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5 Jan 2007

Oil Losses May Impact Hedge Funds

The recent drop in oil prices has raised market speculation that hedge funds might be taking large losses in oil position investments. A lot like the big natural gas bet that sank the multi-billion dollar Amaranth fund in 2006.

Oil prices stayed under $56 on Friday after an almost 9% drop over the past two days to its lowest close in 18 months. Investors are worried about growing U.S. fuel stocks and mild weather. The hefty losses in oil as well as in other commodities also may have been triggered by funds switching into other assets, it was reported in the Scotsman.

"Weather is certainly a key driver of sentiment, but what has been set in motion is a far more general demand pessimism for the year ahead," said Barclays Capital in the "This has produced a market that is more sensitive than usual to any producer hedging, and which is inclined to attempt to break sharply lower."

A top Iranian oil official said they were hoping to keep markets balanced until the 12-member group meets on March 15, but OPEC was keeping an eye on hedge fund activity in the markets, "We have to see whether the funds overreact... If that's the case, we may have to consider meeting (before March)," said Iran's OPEC Governor Hossein Kazempour Ardebili.

Office Space

Massachusetts Secretary of State William F. Galvin is investigating whether leased office space and other services that investment bank UBS provides to hedge funds have created a conflict of interest that could hurt investors, Galvin's spokesman said in an announcement.

It was reported that UBS and other investment banks lease space to young hedge fund traders in various cities, hoping they may become larger clients eventually. The arrangement could amount to a conflict of interest, Brian McNiff, Galvin's spokesman, said in his announcement, comparing it to "soft dollar" payments. These drew criticism when they were commonly paid by mutual funds in the 1990s, because the services often benefit managers more than shareholders who cover their costs.

The investigation is focused on whether the hedge funds are paying higher trading fees to the banks to compensate them for the office space, and failing to disclose the expense to investors. "He's looking at potential violations of securities laws, and a conflict of interest would be one of those," McNiff said.

Galvin's probe was disclosed in stories in The New York Times and The Boston Globe on Tuesday. McNiff told the press he was aware only of Galvin's interest in UBS, which leases space to hedge fund traders in a downtown Boston office tower. The space comes with receptionists, espresso machines and consultants to manage information systems, the Times said.

McNiff said the investigation into what he called "hedge fund hotels" was at a preliminary stage, and it was too early to say whether the probe might lead to enforcement actions.