Redemptions

What was the selling Tuesday on Wall Street all about?

On Monday, the market spent most of the day going down, but had a significant uptick in the final minutes.

But then yesterday ... boom. The Dow, the S&P, and Nasdaq all declined by more than 5% of their total value which, in the case of the Dow, amounted to more than 500 points.

As usual, the pundits have their theories:

1. The big one-day decline was a response to an announcement from Bank of America that it was cutting its dividend, or
2. It was a reaction to a rumor that MUFG is pulling out of a deal to acquire a large chunk of Morgan Stanley, or
3. Bernanke scared the traders with his mid-day statement, or
4. all of the above and other stuff.

None of that looks persuasive to me. One can hypothesize that one of those butterflies caused this hurricane, but I think there's a much larger wing than any of those flapping about.

Call this the hedge fund capitulation. Hedge funds have lock-up periods, sometimes for months at a time. As the term suggests, hedge funds are by design illiquid. An investor, having put his money in on Monday, can't simply say, "I've changed my mine, I want to liquidate my interest" on Wednesday.

Well, actually, he can say it on Wednesday if he wants, but he can't expect the managers will act on that demand any time soon thereafter. They're entitled to wait until the lock-up period has expired, i.e. that the "redemption" date has arrived.

This can have a systemic impact on the markets because it is natural for hedge fund managers and investors to agree on the end of a financial quarter as the redemption date. Much of the hedge fund industry was committed to allowing hedge fund withdrawals on October 1, AND much of the industry had just had a lousy third quarter, making it very likely that they'd receive demands by September 30.

Those hedge funds that didn't have enough cash hanging around in the office furniture to meet the redemption demands they've just received have taken to selling shares of stock to obtain the liquidity needed to pay off these exiting investors. Hence the downward pressure we've seen of late.

I call this the hedge fund capitulation , because the italicized term is used in finance-world jargon to mean a particular sort of crash -- one with a valuable cleansing effect. It means the final shuddering sell-off after which everybody who can be scared away has been scared away. All the selling likely to be done any time soon will have been done, and a floor established.

October 1987 saw a capitulation. The Dow lost 20% of its value in a single day. Within 1.5 years, it had returned to the pre-crash level.

We didn't have 20% at one clump this time, but the market has lost almost that in about two months. But as August of this year began, the Dow was at 11,500. It is now at 9,447, which is about 18%. Let's hope that's enough, and that with the final kicking-in of this hedge fund liquidation component, capitulation has been accomplished.

Latest Re: The New York Times

The two hedge funds that pressed (successfully) for representation on the board of The New York Times Co. earlier this year are again adding to the size of their stake in that company.

The two funds, Harbinger and Firebrand, indicated in January that they planned to shake up the board by or at the annual meeting in April. This decision put them on a famously glassy uphill slope, though, because nine of the directors of TNYT are elected only through restricted Class B stock. And 89% of the Class B stock is in the possession of the dynastic Ochs-Sulzberger family. Only four directors are on the board as a result of the vote of Class A stockholders, so even if dissidents elected all of those four, the controlling family would remain ... the controlling family.

Nonetheless, beginning in January and iunto March, the Harbinger/Firebrand forces increased their holding of that Class A stock from 5% to nearly 20%. Their operational case was that the Times needed to improve its digital strategy and sell some noncore assets.

They made their point, at least to the extent of getting half the representation available to them -- two of those four seats. They reached this accord in March, and the stockholders' meeting itself was a peaceful one.

Now, though, the truce may be at an end. Harbinger/Firebrand are buying again.

Meanwhile, what's been happening to the stock price (NYSE: NYT)?

I've included the one-year chart above. The Harbinger challenge was presumably inspired (or at least rendered affordable!) in the first place by the long slide in stock prive at the end of 2007 and through the opening days of 2008 -- from above $21 last September to close to $14.

Once the hedgers made their intentions known, and of course once they started their own buying, the price rose, so that it was back above $20 at the time of the settlement announcement.

Zig-zags notwithstanding, it stayed in that area until early May, they returned to its downward course. The price is now below where it was in January. It closed yesterday at $13.12.

How does that stack up with the market indexes? Not well. The Dow Jones has lost 13% of its value over the last year, but NYT has lost 40% of its.

Anyone who still owns Class A stock is a hardy soul. Or, perhaps, (remembering yesterday's analysis) an institution obeying a mandate or instituting a hedge.

Therein lies another part of this tale. Perhaps some significant portion of the 80% of Class A stock that the two hedge funds don't owned is now owned by counter-parties of theirs, hedging swaps agreements. For in addition to their outright purchases, a recent story in the Wall Street Journal tells me that the funds have "effectively gained economic exposure to an additional 1.7 million Class A shares."

Simple arithmetic tells me that it costs more than 22 million to buy 1.7 million shares at $13.12 each. The "unnamed counterparty" in the story is by definition betting on a decline in price, but it would presumably have bought some shares itself to hedge that risk, and it would have that much voting power.

This is of course the TCI/CSX issue again. Wonder when the 2d circuit will weigh in?

And the world goes round and round.