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“Hedging Fund & Its Impact On Capital Market”

CONTENTS
Sr.No. 1. 2. 3. !. #. %. 7. *. . 1/. 11. Particulars Introduction Characteristics Of Hedge Funds Growth Of Hedge Funds Hedge Fund "ata $enefits Of Hedge Funds &or'ings Of Hedge Funds (is's In)ol)ed In Hedge Funds I+,act Of Hedge Funds In Ca,ital -ar'et (ole Of Hedge Funds In Ca,ital S.ste+ In)estor Protection 0he Federal (eser)e 1 Hedge Funds Page No. 1. 7. . 12. 21. 27. 32. !#. !*. #/. #2.

“Hedging Fund & Its Impact On Capital Market” INTRODUCTION 0he ter+ 2hedge fund2 is used to descri3e a wide )ariet. of institutional in)estors e+,lo.ing a di)erse set of in)est+ent strategies. 4lthough there is no for+al definition of 2hedge fund52 hedge funds are largel. defined 3. what the. are not and 3. the regulations to which the. are not su36ect. 4s a general +atter5 the ter+ 2hedge fund2 refers to unregistered5 ,ri)ate in)est+ent ,artnershi,s for wealth. so,histicated in)estors 73oth natural ,ersons and institutions8 that use so+e for+ of le)erage to carr. out their in)est+ent strategies. 0he ter+ 2hedge fund2 is undefined5 in the federal securities laws. Indeed5 there is co++onl. acce,ted uni)ersal +eaning. 4s funds ha)e gained stature and ,ro+inence5 2hedge fund2 has de)elo,ed into a catch9all classification for +an. unregistered ,ri)atel. ,ools of ca,ital. 0hese ,ools of ca,ital +a. or utili:e the so,histicated hedging and ar3itrage that traditional hedge funds e+,lo.5 and +an. hedged5 and the ter+ has 3eco+e a +isno+er in +an. cases. Hedge funds engage in a )ariet. of in)est+ent acti)ities. 0he. cater to so,histicated in)estors and are not su36ect to the regulations that a,,l. to +utual funds geared toward the general ,u3lic. Fund +anagers are co+,ensated on the 3asis of ,erfor+ance rather than as a fi<ed ,ercentage of assets. 2Perfor+ance funds2 would 3e a +ore accurate descri,tion. +anaged +a. not strategies a,,ear to including no hedge though5

engage in relati)el. si+,le e;uit. strategies. $asicall.5 +an. 2hedge funds2 are not actuall.

“Hedging Fund & Its Impact On Capital Market”

Selected Definitions of "Hedge Fund"

"Hedge fund" is an expression believed to have been first applied in 1949 to a fund managed by Alfred Winslow Jones.1 r. Jones!s private investment fund "ombined both long and short e#uity positions to "hedge" the portfolio!s exposure to movements in the mar$et. %oday& hedge funds are no longer defined by a parti"ular strategy and often do not "hedge" in the e"onomi" sense. %he following is a sele"tion of definitions and des"riptions of the term "hedge fund" showing the diversity of views among "ommentators. "%he term !hedge fund! is "ommonly used to des"ribe a variety of different types of investment vehi"les that share some "ommon "hara"teristi"s. Although it is not statutorily defined& the term en"ompasses any pooled investment vehi"le that is privately organi'ed& administered by professional money managers& and not widely available to the publi"." --THE PRESIDENT'S WORKING GROUP ON FINANCIAL MARKETS, HEDGE FUNDS, LEVERAGE, AND THE LESSONS OF LONG-TERM CAPITAL MANAGEMENT 1 (1999). "%he term !hedge fund! refers generally to a privately offered investment vehi"le that pools the "ontributions of its investors in order to invest in a variety of asset "lasses& su"h as se"urities& futures "ontra"ts& options& bonds& and "urren"ies." --THE SECRETARY OF THE TREASURY, THE BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM, THE SECURITIES AND EXCHANGE COMMISSION, A REPORT TO

/s to des"ribe any investment fund that used in"entive fees& short0selling& and leverage. and .& through the use of options or the simultaneous use of long positions and short sales). %he term first "ame into use in the 19. However& some hedge funds engage only in !buy and hold! strategies or other strategies that do not involve hedging in the traditional sense.“Hedging Fund & Its Impact On Capital Market” CONGRESS IN ACCORDANCE WITH § 356(c) OF THE USA PATRIOT ACT OF 2001 (2002).g. HEDGE FUND FAQs 1 (2003). 1sually& hedge funds2 • are organised as private investment partnerships or offshore investment "orporations. *n fa"t& the term !hedge fund! is used to refer to funds engaging in over +. A summary definition fre#uently used in offi"ial se"tor reports is !any pooled investment vehi"le that is privately organised& administered by professional investment managers& and not widely available to the publi"!. • • • pay performan"e fees to their managers. different types of investment strategies . employ an assortment of trading te"hni#ues and instruments& often in"luding short0 selling& derivatives and leverage. indeed& many "ompeting (and sometimes partially "ontradi"ting) definitions exist. %he word !hedge! refers to a hedge fund!s ability to hedge the value of the assets it holds (e. "%here is no universally a""epted meaning of the expression !hedge fund!.-" --MANAGED FUNDS ASSOCIATION. "A hedge fund "an be broadly defined as a privately offered fund that is administered by a professional investment management firm (or !hedge fund manager!). use a wide variety of trading strategies involving position0ta$ing in a range of mar$ets. %he term "an also be defined by "onsidering the "hara"teristi"s most "ommonly asso"iated with hedge funds.

. "5riginally set up to !hedge bets! or insure against "urren"y or interest rate ris$s& hedge funds have sin"e ta$en on a mu"h wider remit& investing in assets ranging from e#uities and fixed interest sto"$s to derivatives and "ommodities. %heir aim is to ma$e absolute returns& that is to ma$e performan"e returns irrespe"tive of whi"h way the mar$ets are going." 99FIN4NCI4= S>(?IC>S 4@0HO(I0A 7@NI0>" BING"O-85 H>"G> F@N"S 4N" 0H> FS45 "ISC@SSION P4P>( 1%5 at * 72//28./s& the a"tivities of similar types of funds broadened into a range of finan"ial instruments and a"tivities . 6ather li$e derivative funds& hedge funds use derivative instruments or gearing (borrowing against the fund!s assets) to gain greater exposure to their investments or to prote"t against losses." --ROBERT B. STANDARD & POOR'S GUIDE TO OFFSHORE INVESTMENT FUNDS 28 (2000).“Hedging Fund & Its Impact On Capital Market” • Have an investor base "omprising wealthy individuals and institutions and a relatively high minimum investment limit (set at 1341//&/// or higher for most funds).%he term !hedge fund! does not have a pre"ise definition& but it has been used to refer generally to a "adre of private investment partnerships that are engaged in a"tive trading and arbitrage of a range of different se"urities and "ommodities. *n the late 197/s& former 3e"urities and 8x"hange 9ommissioner Hugh 5wens des"ribed !hedge funds! as !private investment partnerships whi"h employ the investment te"hni#ues of leveraging and hedging." .! *n the 19:/s and 19. "%he term !hedge fund! was in use as early as the 197/s to des"ribe a new spe"ulative investment vehi"le that used sophisti"ated hedging and arbitrage te"hni#ues in the "orporate e#uities mar$et. MILROY.

A fund need not employ all of these tools all of the time. A REGULATOR LOOKS AT SOME UNREGULATED INVESTMENT COMPANIES: THE EXOTIC FUNDS. . BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM." --JOHN DOWNES AND JORDAN ELLIOTT GOODMAN.“Hedging Fund & Its Impact On Capital Market” --DEPARTMENT OF THE TREASURY. investors) or an off0shore investment "orporation (for non01.3. A hedge fund is a "private investment partnership (for 1. at B-64 (1992) (citing HUGH OWENS. 1998). or tax0exempt investors) in whi"h the general partner has made a substantial personal investment& and whose offering memorandum allows for the fund to ta$e both long and short positions& use leverage and derivatives& and investment in many mar$ets. SECURITIES AND EXCHANGE COMMISSIONER. it must merely have them at its disposal. 1969)). 21. REMARKS BEFORE THE NORTH AMERICAN SECURITIES ADMINISTRATORS ASSOCIATION (Oct. Hedge funds often ta$e large ris$s on spe"ulative strategies& in"luding <program trading& selling short& swap& and arbitrage=.3. SECURITIES AND EXCHANGE COMMISSION. FINANCE & INVESTMENT HANDBOOK 358 (5th ed. JOINT REPORT ON THE GOVERNMENT SECURITIES MARKET. BARRON'S.

%his means that hedge funds are sub?e"t to very few regulatory "ontrols.Hedge funds are no longer defined by the strategy they pursue.g. Hedge Funds. Lederman.gov/answers/hedge. *t is generally believed that the first su"h fund to employ this approa"h was an investment partnership organi'ed in 1949 by Alfred Winslow Jones .. *n addition& many hedge fund managers are not re#uired to register with the 389 and therefore are not sub?e"t to regular 389 oversight.“Hedging Fund & Its Impact On Capital Market” "%here is no pre"ise definition of the term !hedge fund&! and one will not be found in the federal or state se"urities laws. 11-5 (Clifford E." --SECURITIES AND EXCHANGE COMMISSION. in FINANCIAL PRODUCT FUNDAMENTALS: A GUIDE FOR LAWYERS 11-3. @e"ause of this la"$ of regulatory oversight& hedge funds histori"ally have been available to a""redited investors and large institutions& and have limited their investors through high investment minimums (e. However& unli$e mutual funds& hedge funds are not registered with the 389. available at http://www. While a number of today!s funds pursue the hedged e#uity strategy of Jones& numerous different investment styles are embra"ed by hedge funds .& 41 million).sec.. ">i$e mutual funds& hedge funds pool investors! money and invest those funds in finan"ial instruments in an effort to ma$e a positive return. %he term was first used to des"ribe private investment funds that "ombine both long and short e#uity positions within a single leveraged portfolio. Kirsch ed.Hedge funds are defined more by their form of organi'ation and manner of operation than by the substan"e of their finan"ial strategies. HEDGING YOUR BETS: A HEADS UP ON HEDGE FUNDS AND FUNDS OF HEDGE FUNDS. 2000).htm." --Scott J. any hedge funds see$ to profit in all $inds of mar$ets by pursuing leveraging and other spe"ulative investment pra"ti"es that may in"rease the ris$ of investment loss. 11-4. .

tions 7can use short selling5 le)erage5 deri)ati)es such as . *n pursuit of their absolute return ob?e"tive& hedge funds use a wide variety of investment strategies and tools. Hedge fund managers are a"tive managers see$ing absolute return. ALL ABOUT HEDGE FUNDS. "A hedge fund is an a"tively managed investment fund that see$s attra"tive absolute return.8. Key Characteristics of Hedge Funds • Hedge funds utili:e a )ariet.uts5 calls5 o." --SECURITIES AND EXCHANGE COMMISSION.sec. hedge funds are fle<i3le in their in)est+ent o. Jaeger calls his definition "provisional. at x (2003) (Perhaps in a bit of his own hedging. . Hedge funds are designed for a small number of large investors& and the manager of the fund re"eives a per"entage of the profits earned by the fund."). INVEST WISELY: AN INTRODUCTION TO MUTUAL FUNDS.“Hedging Fund & Its Impact On Capital Market” "!Hedge fund! is a general& non0legal term used to des"ribe private& unregistered investment pools that traditionally have been limited to sophisti"ated& wealthy investors.htm." --ROBERT A.uit. and 3ond +ar'ets.tions5 futures5 etc. available at http://www. -an.gov/investor/pubs/inwsmf. JAEGER. of financial instru+ents to reduce ris'5 enhance returns and +ini+i:e the correlation with e. Hedge funds are not mutual funds and& as su"h& are not sub?e"t to the numerous regulations that apply to mutual funds for the prote"tion of investors 0 in"luding regulations re#uiring a "ertain degree of li#uidity& regulations re#uiring that mutual fund shares be redeemable at any time& regulations prote"ting against "onfli"ts of interest& regulations to assure fairness in the pri"ing of fund shares& dis"losure regulations& regulations limiting the use of leverage& and more.

of returns and ca.ertise of the +anager or +anage+ent tea+. within their area of e<.eciali:ed5 rel.ecificall. and growing at a3out 2/E . weighting hedge fund +anagersC re+uneration towards . Pension funds5 endow+ents5 insurance co+. In addition5 hedge fund +anagers usuall. hedge funds ha)e the a3ilit. -an. *3#/ acti)e hedge funds. -an. s.lo.uities or through the use of deri)ati)es.ri)ate 3an's and high net worth indi)iduals and fa+ilies in)est in hedge funds to +ini+i:e o)erall .. hedge funds ha)e as an o36ecti)e consistenc.reser)ation rather than +agnitude of returns.erfor+ance incenti)es5 thus attracting the 3est 3rains in the in)est+ent 3usiness. • Facts About the Hedge Fund Industry • >sti+ated to 3e a D1 trillion industr.anies5 .“Hedging Fund & Its Impact On Capital Market” • Hedge funds )ar. -an. disci. Hedge funds 3enefit 3.ertise and co+.erienced in)est+ent .5 3ut not all5 hedge fund strategies tend to hedge against downturns in the +ar'ets 3eing traded. e<. • • -an. s.lined and diligent.rofessionals who are generall. in ter+s of in)est+ent returns5 )olatilit. and enhance returns. 3. Includes a )ariet.ital . to deli)er non9+ar'et correlated returns. shorting e.etiti)e ad)antage. and ris'.ortfolio )olatilit.er . ha)e their own +one.ro<i+atel.ecific e<. enor+ousl. hedge fund strategies see' to reduce +ar'et ris' s. little or no le)erage. hea)il.ing on the s.ear with a. -ost hedge funds are +anaged 3. • • -ost hedge funds are highl. of in)est+ent strategies5 so+e of which use le)erage and deri)ati)es while others are +ore conser)ati)e and e+. in)ested in their fund.eciali:ed and trade onl. • • • -ost hedge fund +anagers are highl. .

