Lehman Brothers' administrators are this week expected to put numbers on the value of assets tied up in the bankrupt bank, giving hope of clarity to hedge funds and other creditors whose assets held at Lehman are frozen.
Counterparties to Lehman scrambled to get their assets out as the investment bank headed towards bankruptcy. But many hedge funds did not have enough time, and could face months of uncertainty over how much they can recover.
The funds have been left with assets such as shares and bonds tied up in Lehman's prime brokerage business or held in custody, and also have large exposures to over-the-counter (OTC) derivatives contracts. Olivant, the investment company run by Luqman Arnold, found that its SFr1.4bn (£700m) holding in UBS was stuck in Lehman's prime brokerage business, preventing Olivant from voting at UBS's shareholder meeting last week.
Another high-profile fund, RAB Capital, is suing PricewaterhouseCoopers, the administrator, to try to get back $50m (£28m) of US Treasury Bills held at Lehman.
Olivant has said it is not threatened by the freezing of its UBS stake because its exposure has been reduced by using leverage. But others have not been so lucky. Chicago's Oak Group and London's MKM Longboat Capital Advisors are among those reported to be closing funds or considering doing so because of assets lost or frozen at Lehman.
Darren Fox, a partner at Simmons & Simmons, the law firm advising RAB, said: "We are acting for a very large number of clients in relation to their Lehman exposures. It is in the hundreds and growing by the day and by the week."
Funds have found that assets such as equities whose recovery from the prime brokerage division should have been straightforward are in doubt because of "rehypothecation". The small print of the contracts said that Lehman could use the securities itself, including lending them out to short sellers. This meant the assets were reclassified as unsecured, putting them further down the queue for repayment and raising the prospect of big losses. Hedge funds may have up to $70bn in Lehman prime brokerage accounts, with the value of rehypothecated non-cash assets estimated at $22bn.
Richard Perry, a partner at Simmons & Simmons, said: "One of the urgent issues the administrators have got is to find out which of the long securities positions held in prime brokerage with Lehman Brothers International Europe are beneficially owned by clients and which are effectively exposed to LBIE's credit risk."
The prime brokerage assets will be dwarfed by the value of OTC derivatives contracts, in which Lehman had become a big player. It was harder to close these positions than to recover assets such as shares when Lehman was heading for disaster because to do so would have needed Lehman's agreement.
John Godden, chief executive of IGS Group, a hedge fund advisory firm, said he would be surprised if the value of OTC contracts between hedge funds and Lehman was less than $100bn. The problem of sorting out the OTC contracts could be made still more difficult because they are renowned for sloppy paperwork and back office processes.
The average hedge fund might suffer a 2 per cent loss in value from exposure to Lehman, which is "a minor irritation", Mr Godden said. But he added: "There will be some hedge funds that have got some very significant relative amounts and they are the guys who will be closed."
Observers said Lehman's collapse had exposed failings in UK bankruptcy law compared with the US, where creditors' status was clearer and quicker progress was being made. Adrian Sales, a partner at Albourne, the hedge fund advisory firm, said: "Some hedge funds have assets in custody at Lehman and have the full legal rights to get those assets back and they are frozen in bankruptcy proceedings."
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