A 0/01:3/ is a private pool of capital actively managed by an investment adviser.
Hedge funds are
only open for investment to a limited number of accredlLed or qualified investors who meet criteria set by regulators. These investors can be institutions, such as pension funds, university endowments and foundations, or high net worth individuals. Worldwide, 61% of investment in hedge funds is from institutional sources as of February 2011. The funds generally invest in a diverse range of assets and employ a variety of investment strategies. Hedge funds employ a wide range of trading strategies but classifying them is difficult due to the rapidity with which they change and evolve. However, hedge fund strategies are generally said to fall into four main categories: global macro, directional, event-driven, and relative value (arbitrage). These four categories are distinguished by investment style and each have their own risk and return characteristics. global macro:- Global Macro is defined as the process of investing, on a large scale, around the world using economic theory to justify the decision making process. Global Macro trading strategies are based on educated guesses about the macroeconomic developments of the world. Directional- event-driven:- relative value (arbitrage):- it is the practice of taking advantage of a price difference between two or more markets: striking a combination of matching deals that capitalize upon the imbalance, the profit being the difference between the market prices. When used by academics, an arbitrage is a transaction that involves no negative cash flow at any probabilistic or temporal state and a positive cash flow in at least one state; in simple terms, it is the possibility of a risk-free profit at zero cost.
Character|st|cs of nedge Iunds O Pedge funds uLlllze a varleLy of flnanclal lnsLrumenLs Lo reduce rlsk enhance reLurns and mlnlmlze Lhe correlaLlon wlLh equlLy and bond markeLs Many hedge funds are flexlble ln Lhelr lnvesLmenL opLlons (can use shorL selllng leverage derlvaLlves such as puLs calls opLlons fuLures eLc) O Pedge funds vary enormously ln Lerms of lnvesLmenL reLurns volaLlllLy and rlsk Many buL noL all hedge fund sLraLegles Lend Lo hedge agalnsL downLurns ln Lhe markeLs belng Lraded O Many hedge funds have Lhe ablllLy Lo dellver nonmarkeL correlaLed reLurns O Many hedge funds have as an ob[ecLlve conslsLency of reLurns and caplLal preservaLlon raLher Lhan magnlLude of reLurns O MosL hedge funds are managed by experlenced lnvesLmenL professlonals who are generally dlsclpllned and dlllgenL O 9enslon funds endowmenLs lnsurance companles prlvaLe banks and hlgh neL worLh lndlvlduals and famllles lnvesL ln hedge funds Lo mlnlmlze overall porLfollo volaLlllLy and enhance reLurns O MosL hedge fund managers are hlghly speclallzed and Lrade only wlLhln Lhelr area of experLlse and compeLlLlve advanLage O Pedge funds beneflL by heavlly welghLlng hedge fund managers' remuneraLlon Lowards performance lncenLlves Lhus aLLracLlng Lhe besL bralns ln Lhe lnvesLmenL buslness ln addlLlon hedge fund managers usually have Lhelr own money lnvesLed ln Lhelr fund Iacts About the nedge Iund Industry O sLlmaLed Lo be a $1 Lrllllon lndusLry and growlng aL abouL 20 per year wlLh approxlmaLely 8330 acLlve hedge funds O lncludes a varleLy