“Hedging Fund & Its Impact On Capital Market” • Perfor+ance of +an. scrutin.t. successful hedge fund +anagers li+it the a+ount of ca.7 trillion.uit. e+. with its ra.ri)ate e.uit.orate s. e)er.lined and diligent.ital the.osed to +ar'et ris'. the area of hedge funds.endent on the direction of the 3ond or e.ond the a)erages5 there are so+e trul. or +utual funds 7unit trusts85 which are generall. &hile 3ro'erage co++issions continue to decline5 in)est+ent 3an'ing fees start to co+e under . and 3ond inde<es with less )olatilit. • • • 4n increasing nu+3er of endow+ents and .ension funds allocate assets to hedge funds.onsors ha)e all increased their allocations to hedge funds within the conte<t of an increased allocation towards alternati)e in)est+ents +ore generall. can successfull.articularl.5 the hedge fund industr. hedge fund strategies5 . are 3eginning with an e<cess of a 3illion dollars under +anage+ent fro+ da. outstanding .lo..ressure and the entire financial ser)ices industr. The growth of hedge funds In the entire financial ser)ices area5 the sector showing the +ost growth is clearl. the need for a higher return to co+. 0heir returns o)er a sustained . wee' and +an. New funds are starting u.histicated in)estors5 including +an.ensate for the e<. one.le 3etween now and 2/1/ to o)er D2.Fhedge funds 7alternati)e in)est+ents8 is dri)en 3. • -an.id growth stands out fro+ the crowd. +ore so. • • Hedge fund +anagers are generall. 3efore returns di+inish. Swiss and other .ected lower returns fro+ +ore con)entional in)est+ent strategies focused .eriod of ti+e ha)e out. 0his +o)e towards increased in)est+ents in real estateF. highl.ital the.uit. relati)e )alue strategies5 is not de. ar3itrage strategies5 are li+ited as to how +uch ca. worries a3out intensified regulator. Pu3lic funds5 endow+ents5 and cor.ri)ate 3an's that ha)e li)ed through5 and understand the conse. and less ris' of loss than e. 1//E e<. will acce. under +anage+ent with hedge funds has gone u. In)esting in hedge funds tends to 3e fa)ored 3.rofessional5 disci. hedge fund strategies5 . four ti+es 3etween 1 % and 2//! and is e<. 4s a result5 +an. $e.uit.erfor+ers. 0he a+ount of +one.articularl.erfor+ed standard e. +ar'ets 99 unli'e con)entional e.uences of5 +a6or stoc' +ar'et corrections.ected to further tri.uities. .

the higher fees for fear of 3eing loc'ed out fro+ these funds at a later date5 if the. of the newer funds to charge higher fees and i+.l. on the e<cess returns generated 3.5 as well as +odified high9 water +ar's. Gi)en that +ost of the 3est hedge fund co+. +anagers. under wa.ri+e 3ro'erage unit5 a3out a third of the funds o. done 3.ears.lies a negati)e franchise )alue for the esta3lished large fund co+. 0his i+.ualit. defined . all hedge funds are ha)ing in generating ade. No longer are funds charging a 1 .. 4s .er cent +anage+ent fee and 2/ . hedge funds o)er the last decade5 this trend of declining returns was )er. actuall. 3usiness that I 'now of wherein new .s and stiff . 0here is a feeding fren:.ue characteristic of 3eing . +is+atch for . -organ Stanle.uities.rofits.la. to +id 1 /s. 0here is also a clear desire a+ong this in)estor 3ase to 3e +ore focused on a3solute9return strategies rather than relati)e return. One reason wh. +one.rofessed long9ter+ target allocation5 the flow of funds to these asset classes will re+ain strong.er cent of . of the new funds ha)e +ore stringent loc'9u.ou redee+ earl. sur)i)e and grow.2s .er cent +anage+ent fee and 2/ .out for the+sel)es.ros.ro)en8 ha)e the a3ilit.s are focusing +ore on fees and loc'9u.ha 7e<cess return8 to ensure an ade.a. in the world of alternati)e in)est+ents and clients are .. -organ Stanle. are charging a 1.arent.“Hedging Fund & Its Impact On Capital Market” on @S 3onds and e.er cent of .ose +ore stringent ter+s on in)estors.enalties if . a.a. In the stud.erators.uate al. 0he hedge fund 3usiness thus see+s to ha)e the uni.s could 3e the difficult.ening in the .ossi3l. in the earl.s see+ to 3e ta'ing ad)antage of the huge de+and9su.uate .ers 7+ost of who+ are un.rofits 99 the nor+ for the first generation of funds set u. the.er an interesting stud.le<es which ha)e sur)i)ed and . to charge +ore and get 3etter ter+s than the esta3lished o.er cent +anage+ent fee and 2/ .er cent of . done 3.rofits or higher5 while the +a6orit.ast si< +onths are charging a 2 . the onl.# .+ents in the hedge fund world is the clear desire and a3ilit. currentl.ered through the . In a stud. the new 3o.ing u. -an. One of the intriguing de)elo. Gi)en the current le)el of allocations +ost of these large long9ter+ in)estors ha)e towards alternati)e in)est+ents5 and their .le<es are closed to new in)estors5 the new gu.

ears.uire+ents5 if an. for cash returns8. 0he 3eaut.la. 0he a)erage long short hedge fund needs onl. at so+e stage in +ost in)est+ent co++ittees. Hedge funds till date in 2//# ha)e had a tough .ear flat or e)en 7god for3id8 negati)e after disa. the u. In the 1 #9 7 .rofessionals and three in the 3ac' office. 0here is no other industr.uestion whether the . continues to show declining al.er cent and ris' ar3itrage at 3 .. followed 3.er cent in 2//19/3 and ha)e dro.ers into the ga+e.roliferation of hedgies has reduced returns 3ecause the field has 3eco+e too co+.ointing relati)e . regulated and ha)e )er. sur)e.er cent annual return lagged far 3ehind.eo.earG there ha)e 3een few strong trends to ca.osite o)er one +onth =I$O( 7a .le for a fund of si+ilar si:e 7-organ Stanle.a.er cent annual return during 2//19/!5 closel.histicated clients +a.ou loo' at .er centG these returns ha)e consistentl.er 3illion dollars5 while a glo3al +acro fund needs a3out 11 .uit. -ore con)entional hedge fund strategies of tech at / .rising is the ease of entr. are as si+.et see+ to 3e 3othered a3out .eriod5 e<cess returns were 1! .. 0he t.ast three . a3out si< 3ac' office staff . Gi)en the constant inflows into new hedge funds5 clients do not . costs of these )ehicles are also +ini+al and +ost funds will 3e a3le to 3rea' e)en at su3 D1// +illion in assets under +anage+ent. ends the . declined dro. of the hedge fund 3usiness and the reason wh.“Hedging Fund & Its Impact On Capital Market” e<cess returns as the return of the Hedge Fund research co+.ing higher and higher fees for lower returns5 3ut this is a discussion that I a+ sure will co+e u.ward drift in fee structure is e)en +ore sur. distressed de3t focused funds at 17 ...le.italise on and +ost funds are struggling to show a . 0hese funds are also not reall.erfor+ance in 2//3 and 6ust a3out a)erage nu+3ers in 2//!5 so+e of the +ore so. +igrate . nine in)est+ent . li+ited disclosure re.. of new .ha 7e<cess returns85 clients will need to .ositi)e return. 0he current huge inflows into funds focused on e+erging +ar'ets +a'e sense if .ing to as low as # .ed further since.ro<. Hedge funds focused on the e+erging +ar'ets had the 3est returns with an 1* .etiti)e.er cent. that I a+ aware of where e<it and entr.erfor+ance nu+3ers o)er the .8. 0he start9u. If the hedge fund industr. +anager has onl. 4t so+e stage if the hedge fund co++unit.ical long short @S e.

ital5 0oronto8 9 !3. here to sta.% E 2.5 and continue to attract the 3est talent 3ecause of their .erfor+ance front.7%E 7. 0he to.//E . 3rethren on the . 3e li+ited 3.27E -anage+ent5 • 3.ortunit.ortunit. Paulson >nhanced Partners Fund 7Paulson 1 Co.. Gradient >uro. 4tticus >uro.re)ious three . (4$ S.ecial Situations Fund 7(4$ Ca. *E !. $0( Glo3al O. Hedge fund data Top performing funds 0he to. Fund5 Class " 7Salida Ca. Polar Ca.ean Fund 74tticus -anage+ent5 New Aor'8 9 !/.1/E %. their a3ilit.re+iu+ fee structure will e)entuall. $arron2s Online in Octo3er 2//7 7Hedge Fund #/8. S( Phoenicia Fund 7Sloane (o3inson5 =ondon8 9 !3. Fund 7Highland Ca.ital Paragon 43solute (eturn Fund 7Polar Ca.ital5 =ondon8 9 !7. Hedge funds are clearl.out structuresG howe)er5 their a3ilit.5 New Aor'8 9 37.ean Fund 4 7Gradient Ca. to continue to co++and a .ital Partners5 =ondon8 9 3 .ears5 were ran'ed 3.erfor+ing hedge funds5 3ased on a)erage annual return o)er the . to differentiate the+sel)es fro+ their long9onl. #/ .a.!2E #. 1/ are as followsH • • 1. 7E • • • • • • .ital Partners5 =ondon8 9 3*. 0he Children2s In)est+ent Fund 70he Children2s In)est+ent Fund =ondon8 9 !!.1*E *. Highland C"O O..“Hedging Fund & Its Impact On Capital Market” 3ac' to +ore con)entional for+s of in)esting with lower fee structures.ital -anage+ent5 "allas8 9 !3.

#3n L 2. 1//E of the ca. earner was Ia+es Harris Si+ons with an earning of D1. Top earners Institutional In)estor +aga:ine annuall.re)ious 3 .olic.ear. ran's to. 0he returns are net of fees. >arnings fro+ a hedge fund are si+. #/ list e<cludes funds such as (enaissance 0echnologies2 (enaissance -edallion Fund and >S= In)est+ents2 >S= Partners 7each thought to ha)e returned an a)erage of o)er 3#E in the . Si+ons5 (enaissance 0echnologies Cor.% 3illion according to 4l.ital 4d)isers 9 D13n L 3. of relia3le figures5 the to. S4C Ca. 0he 2//# to.uit.“Hedging Fund & Its Impact On Capital Market” • 1/. 0he list also e<cludes funds with a net asset )alue of less than D2#/ +illion.l.ert of >S= In)est+ents Inc. re. includesH • • 1. $oone Pic'ens 9 esti+ated 2//# earnings D1. 1/ list of hedge fund earners according to Trader Monthly Magazine.J1*K Howe)er5 0rader -onthl.aloosa -anage+ent5 which +ight otherwise ha)e +ade the list. 0he 2//! to. Ste)en 4.# 3illion during the ./2 3illion during the .ital and 4.1*E $ecause of the una)aila3ilit. earner was instead 0. 2/E to #/E 7de. 9 D //+ 9 D13n • .ha +aga:ine. Fire3ird Glo3al Fund 7Fire3ird -anage+ent5 New Aor'8 9 37.9earning hedge fund +anagers. 0. earned a3out D1 3illion and that the to. Cohen5 S4C Ca.orted that Si+ons onl. sta'e in the fund ..ear 7P( Newswire lin'8.ital gains on the +anager2s own e.ital8.ending on . earner was >dward =a+. who earned D1. Ia+es H.erfor+ance fee 7usuall. $oone Pic'ens with an esti+ated earning of o)er D1..lus the +anager2s share of the .8 of the gains on the other in)estors2 ca.ears8 and funds 3.J1 K 0he full to.

