Two Bear Stearns Hedge Funds on Brink of Closure

In a turn of events that could reverberate throughout Wall Street, a proposed recapitalization plan designed to rescue two collapsing hedge funds seemed about to disintegrate Tuesday night, according to reports in Bloomberg and the Wall Street Journal. The funds, run by Bear Stearns, bet heavily on securities backed by subprime mortgages. Merrill Lynch, a creditor of the larger fund, has seized $800 million of its bonds as collateral, and will put it up for auction Wednesday, unnamed sources say. Merrill had postponed the auction for two days while Bear tried to cobble together the now-shelved rescue plan, but has elected to go ahead with it despite Bear's offer to put up $1.5 billion of its own money. Until recently, the two funds managed $20 billion. As the housing market slowed, delinquencies and defaults on subprime loans shot up, diminishing the value of its securities. The larger fund lost nearly a quarter of its value between January and April. According to the Journal, the forced liquidation could set off a wider-scale repricing of mortgage-backed bonds that could result in the implosion of other funds suddenly faced with heavy losses and margin calls. "No one in the subprime business wants to ask the question of whether they need to re-mark [revalue] all the assets," said one analyst, "that would open the floodgates."

Sources: Wall Street Journal, Bloomberg, Reuters
Commentary: Merrill Lynch Postpones Auction of Bear Stearns Fund Assets • Bear Stearns Hedge Fund Facing Mortgage Losses -- WSJ
Stocks/ETFs to watch: Bear Stearns Companies Inc. (BSC). Competitors: Goldman Sachs Group Inc. (GS), Lehman Brothers Holdings Inc. (LEH), Merrill Lynch & Co. Inc. (MER). ETFs: iShares Dow Jones US Broker-Dealers (IAI), KBW Capital Markets ETF (KCE)

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