of lnvesLmenL sLraLegles some of whlch use leverage and derlvaLlves whlle oLhers are more conservaLlve and employ llLLle or no leverage Many hedge fund sLraLegles seek Lo reduce markeL rlsk speclflcally by shorLlng equlLles or Lhrough Lhe use of derlvaLlves O MosL hedge funds are hlghly speclallzed relylng on Lhe speclflc experLlse of Lhe manager or managemenL Leam O 9erformance of many hedge fund sLraLegles parLlcularly relaLlve value sLraLegles ls noL dependenL on Lhe dlrecLlon of Lhe bond or equlLy markeLs unllke convenLlonal equlLy or muLual funds (unlL LrusLs) whlch are generally 100 exposed Lo markeL rlsk O Many hedge fund sLraLegles parLlcularly arblLrage sLraLegles are llmlLed as Lo how much caplLal Lhey can successfully employ before reLurns dlmlnlsh As a resulL many successful hedge fund managers llmlL Lhe amounL of caplLal Lhey wlll accepL O Pedge fund managers are generally hlghly professlonal dlsclpllned and dlllgenL O @helr reLurns over a susLalned perlod of Llme have ouLperformed sLandard equlLy and bond lndexes wlLh less volaLlllLy and less rlsk of loss Lhan equlLles O eyond Lhe averages Lhere are some Lruly ouLsLandlng performers O lnvesLlng ln hedge funds Lends Lo be favored by more sophlsLlcaLed lnvesLors lncludlng many Swlss and oLher prlvaLe banks LhaL have llved Lhrough and undersLand Lhe consequences of ma[or sLock markeL correcLlons O An lncreaslng number of endowmenLs and penslon funds allocaLe asseLs Lo hedge funds nedg|ng Strateg|es A wlde range of hedglng sLraLegles are avallable Lo hedge funds lor example O selllng shorL selllng shares wlLhouL ownlng Lhem hoplng Lo buy Lhem back aL a fuLure daLe aL a lower prlce ln Lhe expecLaLlon LhaL Lhelr prlce wlll drop O uslng arblLrage seeklng Lo explolL prlclng lnefflclencles beLween relaLed securlLles for example can be long converLlble bonds and shorL Lhe underlylng lssuers equlLy O Lradlng opLlons or derlvaLlves conLracLs whose values are based on Lhe performance of any underlylng flnanclal asseL lndex or oLher lnvesLmenL O lnvesLlng ln anLlclpaLlon of a speclflc evenL merger LransacLlon hosLlle Lakeover splnoff exlLlng of bankrupLcy proceedlngs eLc O lnvesLlng ln deeply dlscounLed securlLles of companles abouL Lo enLer or exlL flnanclal dlsLress or bankrupLcy ofLen below llquldaLlon value O Many of Lhe sLraLegles used by hedge funds beneflL from belng noncorrelaLed Lo Lhe dlrecLlon of equlLy markeLs 9opu|ar M|sconcept|on @he popular mlsconcepLlon ls LhaL all hedge funds are volaLlle LhaL Lhey all use global macro sLraLegles and place large dlrecLlonal beLs on sLocks currencles bonds commodlLles and gold whlle uslng loLs of leverage ln reallLy less Lhan 3 of hedge funds are global macro funds MosL hedge funds use derlvaLlves only for hedglng or donL use derlvaLlves aL all and many use no leverage enef|ts of nedge Iunds O Many hedge fund sLraLegles have Lhe ablllLy Lo generaLe poslLlve reLurns ln boLh rlslng and falllng equlLy and bond markeLs O lncluslon of hedge funds ln a balanced porLfollo reduces overall porLfollo rlsk and volaLlllLy and lncreases reLurns O Puge varleLy of hedge fund lnvesLmenL sLyles many uncorrelaLed wlLh each oLher provldes lnvesLors wlLh a wlde cholce of hedge fund sLraLegles Lo meeL Lhelr lnvesLmenL ob[ecLlves O Academlc research proves hedge funds have hlgher