Ste. 9 D*//+ 9 D //+ #.anies.“Hedging Fund & Its Impact On Capital Market” • • • • • • • !.9 D1. Shaw5 ".. Ieffre. Gold+an Sachs 4sset -anage+ent =ong 0er+ Ca. =ouis $acon5 -oore Ca. Gendell5 0ontine Partners 9 D3//+ 9 D!//+ 1/. >.hen Fein3erg5 Cer3erus Ca.#$ Notable hedge fund management companies So+eti+es also 'nown as alternati)e in)est+ent +anage+ent co+. Ia+es Si+ons5 >ast Setau'et5 New Aor'9 of (enaissance 0echnologies Cor. Shaw 1 Co. 0he list includesH • • • 1.#92$ 3. Shaw 1 Co. Iohn ". $ruce Bo)ner5 Ca<ton 4ssociates 9 D#//+ 9 D%//+ 7. Citadel In)est+ent Grou. earner was Iohn 4rnold according to Trader Monthly Magazine.ital ==C . ". 4rnold5 Houston5 0e<as9 of Centauras >nerg. Fortress In)est+ent Grou.ital -anage+ent 9 D#// 9 D%//+ %. >ddie =a+. • • • • • • • • • • • 4+aranth 4d)isors $ridgewater 4ssociates Ca<ton 4ssociates Centaurus >nerg..ital -anage+ent 9 D3//+ 9 D3#/+ 0he 2//% to.ert5 >S= In)est+ents 9 D#//+ 9 D%//+ *. >. "a)id >.ital -anage+ent -an Grou. 9 D!//+ 9 D#//+ .#92$ 2. >ddie =a+.9 D1. Pirate Ca.ert5 Greenwich5 Connecticut9 of >S= In)est+ents9 D191. Paul 0udor Iones5 0udor In)est+ent Cor.

3ut could turn sour as well 3ecause there are no guidelines 3inding the+.ear of assets under +anage+ent5 along with a )er.erfor+ance.rofit sharing +a. in the international +ar'ets. 2/ . 0his is good in a wa. 4 hedge fund is a co++on ter+ used to descri3e . hedge funds.“Hedging Fund & Its Impact On Capital Market” • • • • (enaissance 0echnologies S4C Ca.s.er cent. +anager9centric as the entire onus of their success or failure falls on the fund +anager2s a3ilit.ou good and sta3le returns.uire+ents to register as institutional in)estors.rofit sharing . Of course5 the. No wonder then that the.resent5 there are no hedge funds o. stoc's and . high .loit e<isting +ar'et conditions. 0hese funds are )er.ercentage5 which is +ostl.ri)ate unregistered in)est+ent . 0he fee is also 3ased on a high water+ar'ing conce. 0hus5 .eciall. Products li'e di)ersified +utual funds5 3lue chi.5 the first 1/ .5 there are a large nu+3er of such funds.ed losses.erating out of India. . charge a fi<ed fee of around 2 . start on the returns o)er and a3o)e sa.ital 4d)isors Soros Fund -anage+ent -arshall &ace Why hedge funds are attractive? 0here are a large nu+3er of in)est+ent )ehicles that offer . Since +ost of the+ are not registered with financial regulators in their countries of origin5 the.t5 which +eans that the fund +anager is entitled to a share of .er cent a .er cent returns. do not need to +eet the eligi3ilit.s5 the fund +anager will not 3e entitled to an. re. 0hereafter5 if the fund incurs losses and then recou. Here we loo' at one such )ehicle5 na+el.ert.artnershi. $ut for high net worth indi)iduals 7HNIs85 there are +ore routes5 es. $ut internationall.rofits the first ti+e.ro. share of the recou. 4t . are so+e of the+. to e<. ha)e to assure returns as well. 0he ne<t ti+e he will 3e entitled is when he 3eats his earlier .

. 0he +ost i+. can re. wish to redee+ their in)est+ent5 as .eriod5 with .ortunities worldwide5 the fund +anager has the lu<ur. or $S> 2//5 or a 3an'ing sector +utual fund could 3ench+ar' its returns against the 3an'ing inde< on a stoc' e<change and can show the in)estors how +uch 3etterFworse he has .5 half9.erfor+ed.anies. Since the. 0hose see'ing to in)est in hedge funds can a. &ith the (eser)e $an' of India JGet MuoteK 7($I8 allowing Indian residents to in)est u.roach a wealth +anager5 securities 3ro'er or in)est+ent consultant a3road5 who can ad)ise the+ on the a)aila3le o.“Hedging Fund & Its Impact On Capital Market” Howe)er5 gi)en the .er+itted 3. 4 few are registered with the regulators in their countries 3ecause their +ain in)estors are uni)ersities5 .roceeds to India into their 3an' account. . e<it windows.ortunit. For e<a+.lethora of o. -ost of the +ar'eting is done through in)est+ent ad)isors or .u3lic through a . can a. such lu<uries.ectus or ad)ertise+ents. 4fter that the.roach their 3an' in India to arrange for the foreign re+ittance to the hedge fund. &hene)er the.ou need to re+e+3er that the a+ount in)ested is not )er. for HNIs to ta.le5 e. the hedge fund5 the.uit.earl. +utual funds are 3ench+ar'ed against an inde< li'e the Nift. these funds as the +ini+u+ li+it of +an.earl.ortant feature of hedge funds is that the.uarterl. $ut . wish to in)est in5 3ased on its trac' record and +anage+ent st. to D2//5/// a3road .ear5 it is another o. li.le.ros.tions and select the hedge fund the.uid and +a. 0he 3asic idea is to generate aggressi)e returns. fro+ the general . of the+ start fro+ D1//5///. Howe)er5 hedge funds +anagers do not ha)e an. see' to deli)er a3solute5 rather than 3ench+ar'ed returns.ension funds and insurance co+...ersonal contacts5 with their +ain in)estors 3eing restricted to so. or .er head a . are not regulated5 +ost countries do not allow the+ to raise +one..histicated HNIs. 3e su36ect to a loc'9in . of +a'ing in)est+ent decisions in stoc's5 3onds5 co++odities5 currencies etc.atriate the .

act .our return on in)est+ent. • Understand how a fund's assets are valued.endent sources.ersonal in)esting goals5 ti+e hori:ons5 and ris' tolerance..erfor+ance fee 3ased on .“Hedging Fund & Its Impact On Capital Market” What information should I seek if I am considering investing in a hedge fund or a fund of hedge funds? • Read a fund's prospectus or offering memorandum and related materials.ou +ust assu+e.aid to the underl.lus a N. • Ask uestions a!out fees.uid securities that +a. charge an asset +anage+ent fee of 192E of assets5 .rocess and 'now the e<tent to which a fund2s securities are )alued 3. are suita3le to .otential returns5 the higher the ris's . Funds of hedge funds t.rofits. -a'e sure . -oreo)er5 +an. ..erfor+ance feeN of 2/E of a hedge fund2s . 3e difficult to )alue.icall.erfor+ance fee could +oti)ate a hedge fund +anager to ta'e greater ris's in the ho. Funds of hedge funds and hedge funds +a. inde. fees . illi. 0hese fees are charged in addition to an. hedge funds gi)e the+sel)es significant discretion in )aluing securities. Aou should understand a fund2s )aluation . charge a fee for +anaging . in)est in highl. 4 .our assets5 and so+e +a.icall.rofits. Fees i+. in)est+ent5 the higher the . also include a .our . 4s with an.ou understand the le)el of ris' in)ol)ed in the fund2s in)est+ent strategies and ensure that the.ing hedge funds.e of generating a larger return. Hedge funds t.

our state securities regulator or search the N4S"2s $ro'erChec' data3ase for an. .ose a Nloc'9u.ou donCt find the in)est+ent ad)iser fir+ in the S>CCs I4P" data3ase5 3e sure to call .our rights are as an in)estor.rinci. +a.ualified to +anage . • Research the !ackgrounds of hedge fund managers.our +one.laced on . In addition5 .eriod of one . re)iewing the ad)iserCs For+ 4"?. within the securities industr.ies of For+ 4"? for indi)idual ad)isers and fir+s fro+ the in)est+ent ad)iser5 the S>CCs Pu3lic (eference (oo+5 or 7for ad)isers with less than D2# +illion in assets under +anage+ent8 the state securities regulator where the ad)iser2s .our shares 7e.ou can get it 3ac'5 what . to so+eone else. histor.5 and find out whether the.. • #on't !e afraid to ask uestions. Aou are entrusting . ha)e.lace of 3usiness is located.linar. Hedge funds t.ou are in)esting. Aou can get this infor+ation 7and +ore8 3. ha)e a disci. Aou also can get co. wish to read N4S"Cs in)estor alert5 which descri3es so+e of the high costs and ris's of in)esting in funds of hedge funds.“Hedging Fund & Its Impact On Capital Market” • Understand an" limitations on "our right to redeem "our shares.al ..ortunities to redee+5 or cash in5 . -a'e sure hedge fund +anagers are .our in)est+ent and what . infor+ation the.5 to four ti+es a . Aou should 'now where .rotections are .ear85 and often i+.ou cannot cash in .our +one. Aou can search for and )iew a fir+Cs For+ 4"? using the S>CCs In)est+ent 4d)iser Pu3lic "isclosure 7I4P"8 we3site.our shares.ear or +ore5 during which .g. li+it o.icall.ou +a. Bnow with who+ .our +one.N .. is going5 who is +anaging it5 how it is 3eing in)ested5 how . If .

resentations .l.resented their e<. it is e<tre+el. For e<a+.rotections that co++onl.uite difficult to )erif. Other cases were classic NPon:i sche+es5N where earl. 0he S>C can ta'e action against a hedge fund that defrauds in)estors5 and we ha)e 3rought a nu+3er of fraud cases in)ol)ing hedge funds. to chec' routinel.aid off to +a'e the sche+e loo' legiti+ate. account state+ents to in)estors to ca+ouflage the fact that their +one. chec' out e)er. to +ost registered in)est+ents. had 3een stolen.ou +ight consider as an in)est+ent. as. on hedge fund acti)ities.hon.ou +a. re. i+.“Hedging Fund & Its Impact On Capital Market” What protections do I have if I purchase a hedge fund? Hedge fund in)estors do not recei)e all of the federal and state law . in these cases5 hedge fund ad)isers +isre. . Co++onl. In so+e of the cases we ha)e 3rought5 the hedge funds sent . Aou should also 3e aware that5 while the S>C +a. ha)e li+ited a3ilit.le5 .ou won2t get the sa+e le)el of disclosures fro+ a hedge fund that ..ortant to thoroughl.ect of an. in)estors were .erience and the fund2s trac' record. 0hat2s wh. a. hedge fund +anager that is registered as an in)est+ent ad)iser under the In)est+ent 4d)isers 4ct5 the S>C and other securities regulators generall. recei)e fro+ a hedge fund. conduct e<a+inations of an. hedge fund .uire for +ost registered in)est+ents5 it can 3e .ou2ll get fro+ registered in)est+ents. &ithout the disclosures that the securities laws re.

all use glo3al +acro strategies and . 0rading o.tion is that all hedge funds are )olatile 99 that the.ing financial asset5 inde< or other in)est+ent.erfor+ance of an..tc.ing issuerCs e.rice will dro.l.ing to 3u.o.5 less than #E of hedge funds are glo3al +acro funds.in9 off5 e<iting of 3an'ru.tc. the+ 3ac' at a future date at a lower . +ar'ets • • • • • Popular Misconception 0he .uit.rice in the e<.uidation )alue.5 often 3elow li.ricing inefficiencies 3etween related securities 9 for e<a+. @sing ar3itrage 9 see'ing to e<. -an. In)esting in antici.ecific e)ent 9 +erger transaction5 hostile ta'eo)er5 s. discounted securities 9 of co+. underl.uit.lace large directional 3ets on stoc's5 currencies5 3onds5 co++odities5 and gold5 while using lots of le)erage. .loit .le5 can 3e long con)erti3le 3onds and short the underl.“Hedging Fund & Its Impact On Capital Market” Hedging Strategies &ide ranges of hedging strategies are a)aila3le to hedge funds. -ost .ular +isconce. For e<a+. In realit. hedge funds 3enefit fro+ 3eing non9correlated to the direction of e.ation of a s.roceedings5 etc.anies a3out to enter or e<it financial distress or 3an'ru.leH • Selling short 9 selling shares without owning the+5 ho..ectation that their . of the strategies used 3.tions or deri)ati)es 9 contracts whose )alues are 3ased on the . In)esting in dee.

