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What are Hedge Funds ? What is Hedging

 

What are Hedge Funds ?

Hedge Funds are Similar to mutual funds. But in their portfolio, you’ll find assets such as derivatives, equities, bonds, currencies, and convertible securities. Mostly banks, insurance firms, High Net-Worth Individuals (HNIs) & families, and endowments and pension funds invest in these kinds of funds. These investors have complete faith in the ability of the fund manager. The investment pattern in hedge funds is completely different than that of mutual funds.

Hedge funds follow an aggressive investment pattern hence they take big risks. Hedge fund management teams resemble traders rather than orthodox investors. In a hedge fund, limited partners contribute funding for the assets while the general partner works as a fund manager. 

Underwritten are some important points that you need to know before investing in hedge funds.

Who Should Invest in Hedge Funds ?

Hedge funds are privately managed mutual funds with an aggressive trading pattern. They target higher returns therefore they tend to be a bit on the costlier side. Hence only institutions and financially well-off groups invest in them. The minimum ticket size for investors investing in these funds is Rs 1 cr.

So we recommend first-time investors steer clear of these funds until they gain enough knowledge in this field. Investors here need to have the capability of taking big risks and complete faith in their fund managers otherwise it can turn into nightmares.

Globally, the fees are 2% fixed and 20% of profits. Charges for hedge funds in India range from 1% to 2% for fixed and for the profit-sharing it is 15% to 20%.

REGULATIONS

These funds are privately managers hence the managers and investors are solely responsible for their actions. SEBI has no control over them. As these funds are privately managed so they do not disclose their Net Asset Value (NAV) regularly like those of mutual funds.

FUNCTIONING OF HEDGE FUNDS

Returns of Hedge Funds are purely based on the knowledge and experience of fund managers. They can even be profitable in a falling market. Everything depends on the fund managers. Real estate is also a major source of profit for many hedge funds. They usually function in small markets to reduce volatility and minimize their risk by diversification. Some strategies that these managers use are:

SHORT/LONG EUITY

In sorting, the manager, looking for prices to drop in the future, can sell the share to buy back in the future at a lower price, thereby making a profit even in a falling market. In the latter profit, opportunities are explored by buying relatively underpriced stocks and selling them when they are overpriced.

SUCCESSFUL EVENT

The mangers keep a constant look at companies and invest in on the basis of a decision that can turn largely profitable for the company in near future. E.g. acquisition, product launch, expansion, etc.

TRADING

Fund managers also trade inequities and make profits by frequently buying and selling shares. It can be intraday too.

DISTRESSED SALE

Some companies facing financial stress or insolvency or are close to bankruptcy or damaged due to unexpected events sell their securities at huge discounts. Seeing the future potential of those companies fund managers invest in those and if the company succeeds the hedge funds make huge profits.

ARBITRAGE

Sometimes equities have different pricing in different places. So these managers take advantage of that by buying lower and selling higher. This is mostly seen in currency.

 CONCLUSION

Hedge funds are special types of investments for special people, people who can take a risk on their investment, people who have complete faith in their fund manager, people who are financially well-off. So if you can be like these special people then you might consider investing in these funds.

Hedge Funds can provide EXTRAORDINARY RETURNS on one side and on the other it can give NIGHTMARES. It all depends on the skills and experience of the fund manager.


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