reLurns and lower overall rlsk Lhan LradlLlonal lnvesLmenL funds O Pedge funds provlde an ldeal longLerm lnvesLmenL soluLlon ellmlnaLlng Lhe need Lo correcLly Llme enLry and exlL from markeLs O Addlng hedge funds Lo an lnvesLmenL porLfollo provldes dlverslflcaLlon noL oLherwlse avallable ln LradlLlonal lnvesLlng nedge Iund Sty|es 1he predictobi/ity of future resu/ts shows o stronq corre/otion with the vo/oti/ity of eoch stroteqy luture performonce of stroteqies with hiqh vo/oti/ity is for /ess predictob/e thon future performonce from stroteqies experiencinq /ow or moderote vo/oti/ity Aggress|ve Growth lnvesLs ln equlLles expecLed Lo experlence acceleraLlon ln growLh of earnlngs per share Cenerally hlgh 9$ raLlos low or no dlvldends ofLen smaller and mlcro cap sLocks whlch are expecLed Lo experlence rapld growLh lncludes secLor speclallsL funds such as Lechnology banklng or bloLechnology Pedges by shorLlng equlLles where earnlngs dlsappolnLmenL ls expecLed or by shorLlng sLock lndexes @ends Lo be longblased xpecteJ volotlllty n|gh D|stressed Secur|t|es uys equlLy debL or Lrade clalms aL deep dlscounLs of companles ln or faclng bankrupLcy or reorganlzaLlon 9roflLs from Lhe markeLs lack of undersLandlng of Lhe Lrue value of Lhe deeply dlscounLed securlLles and because Lhe ma[orlLy of lnsLlLuLlonal lnvesLors cannoL own below lnvesLmenL grade securlLles (@hls selllng pressure creaLes Lhe deep dlscounL) 8esulLs generally noL dependenL on Lhe dlrecLlon of Lhe markeLs xpecteJ volotlllty ow Moderate Lmerg|ng Markets lnvesLs ln equlLy or debL of emerglng (less maLure) markeLs LhaL Lend Lo have hlgher lnflaLlon and volaLlle growLh ShorL selllng ls noL permlLLed ln many emerglng markeLs and Lherefore effecLlve hedglng ls ofLen noL avallable alLhough rady debL can be parLlally hedged vla uS @reasury fuLures and currency markeLs xpecteJ volotlllty Iery n|gh Iunds of nedge Iunds Mlx and maLch hedge funds and oLher pooled lnvesLmenL vehlcles @hls blendlng of dlfferenL sLraLegles and asseL classes alms Lo provlde a more sLable longLerm lnvesLmenL reLurn Lhan any of Lhe lndlvldual funds 8eLurns rlsk and volaLlllLy can be conLrolled by Lhe mlx of underlylng sLraLegles and funds CaplLal preservaLlon ls generally an lmporLanL conslderaLlon volaLlllLy depends on Lhe mlx and raLlo of sLraLegles employed xpecteJ volotllltyow Moderate n|gh Income lnvesLs wlLh prlmary focus on yleld or currenL lncome raLher Lhan solely on caplLal galns May uLlllze leverage Lo buy bonds and someLlmes flxed lncome derlvaLlves ln order Lo proflL from prlnclpal appreclaLlon and lnLeresL lncome xpecteJ volotlllty ow Macro Alms Lo proflL from changes ln global economles Lyplcally broughL abouL by shlfLs ln governmenL pollcy LhaL lmpacL lnLeresL raLes ln Lurn affecLlng currency sLock and bond markeLs 9arLlclpaLes ln all ma[or markeLs equlLles bonds currencles and commodlLles Lhough noL always aL Lhe same Llme uses leverage and derlvaLlves Lo accenLuaLe Lhe lmpacL of markeL moves uLlllzes hedglng buL Lhe leveraged dlrecLlonal lnvesLmenLs Lend Lo make Lhe largesL lmpacL on performance xpecteJ volotlllty Iery n|gh Market Neutra| Arb|trage ALLempLs Lo hedge ouL mosL markeL rlsk by Laklng offseLLlng poslLlons ofLen ln dlfferenL securlLles of Lhe same lssuer lor example can be long converLlble bonds and shorL