.ortfolio . for hedging or don2t use deri)ati)es at all5 and +an. of hedge fund in)est+ent st. • • Hedge Fund Styles 0he .erfor+ance fro+ strategies e<. Hedge funds . of each strateg..uit.“Hedging Fund & Its Impact On Capital Market” hedge funds use deri)ati)es onl. ti+e entr. Benefits of Hedge Funds • -an. Huge )ariet. 4dding hedge funds to an in)est+ent .ro)ide an ideal long9ter+ in)est+ent solution5 eli+inating the need to correctl. Inclusion of hedge funds in a 3alanced .erfor+ance of strategies with high )olatilit. and increases returns.ro)ides di)ersification not otherwise a)aila3le in traditional in)esting. • • • 4cade+ic research .ortfolio ris' and )olatilit.redicta3le than future . use no le)erage.ro)es hedge funds ha)e higher returns and lower o)erall ris' than traditional in)est+ent funds.ro)ides in)estors with a wide choice of hedge fund strategies to +eet their in)est+ent o36ecti)es. uncorrelated with each other O . to generate .ortfolio reduces o)erall . Future .eriencing low or +oderate )olatilit. and 3ond +ar'ets.ositi)e returns in 3oth rising and falling e. hedge fund strategies ha)e the a3ilit. and e<it fro+ +ar'ets.. of future results shows a strong correlation with the )olatilit.redicta3ilit. is far less .les O +an.

S. of the indi)idual funds. of institutional in)estors cannot own 3elow in)est+ent grade securities.ed. or de3t of e+erging 7less +ature8 +ar'ets that tend to ha)e higher inflation and )olatile growth. ><. 3onds and so+eti+es fi<ed inco+e deri)ati)es in order to . 0his 3lending of different strategies and asset classes ai+s to .uities where earnings disa.ri+ar.er+itted in +an. shorting stoc' inde<es. discounts of co+. (eturns5 ris'5 and )olatilit.ield or current inco+e rather than solel. Ca.uities e<. discounted securities and 3ecause the +a6orit.5 3an'ing5 or 3iotechnolog.ressure creates the dee.ected to e<.ends on the +i< and ratio of strategies e+.ected or 3.ected ?olatilit.artiall. an i+.rofit fro+ .id growth. de3t can 3e .ital gains. discount.H *er" &igh +unds of &edge +unds% -i< and +atch hedge funds and other .s e.8 (esults generall. ><.erience ra.anies in or facing 3an'ru.ooled in)est+ent )ehicles.. Short selling is not .uit.ected ?olatilit.H 'ow ( )oderate ( &igh . ><. Includes sector s.erience acceleration in growth of earnings .5 de3t5 or trade clai+s at dee.H &igh #istressed Securities% $u. on ca.ncome% In)ests with . can 3e controlled 3. +ar'ets.ected ?olatilit.er share.ing strategies and funds.ected to e<.ital .H 'ow . shorting e.al a.l. 0reasur.reser)ation is generall. the +i< of underl. focus on . or reorgani:ation.N ><.ortant consideration.ected ?olatilit. ><.. high PF> ratios5 low or no di)idendsG often s+aller and +icro ca. Hedges 3.ected ?olatilit.uit. -a. e+erging +ar'ets5 and5 therefore5 effecti)e hedging is often not a)aila3le5 although $rad.oint+ent is e<. stoc's which are e<.rinci.reciation and interest inco+e. de. Profits fro+ the +ar'et2s lac' of understanding of the true )alue of the dee. utili:e le)erage to 3u.tc. 0ends to 3e Nlong93iased.endent on the direction of the +ar'ets. not de. Generall.H 'ow ( )oderate Emerging )arkets% In)ests in e. hedged )ia @. futures and currenc.“Hedging Fund & Its Impact On Capital Market” Aggressive $rowth% In)ests in e. 70his selling .lo.ro)ide a +ore sta3le long9ter+ in)est+ent return than an.ecialist funds such as technolog. ?olatilit..

.ected ?olatilit.ected ?olatilit. @tili:es hedging5 3ut the le)eraged directional in)est+ents tend to +a'e the largest i+. Portfolio e+. of this strateg. 093ills. in long and short e.ste+atic 7+ar'et8 ris'.ected ?olatilit. ><.ts to hedge out +ost +ar'et ris' 3. -ar'et ris' is greatl. swing widel. of +ar'et +o)e+ents and the difficult.rofit fro+ e)ents such as IPOs5 sudden . ta'ing offsetting . reduced5 3ut effecti)e stoc' anal.act on .ected ?olatilit.5 stoc'5 and 3ond +ar'ets.uit. So+eti+es uses +ar'et inde< futures to hedge out s.uities5 3onds5 currencies and co++odities 99 though not alwa. (elati)e 3ench+ar' inde< usuall. .“Hedging Fund & Its Impact On Capital Market” )acro% 4i+s to .icall. =e)erage +a.H &igh Opportunistic% In)est+ent the+e changes fro+ strateg. of ti+ing entr. as o.ital structure ar3itrage5 and closed9end fund ar3itrage...sis and stoc' . @n.H 'ow )arket Timing% 4llocates assets a+ong different asset classes de.hasis +a. 3rought a3out 3. @ses le)erage and deri)ati)es to accentuate the i+.uit.erfor+ance. in the sa+e sectors of the +ar'et. ><.redicta3ilit.H *er" &igh )arket Neutral ( Ar!itrage% 4tte+.uit.s at the sa+e ti+e.rofit fro+ changes in glo3al econo+ies5 t.H 'ow )arket Neutral ( Securities &edging% In)ests e. that i+. shifts in go)ern+ent .ing issuers e. also use futures to hedge out interest rate ris'. low or no correlation to the +ar'et. -a. Focuses on o3taining returns with low or no correlation to 3oth the e.le5 can 3e long con)erti3le 3onds and short the underl.uall. and 3ond +ar'ets.ending on the +anager2s )iew of the econo+ic or +ar'et outloo'. ><. an interi+ . 0hese relati)e )alue strategies include fi<ed inco+e ar3itrage5 +ortgage 3ac'ed securities5 ca.ates in all +a6or +ar'ets 99 e. to strateg. and e<it fro+ +ar'ets add to the )olatilit.act interest rates5 in turn affecting currenc.ortunities arise to . ><. 3etween asset classes.ortfolios generall. For e<a+.olic.act of +ar'et +o)es. @suall.ositions5 often in different securities of the sa+e issuer. 3e used to enhance returns. Partici.ic'ing is essential to o3taining +eaningful results.rice changes often caused 3..

ected ?olatilit.uirer5 ho.les at a gi)en ti+e and is not restricted to an.uired until the ulti+ate )alue is recogni:ed 3.cle.ercei)ed to 3e selling at dee.le of in)esting allows the +anager to o)erweight or underweight different strategies to 3est ca.ortfolios and 3.ected ?olatilit. High ris'. also utili:e deri)ati)es to le)erage returns and to hedge out interest rate andFor +ar'et ris'.ortunities.atience5 and strong disci. those who feel the +ar'et is a.otential worth.rice due to the +anager2s assess+ent of the o)er)aluation of the securities5 or the +ar'et5 or in antici...read 3etween the current +ar'et . -a. 0his st.outs. =ong9 ter+ holding5 .line are often re.roaching a 3earish c.ation of earnings disa.H 'ow ( )oderate . Other strategies +a.rofit fro+ the s. discounts to their intrinsic or .an.uired5 and the sale of stoc' in its ac. Such securities +a. ><.H *er" &igh Special Situations% In)ests in e)ent9dri)en situations such as +ergers5 hostile ta'eo)ers5 reorgani:ations5 or le)eraged 3u..anies 3eing ac. . ><. to reali:e short9 and long9ter+ gains. the+ at a future date at a lower . the +ar'et.. ><. e+.H )oderate *alue% In)ests in securities . -a.lo.endent on direction of +ar'et. not de.articular in)est+ent a. anal.H *aria!le Short Selling% Sells securities short in antici.ste+s trading such as trend following and )arious di)ersified technical strategies..etition5 change of +anage+ent5 etc.urchase . ><.. in)ol)e si+ultaneous ..rice of the co+.oint+ents often due to accounting irregularities5 new co+.itali:e on current in)est+ent o. Often used as a hedge to offset long9onl.oint+ent5 hostile 3ids5 and other e)ent9dri)en o.ation of 3eing a3le to re3u.ortunities. utili:e se)eral of these in)esting st.sts. ><.rice and the ulti+ate .ing to .ected ?olatilit. 3e out of fa)or or under followed 3.“Hedging Fund & Its Impact On Capital Market” earnings disa.H *aria!le )ulti Strateg"% In)est+ent a.ected ?olatilit. -a.ected ?olatilit.roach or asset class.urchase of stoc' in co+. include s. (esults generall.ing )arious strategies si+ultaneousl.. .roach is di)ersified 3.

ears5 the nu+3er of hedge funds has risen 3. *3#/ hedge funds +anaging D1 trillion.. 0he strong results can 3e lin'ed to . use financial instru+ents generall. a3out 2/ .rotect downside ris'5 gi)es hedge funds the a3ilit.5 which includes use of hedging strategies to .ractitioners and other financial e<. +utual fund +anagers5 hedge fund +anagers are usuall. hea)il. run and shares the rewards as well as ris's with the in)estors. 3e. &hile the nu+3er and si:e of hedge funds are s+all relati)e to +utual funds5 their growth reflects the i+.ositi)e5 whereas +utual funds . In the last nine . .5 there are esti+ated to 3e a. NIncenti)e feesN re+unerate hedge fund +anagers onl.tions 3ecause the. in)ested in a significant . of &all StreetCs 3est .ro<i+atel. for institutional in)estors and wealth.“Hedging Fund & Its Impact On Capital Market” Advantages of Hedge Funds over Mutual Funds Hedge funds are e<tre+el. . fle<i3le in their in)est+ent o. 0his incenti)e fee structure tends to attract +an. indi)idual in)estors.. 0his fle<i3ilit.erfor+ance.uire+ents that largel.erts to the hedge fund industr.id.erfor+ance incenti)es in addition to in)est+ent fle<i3ilit. @nli'e +an. their financial +anagers according to the )olu+e of assets +anaged5 regardless of .ond the reach of +utual funds5 which ha)e S>C regulations and disclosure re. when returns are .ercent .ear and the rate of growth in hedge fund assets has 3een e)en +ore ra..a.er .re)ent the+ fro+ using short selling5 le)erage5 concentrated in)est+ents5 and deri)ati)es. to 3est +anage in)est+ent ris's.ortion of the funds the.ortance of this alternati)e in)est+ent categor. Currentl.

+0& $).'0& $'.00& $0.“Hedging Fund & Its Impact On Capital Market” Hedge Funds Out.S.)0& $!+.)0& S&P 500 !"#0 %"#0 '"#! !"#' !"#* *"#* %"#( %"## '"00 %"00 *"00 !"0! %"0! '"0' %"0' %"0* !"05 .%0& %.50& $%.)0& $0.+0& !.5#& $!!%.!0& $%.)0& $!%.%0& $'.00& $'.!0& 0.erfor+ -utual Funds in Falling >.'0& $%.ota $%& $!%.'0& $!0.*0& $0.)0& $!.'0& $!!5.+0& $!5.0'& $#.%0& Equity Mutua Fund $'.)0& $'.*0& $!).#0& $+.'0& $'.(0& $0.(0& $!!.00& $).(0& $!5.*0& $%.(0& $!.)0& $!).(0& $!'.(0& $!.%0& $'.+0& 0.'0& $'.%0& 5.)0& '. Hedge Morningstar Average Fund Index '.+0& $!.'0& $+.!0& $!0.#0& $!*. -ar'ets VAN U.0!& .'0& $%.00& $%.!0& '.#0& $0.*0& .uit.)0& $%.*0& $!.

