Hedge funds are an alternative investment method. It is a form of investing in which funds are pooled and invested using different investment strategies to generate profits as part of a financial partnership between the fund manager and investors.
The fund manager is called general partner and investors are called limited partners. The role of the limited partners is the investment of the funds and that of the general partner is responsible for their management. Investors receive a cover prospectus which provides information on key aspects of the fund, such as the fund’s investment strategy, type of investment and leverage limit.
As the name suggests, hedge funds operate in a way that “hedges” or avoids risk. Thus, we see that the objective of hedge funds is the maximization of profits as well as the minimization of risk. They are intended to generate profits regardless of market fluctuations. They minimize risk by offering investors the option of long or short stocks. Short selling involves making money when the stock goes down.
An investment manager manages funds through a company separate from the hedge fund and its portfolio of assets. The investment manager relies on the following service providers:
They help in trade clearing, provide leverage and short term funding.
They provide operating, accounting and valuation services.
They mainly deal with the distribution of titles. A distributor can be an underwriter, broker or broker.
The investment strategies adopted can be classified as:
• Discretionary / Qualitative: These are strategies chosen by the general partner or the fund manager.
• Systematic / quantitative: These are strategies suggested by a computerized system.
Characteristics of hedge funds:
• Available only to accredited investors
Investors must have some net worth before investing in hedge funds.
• Variety of investment options
It can be invested in various fields such as land, real estate, stocks, derivatives, currencies, etc.
• Use leverage
The borrowed money is often used to improve returns.
They charge a management fee and a performance fee.
The main advantage of investing in hedge funds is that the risk is lower than that of other types of investment. We can say that they are not correlated with market indices. However, the fact remains that they are prone to a certain amount of risk. Therefore, it is a good approach to be aware of all the potential risks before investing. It is also essential to select an experienced fund manager in the field.