Hedge funds are an alternative investment method. It is a form of investment where funds are pooled and invested using different investment strategies to generate profit in a financial partnership between the fund manager and investors.
The fund manager is called the general partner, and the investors are called limited partners. The role of limited partners is to invest funds, and the general partner is to manage them. Investors are provided with a hedge prospectus that provides information on key aspects of the fund, such as the fund’s investment strategy, investment type and leverage limit.
As the name suggests, hedge funds work to “hedge” or avoid risks. So we can see that the objective of hedge funds is to maximize returns while minimizing risk. They are designed to generate profits regardless of market fluctuations. They minimize risk by offering investors to go long or short stocks. Shorting means making money when stocks fall.
An investment manager manages funds through a company that is separate from the hedge fund and its portfolio of assets. The investment manager is supported by the following service providers:
They help clear trades, provide leverage and short-term financing.
They provide operations, accounting and valuation services.
They are mainly engaged in the distribution of securities. A distributor may be an underwriter, dealer or broker.
The adopted investment strategies can be classified as:
• Optional/quality: These are strategies chosen by the general partner or fund manager.
• Systematic/quantitative: These are the strategies offered by the computerized system.
Characteristics of hedge funds:
• Available to accredited investors only
Before investing in hedge funds, investors must have a certain net worth.
• A variety of investment options
It can be invested in various fields like land, real estate, stocks, derivatives, currencies, etc.
• Use leverage
Borrowed money is often used to increase profits.
They charge a management fee and a performance fee.
The main advantage of investing in hedge funds is that the risk is lower than in other types of investments. We can say that they do not correlate with the market indices. However, the fact remains that they are exposed to some degree of risk. Therefore, it is good to be aware of all possible risks before investing. It is also important to choose a fund manager who has experience in this field.