"uring those negati)e . +utual fund had a total negati)e return of 11#.reser)e ca.ears5 the S1P #// Inde< has had 17 negati)e .ing the a3ilit.“Hedging Fund & Its Impact On Capital Market” "uring the last 1* .la.uit.3E5 dis. +ar'ets.S./1E.uarters5 totaling a negati)e return of 113. e.7E5 while the a)erage hedge fund had a total negati)e return of onl.ital in falling e.uit. of hedge funds to . .uarters5 the a)erage @. 1/.

4s their na+e i+. direct regulation 3.ro+ise their 3usiness interestsG this li+its the infor+ation a hedge fund would want to release.ecificall. In the @nited States5 hedge funds are o.. regulator. a.erfor+ance fee and t. o)er +ar'ets5 whether the.le< in)est+ent strategies such as short selling5 entering into futures5 swa. a3solute9return fund O +an.lied to an. 0his li+its the infor+ation a hedge fund can legall. of the industr.al +ar'ets the. @nli'e o.otential losses in the .ri)ate wealth. J1K 4s a hedge fund2s in)est+ent acti)ities are li+ited onl. su3stantial and there is a continuing de3ate o)er whether the.u3lic NretailN funds 7e.g. +utual funds8 which +ar'et freel. Hedge funds ha)e ac.. nu+3er of +ethods.rofessional in)estors or indi)iduals with sufficient . of these so9called Nhedge fundsN do not actuall..S.utation for secrec. le)erage5 their swa. co+. 4dditionall.. in)est in 3. should 3e +ore thoroughl. the contracts go)erning the .“Hedging Fund & Its Impact On Capital Market” ABOUT WORKINGS OF HEDGE FUNDS 4 hedge fund is a . to the .arlance to 3e o)erused and ina. o. $ecause of this restriction5 the.icall. succeed or fail5 is . Industry In 2//#5 43solute (eturn +aga:ine found there were 1 % hedge funds with D1 3illion or +ore in assets5 with a co+3ined D7!3 3illion under +anage+ent 9 the )ast +a6orit.ualified in)estors. are usuall. 3e +ulti.lies5 hedge funds often see' to offset . hedge their in)est+ents.articular fund5 it can +a'e greater use of co+. hedging )ia an..lied 3. 3odies. a li+ited range of . 3illions of dollars and will usuall.rohi3ited fro+ +ar'eting to in)estors who are not .riatel.otentiall.en to accredited in)estors onl.5 @. regulated. release.5 di)ulging a hedge fund2s +ethods could unreasona3l.u3lic5 in +ost countries5 hedge funds are s. Since hedge fund assets can run into +an. 4lfred &inslow Iones is credited with in)enting hedge funds in 1 ! .ri)ate in)est+ent fund charging a .uired a re. 3.t fro+ an.en9to9the9.2s . Howe)er5 the ter+ Nhedge fundN has co+e in +odern .rinci. e<e+.ro. .s and other deri)ati)e contracts and le)erage.en to onl.

S. Management fees 4s with other in)est+ent funds5 the +anage+ent fee is calculated as a .rohi3ited in the @.“Hedging Fund & Its Impact On Capital Market” esti+ated D1 trillion in assets.aid +onthl. 4s large institutional in)estors ha)e entered the hedge fund industr.er annu+5 with 2E 3eing the standard figure. +anagers +ore generousl. 17. For +anagers who .erfor+ance fee is e<tre+el..ossi3le. for stoc' 3ro'ers. grou.ercentage of the net asset )alue of the fund at the ti+e when the fee 3eco+es .ort J!K .#E on a . 0he 2//* Hedge Fund 4sset Flows 1 0rends (e.rofits5 counting 3oth unreali:ed . at odds with Absolute 6eturn. when the in)estors ha)e the+sel)es +ade +one. Performance fees Perfor+ance fees5 which gi)e a share of .. In contrast to retail in)est+ent fir+s5 .a.J"itation neededK 4 hedge fund2s . Perfor+ance fees e<ist 3ecause in)estors are usuall.%* trillion in M3 2//7. .J2K Howe)er5 according to hedge fund ad)isor. associated with hedge funds5 and are intended to incenti)i:e the in)est+ent +anager to . willing to .net and *nstitutional *nvestor Bews esti+ates total industr. HedgeAund. Perfor+ance fees are closel. Fees @suall.icall.!!2 trillion5 u. -anage+ent fees are usuall.ear earlier5 an esti+ate for 2//# see+ingl.ear end and charges a 2E +anage+ent fee5 the +anage+ent fee will 3e D2/ +illion in total. and . the total asset le)els continue to rise.u3lished 3.erfor+ance fee is calculated as a . Hennessee5 total hedge fund industr.rofits and actual reali:ed trading .ositi)e returns to the +anager5 are one of the defining characteristics of hedge funds. 0herefore5 if a fund has D1 3illion of assets at the .rofits.erfor+ well the ..a3le. D21# 3illion in 2//% to D1.a. range fro+ 1E to !E . assets increased 3. -anage+ent fees t. lucrati)e.erfor+ance fee 7also 'nown as an incenti)e fee8. the hedge fund +anager will recei)e 3oth a +anage+ent fee and a .roduce the largest returns .erfor+ance fees are . calculated annuall. assets reached D2.ercentage of the fund2s .

a3le.a. J"itations neededK -anagers argue that .ital and running solel.erfor+ance is .ed to D12/5 no fee is .erfor+ance fees hel. . to those of in)estors and to reduce the incenti)e for +anagers to see' )olatile trades. 0his +easure is intended to lin' the +anager2s interests +ore closel.ear5 enriching the +anager 3ut not the in)estors. Howe)er5 .er share rises to D1!35 a .ro3le+5 fees are usuall.s.ees2 +one.erfor+ance fees unless the )alue of the fund e<ceeds the highest net asset )alue it has .“Hedging Fund & Its Impact On Capital Market” 0.erfor+ance fee will 3e . In .t to control this .ear the N4? .erfor+ance fee would 3e .J#K 0his +eans that the +anager does not recei)e .5 hedge funds charge 2/E of gross returns as a ..erfor+ance fees ha)e 3een critici:ed 3.erfor+ance fee5 3ut again the range is wide5 with highl. charged a #E +anage+ent fee and a !!E incenti)e fee in its flagshi. For e<a+. achie)ed.ro)ide co+. 0his .. Howe)er5 this +echanis+ does not .lete .le5 if a fund was launched at a net asset )alue 7N4?8 .ear5 a . If in the third . a hurdle rate.a3le e)en when .rotection to in)estorsH a +anager who has lost +one.le5 including nota3le in)estor &arren $uffett5 for gi)ing +anagers an incenti)e to ta'e e<cessi)e ris' rather than targeting high long9ter+ returns.. li+ited 3.ro)ision is so+eti+es called a Pclaw93ac'. a high water +ar' and so+eti+es 3.ear it dro.C High water marks 4 NHigh water +ar'N is often a.lied to a .a. si+.lo..5 the in)est+ent +anager +ight 3e re.a.a3le on the D3/ return for each share. In an atte+. other . 4lternati)el.eo.erfor+ance fee e)er.a3le onl.oor.uired to return .l. +a.ital Partners charges a #/E incenti)e fee 73ut no +anage+ent fee8 and Ii+ Si+ons2 (enaissance 0echnologies Cor.re)iousl. to align the interests of +anager and in)estor 3etter than flat fees that are . decide to close the .. on the e<tra D13 return fro+ D13/ to D1!3 rather than on the full return fro+ D12/ to D1!3.a.articular5 Ste)en Cohen2s S4C Ca. on its e+. regarded +anagers de+anding higher fees. +an. If the ne<t . If a high water +ar' is not used5 a fund that ends alternate .ears at D1// and D11/ would generate .erfor+ance fees when the )alue of the fund dro. -edallion Fund 3efore returning all in)estors2 ca.icall.er share of D1//5 which then rose to D13/ in its first .erfor+ance fee calculation.

ut the +one.5 I$.ractice has di+inished as de+and for hedge funds has outstri. 0hough logicall. .forward Pro)ision. hedged5 at 3est.l.J"itation neededK Co+. close down rather than wor' without fees5 as would 3e re. Funds which use a hard hurdle rate onl. J%K Hurdle rates So+e funds also s. @nder certain circu+stances5 an in)estor or hedge fund can co+. hedge the ris's of an in)est+ent5 lea)ing .erfor+ance e<ceeds a 3ench+ar' rate5 such as 093ills or a fi<ed .ercentage5 o)er so+e . of the +anager to do 3etter than the in)estor would ha)e done if he had .ersuade in)estors to trust hi+ with their +one.ea'ing5 it is not accurate to call such funds hedge funds5 3ut that is current usage. So+e st. elsewhere.N Poorl.rofit..eriod.letel. Funds which s. 4 high water +ar' is so+eti+es referred to as a N=oss Carr.rofits5 lea)ing hedge fund +anagers with trades that are . 0his lin's . Strictl. shares of5 sa. charge a . and hurdles are now rare. such ..les of hedge fund in)esting5 such as glo3al +acro in)esting5 +a.“Hedging Fund & Its Impact On Capital Market” fund and start again with a clean slate 99 .uentl.erfor+ance fees to the a3ilit. sell the+ on another e<change5 lea)ing . their high water +ar' .ecif. s. in)ol)e no hedging at all. 0hese trades still contain residual ris's which can 3e considera3le. a soft hurdle rate charge a . a hurdle rate5 which signifies that the fund will not charge a .. a.on one e<change and si+ultaneousl..etition a+ong in)estors has leached awa.artiall.ure . .ealing5 this .erfor+ance fee 3ased on the entire annuali:ed return.uired 3.erfor+ance fee until its annuali:ed .ure .ecif.erfor+ing funds fre.ed su.rofit.olicies.J"itation neededK For e<a+.J"itations neededK Strategies Hedge funds are no longer a ho+ogeneous class.erfor+ance fee on returns a3o)e the hurdle rate.ro)ided that he can .ossi3le for e<change traders to 3u.le5 at one ti+e it was .

eciali:ed in the anal. o • Con)erti3le ar3itrage O 3etween a con)erti3le 3ond and the sa+e co+.articular 'ind of e)ent.. o o o "istressed securities O co+.ated relationshi.an..an. using short . +eans unhedged5 long . Fi<ed inco+e ar3itrage O 3etween related 3onds..J"itation neededK o . o o o o • =ong F short e. "eri)ati)e ar3itrage O 3etween a deri)ati)e and its securit.. 4dditional le)erage is so+eti+es used.. 4r3itrage O see'ing assets that are +is. -erger ar3itrage 9 ar3itrage 3etween an ac. different .rices a. o o • >)ent dri)en O s. esti+ated relationshi.u3lic co+.uit.. +ar'et neutral O +aintaining a close 3alance 3etween long and short . (egulation " O distressed co+. (is' ar3itrage O 3etween securities whose ..roaches are used ta'ing different e<.ositions.5 3ut +an.uit.ues and different instru+entsH • Glo3al +acro O see'ing related assets that ha)e de)iated fro+ so+e antici.anies issuing securities.osures5 e<. O generic ter+ co)ering all hedged in)est+ent in e.ear to i+. Fund of hedge funds 9 unhedged5 long onl.riced relati)e to related assets. 3e hedged8.u3lic co+.uit.loiting different +ar'et o.uit.ositions.ortunities5 using different techni. 3eco+e 3an'ru. • Other O the strategies 3elow are so+eti+es considered hedge strategies5 although in se)eral cases usage of the ter+ is de3ata3le.ro3a3ilities for one e)ent.l.sis of a . Statistical ar3itrage 7or 3tatArb8 O 3etween securities that ha)e de)iated fro+ so+e statisticall. different a.uities. Short 3ias O e+.anies that are or +a. and a target .“Hedging Fund & Its Impact On Capital Market” 0he 3ul' of hedge funds descri3e the+sel)es as long F short e.an.hasi:ing or solel.uiring .t. o >+erging +ar'ets9 this usuall..ositions in s+all o)erseas +ar'ets. .ositions in hedge funds 7though the underl.2s e. >.ing funds5 of course5 +a.

