In the present world, where everyone is encouraging investments including the governments too it become quite necessary to talk about the Hedge Funds. Now, many of you might be wondering that how could you understand about such a deep financially rooted topic when you do not have even a remote connection with financial aspects. Well, you do not need to worry as today in this write-up we shall cover the concept as well as every necessary points that are attached to the Hedge Funds. So, what is a hedge fund? A Hedge Fund is a pooled investment fund that trades in relatively liquid assets and is able to make extensive use of more complex trading, portfolio construction, and risk management techniques in an attempt to improve performance, such as short selling, leverage and derivatives!
In simple words, Hedge Funds are the offshore investment fund, typically formed as a private limited partnership that engages in speculation using credit or borrowed capital. It should also be noted that the Financial Regulators generally restrict hedge fund marketing to institutional investors, high net worth individuals and accredited investors. Hedge Fund investment is often considered a risky alternative investment choice and usually requires a high minimum investment or net worth and often targeting the wealthy clients. A Hedge Fund that focuses on a cyclical sector such as travel, may invest a portion of its assets in a non-cyclical sector such as energy, aiming to use the returns of the non-cyclical stocks to offset any losses in cyclical stocks.
Hedge Funds use riskier strategies, leverage assets, and invest in derivatives such as options and futures. The appeal of many hedge funds lies in the reputation of their managers in the closed world of hedge fund investing. An investor in a Hedge Fund is commonly regarded as an Accredited Investor, which requires a minimum level of income or assets. Typical investors include institutional investors, such as pension funds, insurance companies, and wealthy individuals. Investments in Hedge Funds are considered Illiquid, as they often require investors to keep their money in the fund for at least one year, a time known as the lock-up period. Withdrawals may also only happen at certain intervals such as quarterly or bi-annually!
Now, there are a few types of Hedge Funds as well, upon which we shall focus too in order to develop a better understanding about this subject matter. The types of Hedge Funds are as follows –
- Global Macro Hedge Funds are actively managed funds that attempt to profit from broad market swings caused by political or economic events.
- An Equity Hedge Fund may be global or specific to one country, investing in lucrative stocks while hedging against downturns in equity markets by shorting overvalued stocks or stock indices!
- A Relative Value Hedge Fund seeks to exploit temporary differences in the prices of related securities, taking advantage of price or spread inefficiencies.
- An Activist Hedge Fund aims to invest in businesses and take actions that boost the stock price, which may include demands that companies cut costs, restructure assets or change the board of directors!
Now, let us put our focus over the various strategies applied in order to run these Hedge Funds as it is only through the proper strategies the running applications of these Hedge Funds are formed. Hedge Fund strategies cover a broad range of risk tolerance and investment philosophies using a large selection of investments, including debt and equity securities, commodities, currencies, derivatives, and real estate. Common Hedge Fund strategies are classified according to the investment style of the fund’s manager and include equity, fixed-income, and event driven goals.
A long or short-term Hedge Fund strategy is an extension of pairs trading, in which investors go long and short on two competing companies in the same industry based on their relative valuations. A fixed-income Hedge Fund strategy gives investors solid returns, with minimal monthly volatility and aims for capital preservation taking both long and short positions in fixed-income securities. Whereas an event driven Hedge Fund strategy takes advantage of temporary stock mispricing, spawned by corporate events like restructurings, mergers and acquisitions, bankruptcy, or takeovers!
Written By NEEL PREET – Author of the Books, Voice From The East (2016); Journey With Time Place And Circumstances (2018) & Indian Defence Files (2021).