Lhe underlylng lssuers equlLy May also use fuLures Lo hedge ouL lnLeresL raLe rlsk locuses on obLalnlng reLurns wlLh low or no correlaLlon Lo boLh Lhe equlLy and bond markeLs @hese relaLlve value sLraLegles lnclude flxed lncome arblLrage morLgage backed securlLles caplLal sLrucLure arblLrage and closedend fund arblLrage xpecteJ volotlllty ow Market Neutra| Secur|t|es nedg|ng lnvesLs equally ln long and shorL equlLy porLfollos generally ln Lhe same secLors of Lhe markeL MarkeL rlsk ls greaLly reduced buL effecLlve sLock analysls and sLock plcklng ls essenLlal Lo obLalnlng meanlngful resulLs Leverage may be used Lo enhance reLurns usually low or no correlaLlon Lo Lhe markeL SomeLlmes uses markeL lndex fuLures Lo hedge ouL sysLemaLlc (markeL) rlsk 8elaLlve benchmark lndex usually @bllls xpecteJ volotllltyow Market 1|m|ng AllocaLes asseLs among dlfferenL asseL classes dependlng on Lhe managers vlew of Lhe economlc or markeL ouLlook 9orLfollo emphasls may swlng wldely beLween asseL classes unpredlcLablllLy of markeL movemenLs and Lhe dlfflculLy of Llmlng enLry and exlL from markeLs add Lo Lhe volaLlllLy of Lhls sLraLegy xpecteJ volotlllty n|gh Cpportun|st|c lnvesLmenL Lheme changes from sLraLegy Lo sLraLegy as opporLunlLles arlse Lo proflL from evenLs such as l9s sudden prlce changes ofLen caused by an lnLerlm earnlngs dlsappolnLmenL hosLlle blds and oLher evenLdrlven opporLunlLles May uLlllze several of Lhese lnvesLlng sLyles aL a glven Llme and ls noL resLrlcLed Lo any parLlcular lnvesLmenL approach or asseL class xpecteJ volotlllty Iar|ab|e Mu|t| Strategy lnvesLmenL approach ls dlverslfled by employlng varlous sLraLegles slmulLaneously Lo reallze shorL and longLerm galns Lher sLraLegles may lnclude sysLems Lradlng such as Lrend followlng and varlous dlverslfled Lechnlcal sLraLegles @hls sLyle of lnvesLlng allows Lhe manager Lo overwelghL or underwelghL dlfferenL sLraLegles Lo besL caplLallze on currenL lnvesLmenL opporLunlLles xpecteJ volotlllty Iar|ab|e Short Se|||ng Sells securlLles shorL ln anLlclpaLlon of belng able Lo rebuy Lhem aL a fuLure daLe aL a lower prlce due Lo Lhe managers assessmenL of Lhe overvaluaLlon of Lhe securlLles or Lhe markeL or ln anLlclpaLlon of earnlngs dlsappolnLmenLs ofLen due Lo accounLlng lrregularlLles new compeLlLlon change of managemenL eLc fLen used as a hedge Lo offseL longonly porLfollos and by Lhose who feel Lhe markeL ls approachlng a bearlsh cycle Plgh rlsk xpecteJ volotlllty Iery n|gh Spec|a| S|tuat|ons lnvesLs ln evenLdrlven slLuaLlons such as mergers hosLlle Lakeovers reorganlzaLlons or leveraged buyouLs May lnvolve slmulLaneous purchase of sLock ln companles belng acqulred and Lhe sale of sLock ln lLs acqulrer hoplng Lo proflL from Lhe spread beLween Lhe currenL markeL prlce and Lhe ulLlmaLe purchase prlce of Lhe company May also uLlllze derlvaLlves Lo leverage reLurns and Lo hedge ouL lnLeresL raLe and$or markeL rlsk 8esulLs generally noL dependenL on dlrecLlon of markeL xpecteJ volotlllty Moderate Ia|ue lnvesLs ln securlLles percelved Lo be selllng aL deep dlscounLs Lo Lhelr lnLrlnslc or poLenLlal worLh Such securlLles may be ouL of favor or underfollowed by analysLs LongLerm holdlng paLlence and sLrong dlsclpllne are ofLen requlred unLll Lhe ulLlmaLe value ls recognlzed by Lhe markeL xpecteJ volotlllty ow Moderate