osition than in)esting in a regulated fund5 des. rather than as a hedging strateg. 0he following are so+e of the .se5 =ong 0er+ Ca. D1 in)ested5 a loss of onl. into the fund 3.onding long . it can suffer )er. 3efore its colla.osition.ital -anage+ent had 3orrowed o)er D2% for each D1 in)ested.ri+ar. Short selling 9 due to the nature of short selling5 the losses that can 3e incurred on a losing 3et are theoreticall. ti+es greater than the initial in)est+ent. +ore li'el..arenc. carr. Hedge fund risk In)esting in a hedge fund is considered to 3e a ris'ier . 4t the 3eginning of 1 *5 shortl.. high losses if the +ar'et turns against it. undisclosed structural ris's. =ac' of regulation 9 hedge funds are not su36ect to as +uch o)ersight fro+ financial regulators5 and therefore so+e +a. hedges a corres.es of funds to ta'e on underl. li+itless5 unless the short . =ac' of trans.ri+e +ortgages.icall.utting +one.e out 1//E of the )alue of the in)estor2s sta'e in the fund5 once the creditors ha)e called in their loans.ortfolio and other factors rele)ant to an in)est+ent decision.. .ing in)est+ents that carr. It can therefore 3e difficult for an in)estor to assess trading strategies5 di)ersification of the . than other t.ro.osition directl. 4.5 with certain funds 3orrowing su+s +an.“Hedging Fund & Its Impact On Capital Market” o o Muantitati)e 13/93/ funds 9 0hrough le)eraging5 13/E of the +one. in)ested in the fund is used to 3u.ield 3onds5 distressed securities and collateralised de3t o3ligations 3ased on su39.etite for ris' 9 hedge funds are culturall. in)ested in the fund is used to short stoc'. 3orrow +one. 1/E of the )alue of the in)est+ents of the hedge fund will wi. stoc's. high degrees of ris'5 such as high . 0herefore5 where a hedge fund uses short selling as an in)est+ent strateg. 9 hedge funds are secreti)e entities. reasons for the increased ris'H =e)erage 9 in addition to . 3/E of the +one. in)estors5 a hedge fund will t.ite the traditional notion of a NhedgeN 3eing a +eans of reducing the ris' of a 3et or in)est+ent. &here a hedge fund has 3orrowed D for e)er.

icall. co+. hel.ortfolio and a s+all a+ount of cash5 and its in)estors 3eing its clients.ortfolio is +anaged 3.ens u.o. 3ased in a +a6or financial centre5 will .rofit it +a'es when it realises its in)est+ent5 and the in)est+ent +anager5 usuall. Domicile 0he s.ortfolio.s to . hedge funds are esta3lished in offshore ta< ha)ens so that the fund can a)oid .onding rewards.lo. ter+ed a Qhedge fundR 7e.. and which is the actual 3usiness.ular offshore location was the Ca.ro)ide higher returnsG secrec.etitorsG and 3eing unregulated reduces costs and allows the in)est+ent +anager +ore freedo+ to +a'e decisions on a . the ta< en)iron+ent of the fundCs e<.ing ta< on the increase in the )alue of its . correct.+an Islands5 followed 3.lifies .la. new in)est+ent o.“Hedging Fund & Its Impact On Capital Market” In)estors in hedge funds are willing to ta'e these ris's 3ecause of the corres. co++ercial 3asis.ular onshore location5 accounting for 3!E of funds and 2!E of assets.ert.o.ro. 0he fund itself is not a genuine 3usiness5 ha)ing no e+. two9thirds of total hedge fund assets5 were esta3lished offshore.re)ent i+itation 3.ees and ..a. ta< on the fees that it recei)es for +anaging the fund.. Legal structure 4 hedge fund is a )ehicle for holding and in)esting the funds of its in)estors.ecific legal structure of a hedge fund O in .e of entit.ortunitiesG ris'ier in)est+ents t. 0he @S was the +ost . -an. deter+ined 3. 0he . used O is usuall. a role. 4t the end of 2//! ##E of the worldCs hedge funds5 accounting for nearl.rofits as well as lossesG short selling o. =e)erage a+. considerations will also . (egulator.urel.ees and no assets other than its in)est+ent . 0he +ost .g. a .erson +a. 3e said to Qwor' at a hedge fundR8 3ut this is not technicall.ected in)estors. .articular its do+icile and the t. 4n in)est+ent +anager +a. . ha)e a large nu+3er of hedge funds under its +anage+ent.lo.a. 4n in)est+ent +anager is co++onl. 4n in)estor will still . ta< on an. the $ritish ?irgin Islands5 $er+uda and the $aha+as. >@ countries .a. the in)est+ent +anager5 which has e+.

.o.icall.artnershi. . Founder shares t.oration8 and the in)estors are the li+ited . fa)ora3le ta< treat+ent in the @S. 0he general .orate fund5 a @S li+ited .ointing and inde.“Hedging Fund & Its Impact On Capital Market” were the ne<t +ost . ta< 7such as . lo.artner of the li+ited . 0he assets of the +aster fund will then 3e +anaged 3.orate fund. the in)est+ent +anager 7though is so+eti+es an offshore cor. Offshore cor.. hedge funds are structured as +asterFfeeder funds.icall. or as the holder of Qfounder sharesR in a cor..artnershi.Jcitations neededK The legal entity =i+ited . Other than ta<ation5 the t. 0his allows se)eral feeder funds 7e.artnershi. and a unit trust8 to in)est into the sa+e +aster fund5 allowing an in)est+ent +anager the 3enefit of +anaging the assets of a single entit. 4sia accounted for the +a6orit. 0he in)est+ent +anager5 which will ha)e organi:ed the esta3lish+ent of the hedge fund5 +a.J7K -an. +ar'eted to Ia.a.e of entit.orate funds are used for non9@S in)estors and @S entities that do not . an offshore cor.ension funds85 as such in)estors do not recei)e the sa+e ta< 3enefits fro+ in)esting in a li+ited . used does not ha)e a significant 3earing on the nature of the fund.s are .a.. is t.anese in)estors.. a li+ited range of issues5 such as selection of the in)est+ent +anager O +ost of the fundCs decisions are ta'en 3.rinci.all.endent 3ut in)aria3l.ular location with E of funds and 11E of assets.. ha)e no econo+ic rights5 and )oting rights o)er onl. ta<5 as the in)estors will recei)e relati)el.icall. @nit trusts are t. of the re+aining assets.. the in)est+ent +anager in the usual wa.artners. In such a structure the in)estors will in)est into a feeder fund which will in turn in)est all of its assets into the +aster fund.al to the in)est+ent +anager.artnershi.ossi3le ta< treat+ent.g. used for hedge funds ai+ed at @S93ased in)estors who .artner of a li+ited . the 3oard of directors of the fund5 which is self9a. while gi)ing all in)estors the 3est .artnershi. retain an interest in the hedge fund5 either as the general .

issue additional .“Hedging Fund & Its Impact On Capital Market” Open-ended nature Hedge funds are t. re.aid on in)est+ent.. Shares in the listed hedge fund are not traded on the e<change5 3ut the fundCs +onthl.rice of each 3eing the net asset )alue 7QN4?R8 .ension funds5 that ha)e 3ars or ca.icall. . o.uasi9regulator.en9ended5 in that the fund will .re)ailing at that ti+e. net asset )alue and certain other e)ents +ust 3e . 0o realise the in)est+ent5 the in)estor will redee+ the interests or shares at the N4? .tion than it .u3lic offering 7QIPOR8 of shares in an in)est+ent +anager. ==C was for the sale of the in)est+ent +anager5 not of the hedge funds that it +anaged.tion. 4lthough widel. In)estors do not t.rofits to in)estors 3efore rede+. trade shares 3etween the+sel)es and hedge funds do not t. 0herefore5 if the )alue of the underl.eriodicall. o)ersight will gi)e co+fort to in)estors and to attract certain funds5 such as so+e . announced there.e that the low le)el of . 0his contrasts with a closed9ended fund5 which has a li+ited nu+3er of shares which are traded 3etween in)estors5 and which distri3utes its .er interestFshare.orate hedge funds often list their shares on s+aller stoc' e<changes5 such as the Irish Stoc' ><change5 in the ho. to new in)estors5 the .icall.er interestFshare has therefore also increased8 then the in)estor will recei)e a larger su+ on rede+.ing in)est+ents has increased 7and the N4? .icall. distri3ute .artnershi.er interestFshare ..orted as a Nhedge9fund IPONJ*K5 the IPO of Fortress In)est+ent Grou.rofits.u3licl.. 4 fund listing is distinct fro+ the listing or initial . interests or shares directl. Listed funds Cor.s on in)esting in unlisted shares.

and the Gold Coast area of Connecticut 7. located onshore in order to draw on larger .all. 0he @S >ast coast O .J1/K .ro<i+atel. 4t the end of 2//%5 three9. a . 4ustralia was the +ost i+.uarter of the D1!/3n of hedge fund assets +anaged in the 4sia9Pacific region in 2//%..ean hedge fund in)est+ents5 totalling D!//3n 7S2//3n85 were +anaged fro+ =ondon5 ha)ing grown fro+ D%13n in 2//2. Sta+ford and Greenwich8 O is the world2s leading location for hedge fund +anagers with a. dou3le the hedge fund +anagers of the ne<t largest centre5 =ondon..ools of financial talent.articularl.ri+aril. New Aor' Cit.eCs leading centre for the +anage+ent of hedge funds.“Hedging Fund & Its Impact On Capital Market” Hedge fund management worldwide In contrast to the funds the+sel)es5 hedge fund +anagers are . &ith the 3ul' of hedge fund in)est+ent co+ing fro+ the @S5 this distri3ution is natural. =ondon is >uro.ortant centre for the +anage+ent of 4sia9Pacific hedge funds5 with +anagers located there accounting for a.uarters of >uro.ro<i+atel.rinci.

lace+ent under the Securities 4ct of 1 33.ri)ate nature of hedge funds .an.uire+ents.urchasersN 7a N37c8 7 FundN8.u3lic5 and are nor+all. re. to accredited in)estors.ualified . 0he two +a6or e<e+.ical . U regulation 0he t.e of registered in)est+ent co+.u3lic in)est+ent co+.an.u3lic i+agination5 is that the.“Hedging Fund & Its Impact On Capital Market” Regulatory Issues Part of what gi)es hedge funds their co+. J%K 4 .tions are set forth in Sections 37c81 and 37c87 of the In)est+ent Co+.es of funds can charge .ualified . 0here are other li+itations and restrictions ..etiti)e edge5 and their cachet in the .an. in the @nited States is re.laced on .. 4n accredited in)estor is an indi)idual with a +ini+u+ net worth of @S D#5///5/// or5 alternati)el. -utual funds are the +ost co++on t. definition of an in)est+ent co+. 0hose e<e+. Securities and ><change Co++ission 7S>C8.u3lic in)est+ent co+.anies are su36ect to strict li+itations on short9selling and the use of le)erage.uire hedge funds to 3e offered solel.uire+ents5 in)est+ent co+.uired to 3e registered with the @. 7So+e institutional in)estors also .tions fro+ the registration re.er+its the+ to o.ects of their dealings are well9 regulated5 others are unregulated or at 3est . In order to co+. +anagers5 including the .5 a +ini+u+ inco+e of @SD2//5/// in each of the . 4lthough it is . 4side fro+ registration and re.ualif.ursuant to e<e+.l. $oth t.S. 0hus interests in a hedge fund cannot 3e offered or ad)ertised to the general .erfor+ance fees.ossi3le to ha)e non9accredited in)estors in a hedge fund5 the e<e+.tions are for funds with 1// or fewer in)estors 7a N37c8 1 FundN8 and funds where the in)estors are N.rohi3ition on charging incenti)e or .urchaser is an indi)idual with o)er @SD#5///5/// in in)est+ent assets..urchasers.ri)ate . 4ct of 1 !/.8 J7K 4 37c81 Fund cannot ha)e +ore than 1// in)estors5 while a 37c87 Fund can ha)e an unli+ited nu+3er of in)estors. with 37c8718 or 37c87785 hedge funds are sold )ia .tions under the In)est+ent Co+.le definitions and categoriesG so+e as.5 the li+ited9 access5 . offered under (egulation ".an.uasi9regulated. 4lthough hedge funds fall within the statutor.anies.ualified . as accredited in)estors or .an. straddle +ulti.erate .orting re. 4ct5 co+3ined with the restrictions contained in (egulation "5 effecti)el.erfor+ance or incenti)e fees.

