China fund

On Wednesday this week, President Obama unveiled measures to help protect consumers from another financial crisis happening again. It's extremely difficult to measure the two silos of pain that could measure the impact on individuals versus financial institutions as a result of the crisis. In turn that makes it harder to recognize whether the current administration should be protecting the consumer from Wall Street or the latter from itself.

In the first silo, investors saw their wealth decimated as a result of tumbling stock markets with financial share prices magnifying the pull on the rest of the market, which was essentially pulled into a black hole. The ongoing decline in housing values continues to feed on itself: Household wealth has fallen further with many of the boomer crowd having to defer retirement plans as they check on the vastly reduced total in their quarterly investment statement. The jobless total is set to rise well into 2010 making the first silo a growing and bottomless pit of losses.

In the second silo you'll find many a lender rubbing their wounds. Take a digit, double it and stick the word 'trillion' on the end and you'll get the idea of the size of the write-downs and bad loans these guys find themselves facing. Clearly silo number two is in a worse position, but who cares? It wasn't there money in the first place. They just transfer the losses to the first silo in the form of stock market losses and reduced wealth to the individuals who live there.

The beginning of the problem starts with a lender shrewd enough to see that the demand for funds to mortgage a house is endless if they can convince people that house prices will go up forever. But how can they do this? Well, actually that's not the hard part since we have the American dream telling us that this is the way it is, it always has been and always will be. If you don't buy today, watch out tomorrow!

It was essentially an easy sell with an endless line of consumers piling through the doors wanting loans. The only way to maintain such a mirage was to lend increasingly large amounts of money to fuel the price increases. That serves to pad out the lender's fee income, his interest income and allows them to play with bigger toys in the sandbox that became the market for securitized lending. And after vetting the stupid customer wanting to borrow increasingly insane amounts of dough, what stake did the banker hold? Absolutely none! The mortgage got packaged up and bundled off to another speculator.

This week the financial markets overhaul included government's want to have lenders maintain at least a 5% interest in the original loan. It's hardly much to ask, yet Wall Streeters are outraged and tell us that the securitization market will be taking a poke in the eye! One has to wonder why it is so hard to get a loan these days when the banker refuses to stand by its stricter lending criteria. You'd think they'd have at least a little faith in where they were lending their cash.

The Chinese solution to the ensuing downturn, having realized that they are all too exposed already to the American dollar is to look for a counterweight. They decided recently to begin hedging their bets and start hoarding commodities. Whether the fizz will go out of this bet or not, after an initial rebound for global commodity markets, remains to be seen. But the Chinese fear that the measures adopted to deal with silos one and two will create an upset for the dollar and unleash a fire-breathing inflation dragon. That's why they continue to diversify outside of the dollar.

China's $200 billion sovereign wealth fund is on the prowl and looking for solid hedge funds to invest in. We wonder whether they have dug deep enough in the silos in that case. The Chinese Investment Corporation (CIC) seeks to select a handful of successful managers who offer superior returns across a broad spectrum of strategies. Funds-of-funds are up for consideration too according to the adviser working the funds.

Hedge funds in the $1.3 trillion industry are recovering from a bruising 2008 when many showed they were no different than the market and faced identical losses. Many have been too scared to get back into the market and are trailing the performance of the stock market with a 9.4% return through May according to Chicago-based Hedge Fund Research (HFR). The industry has shed around one-third of its assets since 2008, while HFR estimates that 1,471 or 20% of the peak number of funds in 2007 went out of business last year.