid assets which is allocated to every investor of the fund.

Société Générale Asset Management Alternative Investments (“SGAM AI”) has attempted to avoid investing in hedge funds which invested in illiquid instruments or had the potential to do so, without such hedge funds having the corresponding structural liquidity terms to support such investments (i.e. we attempt to avoid the possibility of a liquidity mismatch for investors). Given the extent of the illiquidity that has overtaken the financial markets, we generally viewed the creation of these side pockets as a positive. Doing so is the best means for hedge funds to treat remaining and redeeming investors equitably. The side pockets created by our Fund of Funds are a result of those created by the underlying managers. Below, we describe the general
types of side pockets in the Fund of Funds.

The full analysis is available on request.