landsca.resu+. 0he re..# +illion5 or 3e one of certain high9le)el e+. In "ece+3er 2//!5 the S>C issued a rule change that re.ossi3le loss. or +a. One of the Co++issioners5 (oel Ca+.uire+ents.ears and a reasona3le e<.art of its e)ol)ing regulator. 0here are nu+erous issues surrounding these . strategies5 which +a. +onitor the esti+ated *5/// @. Court of 4. Fe3ruar.. For the funds5 the tradeoff of o. One issue of i+. See Goldstein ).osed re. 0he rule change was challenged in court 3. has neither the staff nor e<.ear..ro. 0he regulator.S. and international hedge funds.ees of the in)est+ent ad)iser.ending on the fund5 and that the a3ilit.uire+ent5 with +inor e<ce. ha)e fewer in)estors to sell to5 3ut the.ting a Nris'93ased a.tion is that hedge funds are .. 0he S>C stated that it was ado.lied to fir+s +anaging in e<cess of @SD2#5///5/// with o)er 1# in)estors.ualified client5 an indi)idual +ust ha)e @SD7#/5/// in assets in)ested with the ad)iser or a net worth in e<cess of @SD1.eals for the "istrict of Colu+3ia o)erturned it and sent it 3ac' to the agenc.rehensi)el.resu+ed to 3e +ore so.atterns or other .tions is that the.“Hedging Fund & Its Impact On Capital Market” last two .histicated and who ha)e the financial reser)es to a3sor3 a . a hedge fund +anager5 and in Iune 2//%5 the @.osed restrictions on their in)est+ent strategies.ectation of reaching the sa+e inco+e le)el in the current .ursuing +ore ris'. to 3e re)iewed. ha)e few go)ern+ent9i+.uire+ent that a client who is charged an incenti)e fee +ust 3e a N. S>C. 4lthough the S>C is currentl. 15 2//%5 as in)est+ent ad)isers under the In)est+ent 4d)isers 4ct.os5 has said that the S>C is for+ing internal tea+s that will identif. 0o 3e a . 0he . and e)aluate irregular trading .ualified clientN under 4d)isers 4ct (ule 2/#93.uired +ost hedge fund ad)isers to register with the S>C 3.ertise to co+. not 3e true de.erating under these e<e+.e for In)est+ent 4d)isors is changing5 and there ha)e 3een atte+.S.lo.ts to register hedge fund in)est+ent +anagers. to in)est in these funds should 3e restricted to wealthier in)estors who are . See New Hedge Fund 4d)isor (ule. e<a+ining how it can address the Goldstein decision5 co++entators ha)e stated that the S>C currentl.tions5 a.roachN to +onitoring hedge funds as . regi+en for the 3urgeoning industr.ortance to hedge fund +anagers is the re.

ri)ate e. guidelines.ensate their +anagers with a share of the fund2s .uisition funds.ri)ate e. illi.tion that had 3een intended to e<e+. rules e<. should instead follow )oluntar.uid assets5 and .ri)ate e. Pri)ate e.5 or the financial world. in )er.uit.“Hedging Fund & Its Impact On Capital Market” .erha. res. funds. 2//75 the President2s &or'ing Grou.9stage co+.ted 2# +onth loc'9u. Hedge funds often in)est in .uire+ents and cause the+ to fall under the registration e<e+. $etween 2//! and Fe3ruar.ou do. regulated5 . threaten indi)idual in)estors5 the sta3ilit.uid assets such as earl. 4nd e)en if it did5 Nthe S>C will ne)er ha)e the degree of 'nowledge or 3ac'ground that . NIt2s .uit. funds in)est .ressl.os told se)eral hundred hedge fund +anagers5 industr.uit. In Fe3ruar. . $oth are lightl. -ost hedge funds in)est in relati)el. clear that we will not 3e 'noc'ing on Jhedge fundK doors )er. often5N Ca+.uiring so+e +onths notice. to e<e+.ects. of the industr.uit. on Financial -ar'ets re6ected further regulation of hedge funds and said that the industr. 2//% so+e hedge funds ado.heno+ena that +a.ools of ca.ers and others.ital that in)est in securities and co+. Comparison to private equity funds Hedge funds are si+ilar to .ri)ate .anies and so in)estors are Nloc'ed inN for the entire ter+ of the fund. li.t . funds in +an. co+.er+it in)estors to enter or lea)e the fund5 .s re.rett. law.t the+sel)es fro+ the S>C2s new registration re.rofits.anies2 ac.ri+aril.

these ter+s.tions 7e+.8 -utual funds +ust .roducts with features that ha)e traditionall. Hedge fund in)estors tolerate these . Howe)er5 there are +an. 4dditionall.uid on a dail.5 +utual funds +ust ha)e a . mutual funds =i'e hedge funds5 +utual funds are . Gri::l.olicies 3ecause hedge funds are e<. Such funds are S>C regulated5 3ut the.5 howe)er5 the +utual fund industr.lo. (ecentl.. 3asis • So+e hedge funds that are 3ased offshore re. or )ia @S .ostal +ail85 and +ust disclose their asset allocation .ort their .uests the+ 7either electronicall. onl.N .erfor+ance93ased fees5 where the co+.le want to in)est8. has created .ools of in)est+ent ca. .eo.eciali:es in +erger ar3itrage.rice and 3e li. -utual funds ha)e a.uiring CP4s and @S 0a< &9for+s. 3een found in hedge funds.e.ricing on a regular 3asis.one that re.ensation is li+ited to so9called Nfulcru+ feesN. Howe)er5 under Section 2/#738 of the In)est+ent 4d)isers 4ct of 1 !/5 such co+. offer hedge fund strategies and . 4lso5 a few +utual funds ha)e introduced .ees5 etc.rotection for +utual fund in)estors.5 while hedge funds do not ha)e to a3ide 3.eriods of ti+e where the total returns are generated 7net of fees8 for their in)estors and then returned when the ter+ ends5 through a .ectus a)aila3le to an.ensation to the +anager is 3ased on the . differences 3etween the two5 includingH • • -utual funds are regulated 3.ected to generate higher total returns for their in)estors )ersus +utual funds.uarterl.assthrough re.S.ital 7i. Short Fund 7G(TTU85 for e<a+. Hedge funds also ordinaril.le5 is alwa. li.5 3ut rather Nloc' u.uidit.5 +one.eared which utili:e so+e of the trading strategies noted a3o)e.rices to the Financial 0i+es5 3ut for +ost there is no +ethod of ascertaining .“Hedging Fund & Its Impact On Capital Market” Comparison to U.J1#K .ros.erfor+ance of the fund.s net short5 while 4r3itrage Fund 74($FU8 s. the S>C5 while hedge funds are not 4 hedge fund in)estor +ust 3e an accredited in)estor with certain e<ce. do not ha)e dail.

22# trillion 4@-J11K. 0.“Hedging Fund & Its Impact On Capital Market” @nder these arrange+ents5 fees can 3e . 0here are also new t. Hedge Fund Indices 0here are a nu+3er of indices that trac' the hedge fund industr. half the industr. #/E of under.rotection of client confidentialit. to a hedge fund N/ and #/N feeH 4 /E +anage+ent fee cou.uire+ent for the fund to 3e inde.+an Islands5 "u3lin5 =u<e+3ourg5 $ritish ?irgin Islands and $er+uda.licate the returns of hedge fund indices without actuall. . Offshore regulation -an. offshore centers are 'een to encourage the esta3lish+ent of hedge funds.s..ical rules concern restrictions on the a)aila3ilit.2s esti+ated D1..rofessional ser)ices5 a fa)ora3le ta< en)iron+ent5 and 3usiness9 friendl..es5 In)esta3le and Non9in)esta3le5 3oth with su3stantial .uire+ents of these offshore centres.ro3le+s.erfor+ance93ased so long as the. -an.++etricall.artnershi. regulation. In)esta3le indices are created fro+ funds that can 3e 3ought and sold5 and onl. Fund 70FSSU8 has a +anage+ent fee that 3eha)es5 within li+its and s. Hedge Funds that agree to acce. of funds to retail in)estors 7"u3lin85 . offer so+e co+3ination of .. increase and decrease s.ital S+all Ca. -a6or centers include Ca.led with a #/E .++etricall.le5 the 0FS Ca. 0he Ca. holding hedge funds at all. Hedge funds ha)e to file accounts and conduct their 3usiness in co+.roduct launched 3.5 si+ilarl.es of trac'ing . 3ase fee is reduced 73ut not 3elow :ero8 3. offshore hedge funds5 such as the Soros funds5 are structured as +utual funds rather than as li+ited .endent of the fund +anager.erfor+ance and increased 73ut not to +ore than 2#/ 3.. 0o do this the. Howe)er5 the 12# 3. #/E of out.+an Islands ha)e 3een esti+ated to 3e ho+e to a3out 7#E of worldCs hedge funds5 with nearl.erfor+ance. 0hese indices co+e in two t.ta3le to the constructor of the inde< are included.liance with the re.erfor+s its 3ench+ar' inde<.nch5 Nclone indicesN that ai+ to re.8 3. 7=u<e+3ourg8 and the re. Gold+an Sachs and -errill =. For e<a+.t in)est+ents on ter+s acce.erfor+ance fee if the fund out.

uit. Classification S.les of non9in)esta3le indices include an e. FundsC . Fund inde<es include $arcla.ractice5 and is ta'en for granted in traditional e.ortfolios. is an attracti)e . Non9in)esta3le 3ench+ar's are indicati)e in nature5 and ai+ to re.tures all funds.Hedge5 Hedge Fund (esearch5 >ure'ahedge Indices5 Credit Suisse 0re+ont and F0S> Hedge.erfor+ing funds ha)e not sur)i)ed5 and the o3ser)ed association 3etween fund .ro)ider selects funds and de)elo. ><a+.5 leading to Qself re.outh and fund .erfor+ance suggests that this 3ias +a.ro. rules 3ased set 'nown as the =eh+an $rothersFHFN Glo3al Inde< Series which le)erages an >nhanced Strateg.ort 3ecause of . not 3e t.ert.roducts or deri)ati)e instru+ents that deli)er the . new entrants and +an. 0he short lifeti+es of +an.resent the +ore successful +anagers5 who +a.resent the . of the worst9 .ste+. For e<a+. reached their target si:e and do not wish to raise further +one. of data.ualit. 0here are di)erse selection criteria and +ethods of construction5 and no single data3ase ca.“Hedging Fund & Its Impact On Capital Market” In)esta3ilit.e and . de.ual weighted 3ench+ar' series 'nown as the HFN 4)erages5 and a re)olutionar. funds that ha)e sur)i)ed to the . 3iasR.ort +a. for an inde< 3ecause it +a'es the inde< +ore rele)ant to the choices a)aila3le to in)estors in .. under9re.s to fund of hedge funds .artures each .orted . not find the inde< ter+s attracti)e.resenting the full di)ersit. ha)e alread.s structured . Howe)er5 such indices do not re.ro3le+ of Qsur)i)orshi.erfor+ance 3etween different data3ases.ation in a data3ase is )oluntar.le5 so+e do not re. If we e<a+ine onl.ast returns 3ecause +an.resent the total uni)erse of hedge funds and +a.orting 3iasR 3ecause those funds that choose to re. 0his tends to lead to a clustering of returns around the +ean rather than re. Non9in)esta3le indices inherit the data3ases2 shortco+ings5 or strengths5 in ter+s of sco. 3e su3stantial. 0his leads to significant differences in re.oor results or 3ecause the. e<isting in the hedge fund uni)erse.resent5 we will o)eresti+ate . hedge funds +eans that there are +an. 4s the HF( and CIS"..ical of funds as a whole.artici. indices such as the S1P#// or F0S>1//.erfor+ance of the uni)erse of hedgefunds using so+e +easure such as +ean5 +edian or weighted +ean fro+ a hedge fund data3ase.data3ases 3egan . 0he inde< .ear5 which raises the .erfor+ance of the inde<5 +a'ing in)esta3le indices si+ilar in so+e wa.

an.ro)ide li.uoted returns +a. ha)e to +eet regulator.uit. (estrictions on +ar'eting and the lac' of regulation is that there are no official hedge fund statistics.letel.ense of re.uarter 2//3 that there are #5%%/ hedge funds world wide +anaging D%%# 3illion.ost in the data3ase.. that the. not 3e a)aila3le in ..co+85 re.resentati)e5 3ut their . Se)eral hedge funds are co+. regulated +utual fund 7or unit trust8 which will t. the funds during their incu3ation . 0his is in contrast to a full.s5 hedge funds do not ha)e to disclose their acti)ities to third . are widel.arison5 at the sa+e ti+e the @S +utual fund sector held assets of D7.la.orted at the end of the second .art of its historical data is recorded e<9.roducts such as futures and >0Fs . 0he. &hen a fund is added to a data3ase for the first ti+e5 all or . that funds onl. . Debates and controversies Pri!acy issues 4s . consulting grou.uid access to the+ in +ost de)elo. at the e<.resentati)eness. Howe)er5 this high le)el of disclosure is not a)aila3le to non9 in)estors5 contri3uting to hedge funds2 re.eriod 1 !F2/// than the Credit Suisse data3ase5 which onl.“Hedging Fund & Its Impact On Capital Market” in 1 !5 it is li'el. 3iasR or Q3ac'fill 3iasR. It is li'el. acce.ositions.eriod are inflated. N3lac' 3o<N5 +eaning that their returns are uncertain to the in)estor.ri)ate5 lightl.uire+ents for disclosure. regulated .*1* trillion 7according to the In)est+ent Co+. a central and una+3iguous role.arties. Non9 in)esta3le indices are re.erfor+ances dis.5 HF( 7hfr. will 3e +ore accurate o)er the . For co+.u3lish their results when the.orting than in)estors in retail in)est+ent funds. are fa)oura3le5 so that the a)erage .artnershi.resentati)e5 and . in)est+ent5 indices .. has direct access to the in)est+ent ad)isor of the fund5 and +a. en6o. satisfactor.icall.uidit. 3egan in 2///.ted as re. 0his +a.ed 3.ed +ar'ets.ersonalised re.utation for secrec. In traditional e. +ore .ractice. 0his is 'nown as Ninstant histor. 4n industr. In)esta3le indices achie)e li. include detailed discussions of ris's assu+ed and significant . Howe)er5 a+ong hedge funds no inde< co+3ines these characteristics.la. 4n in)estor in a hedge fund usuall. . Neither is wholl. re. Institute8.

N . erosion. ystematic risk Hedge funds ca+e under heightened scrutin. 0his ris' is further +agnified 3.ose s.ortunities5 the d.uestioned 3.otential ad)erse effects of disorderl. Federal (eser)e. First5 the increase in traded )olu+e +a. ha)e 3een reducing the +ar'et ano+alies that are a source of hedge fund .ure al.ha +a. correlated5 there3.ha5 d. 0his suggests that the +ar'et en)iron+ent 7static 3etas8 e<.erfor+ance of hedge funds in 2//! and 2//#.uestion the alternati)e in)est+ent industr. effect has 3een . Howe)er5 the +ar'et ca..art of the . the =0Cdisaster.na+ic 3etas de. and s.. hedge funds to achie)e their return is outlined as one of the +ain factors of the hedge funds contri3ution to s.osition of hedge fund returns 3etween . as a result of the failure of =ong90er+ Ca.ste+atic ris'. &hile .na+ic 3etas5 and static 3etas.2s )alue .ro. 4l.erfor+ance.ting the e<.ure al.sis of the rather disa. Critics ha)e charged that hedge funds . . si+ilar .ositioning of indi)idual hedge funds within 3road hedge fund in)est+ent strategies is another +a6or ris' for financial sta3ilit.end on the +anagerCs s'ill in ada.ital -anage+ent 7=0C-8 in 1 *5 which necessitated a 3ailout coordinated 3.ste+ic ris's highlighted 3..ite the essential lac' of an.osures to different factors5 and these authors clai+ that these two sources of return do not e<hi3it an. e<.osition. which warrants close +onitoring des.oor .ointing hedge fund .acit. 0he >C$ 7>uro.“Hedging Fund & Its Impact On Capital Market” Market capacity 4nal..ha is generated 3.ossi3le re+edies.lains a large .ean Central $an'8 has issued a warning on hedge fund ris' for financial sta3ilit.ste+ic ris'H N. further increasing the . 0he e<cessi)e le)erage 7through deri)ati)es8 that can 3e used 3. ha)e 3een 3eco+ing rarer for two related reasons. e<its fro+ crowded trades. e)idence that 3road hedge fund in)est+ent strategies ha)e also 3eco+e increasingl.erfor+ance in 2//! and 2//# called into ..S. Second5 the re+uneration +odel is attracting +ore and +ore +anagers5 which +a. the >"H>C (is' and 4sset -anage+ent (esearch Centre through a deco+. the increasingl. the @.loiting +ar'et o. dilute the talent a)aila3le in the industr.

se in 1 *. e<its fro+ crowded tradesR is 3ased on +ere s.“Hedging Fund & Its Impact On Capital Market” 0he 0i+es wrote a3out this re)iewH NIn one of the star'est warnings .e ratio 3.uentl.ro3le+s necessitated an infusion of cash into one of the funds fro+ $ear Stearns 3ut no outside assistance. the near9colla. address this . Beating and Shadwic' .uestion of s. Performance measurement 0he issue of .ortance5 we do not dis. has led to literature that is 3oth a3undant and contro)ersial. 0he funds2 financial .uestion of s. are that Qthe >C$ articleCs conclusion of a ris' of Qdisorderl. &hile the .ortant role as Q.eculation. the >"H>C (is' and 4sset -anage+ent (esearch CentreH 0he +ain conclusions of the stud.ro)iders of li.ital -anage+ent2s colla.ed 3.uidit.erfor+ance +easures ha)e 3een introduced in an atte+.nor5 Iensen8 wor' 3est when returns follow a s. and di)ersificationR.ste+ic ris'5 it should 3e recognised that hedge funds . credit ris'. distri3uted5 and hedge fund return series are autocorrelated. It was the largest fund 3ailout since =ong 0er+ Ca. Securities and ><change co++ission is in)estigating.ie 72//385 O+ega 3.5 the >C$ sounded a note of alar+ o)er the . colla.ste+ic ris' was highlighted 3. 0hese argu+ents are de)elo.ro3le+H -odified Shar.otential s.erfor+ance +easure+ent in the hedge fund industr.ro3le+s when the.art of the financial research co++unit. Inno)ati)e .et fro+ an official institution o)er the role of the 3urgeoning 3ut secreti)e industr. 0he @.erfor+ance +easures suffer fro+ theoretical . Such data would allow a relia3le assess+ent of the .resented 3.. a . @nfortunatel.uestion at this stageR5 Q it would 3e worthwhile for financial regulators to wor' towards o3taining data on hedge fund le)erage and counter. of funds.lied to hedge funds5 +a'ing the+ e)en less relia3le than is suggested 3.otential for s. are a.5 hedge fund returns are not nor+all. 0he . an i+.ercussions fro+ an. Conse.ste+ic ris'R5 and Q3esides e)aluating .ose of enough data to relia3l.N Howe)er5 the >C$ state+ent itself has 3een critici:ed 3. 0raditional indicators 7Shar. In that case5 ris' is re.ossi3le re..++etrical distri3ution.e5 0re. the standard de)iation. 0he funds in)ested in +ortgage93ac'ed securities. Gregoriou and Gue.5 traditional .S. the shortness of the a)aila3le return series.ste+ic ris' is of i+.t to deal with this .se of a hedge fund5 or grou.la.se of two $ear Stearns hedge funds in Iune 2//7.art.

“Hedging Fund & Its Impact On Capital Market” 72//285 4lternati)e In)est+ents (is' 4d6usted Perfor+ance 74I(4P8 3. 4n o)er)iew of these .lan and Bnowles 72//!8. fired 3..sts5 and other issues related to the funds.erfor+ance +easures are still widel. . In a recent e<a+. fro+5 a+ong others5 Gar.. who was recentl. the S>C. Connecticut 4ttorne.S..s with anal. defrauded clients of close to D1*/ +illion. disclosure or accounta3ilit.ro..erfor+ance +easures is a)aila3le in GVhin5 &. 4guirre5 a staff attorne.. Co++ittee 3egan an in)estigation into the lin's 3etween hedge funds and inde.N 0he hearings heard testi+on.a 3.le5 Bir' &right of International -anage+ent 4ssociates has 3een accused of +ail fraud and other securities )iolations which allegedl.erfor+ance +easure5 and traditional .eals court ruling stri'ing down o)ersight of the funds 3. (elationshi.arties either as the custodian of their assets or as their ad+inistrator 7who will calculate the N4? of the fund8.riate a3solute .sts In Iune 2//%.er5 "ece+3er. Senate Iudiciar. the @. )oid5 without an. Ba. Shar+a 72//!85 and Ba. 0his can lead to conflicts of interest5 and in e<tre+e cases can assist fraud.5 2//%5 0he Challenge of Hedge Fund Perfor+ance -easure+entH a 0ool3o< rather than a PandoraCs $o<5 >"H>C (is' and 4sset -anage+ent (esearch Center5 Position Pa.endent anal. General (ichard $lu+enthal testified that an a. 4+erican5 do not use third . Howe)er5 there is no consensus on the +ost a. Transparency So+e hedge funds5 +ainl. federal regulators left in)estors Nin a regulator. used in the industr.

“Hedging Fund & Its Impact On Capital Market” IMPACT OF HEDGE FUNDS ON CAPITAL MARKET 0he hedge fund uni)erse is e<,anding ra,idl.5 with +ore than 753// funds +anaging so+e D1.7 trillion in assets 3. +id92//7. 0he three largest hedge funds each +anages at least D3/ 3illion in in)estors2 assets5 and ha)e esti+ated in)est+ent ,ositions in financial +ar'ets of u, to D1// 3illion. -GI ,ro6ects that the )alue of hedge fund assets under +anage+ent will +ore than dou3le o)er the ne<t fi)e .ears to D3.# trillion. Hedge funds ha)e 3enefited ca,ital +ar'ets 3. increasing li;uidit. and s,urring financial inno)ations. Aet worries ,ersist that their growing si:e and hea). use of 3orrowing could desta3ili:e financial +ar'ets. &hen =ong 0er+ Ca,ital -anage+ent ran into trou3le in 1 a grou, of large 3an's. -ore recentl.5 se)eral +ulti3illion9dollar hedge funds suffered 3ig losses in +id92//7 as rising defaults on su3,ri+e +ortgages caused tur+oil in the de3t and e;uit. +ar'ets. So+e s+aller and +idsi:e funds shut down. So the ;uestion arises againH could a hedge fund +eltdown trigger a 3roader financial9+ar'et crisisW -GI2s research suggests that se)eral de)elo,+ents o)er the ,ast decade +a. ha)e reducedX3ut certainl. not eli+inatedXthe ris's. Hedge funds ha)e ado,ted +ore di)erse trading strategies5 reducing the li'elihood that +an. would fail si+ultaneousl.. 0he 3an's that lend to hedge funds ha)e i+,ro)ed their assess+ent and +onitoring of ris'5 and the. ha)e reasona3le financial cushionsXcollateral and e;uit.Xto ,rotect the+ in case one or +ore of their hedge fund clients were to fail 7as we saw last su++er8. 0he largest hedge funds ha)e 3egun to raise ,er+anent ca,ital in ,u3lic stoc' and 3ond +ar'ets5 while i+,osing +ore restrictions on in)estor withdrawalsXchanges that should i+,ro)e their a3ilit. to weather +ar'et downturns. Once financial9+ar'et +a)eric's5 hedge funds are 6oining the +ainstrea+. *5 the fund2s catastro,hic losses ,ro+,ted the Federal (eser)e to coordinate a D3.% 3illion rescue 3.

“Hedging Fund & Its Impact On Capital Market” Pri!ate "#uity Pri)ate e;uit. is a relati)el. s+all industr.5 3ut one that has had a dis,ro,ortionatel. large i+,act on the cor,orate world. 0he )alue of ,ri)ate9e;uit.9owned co+,anies is onl. # ,ercent of the )alue of co+,anies listed in the @.S. stoc' +ar'ets 7and 6ust 3 ,ercent in >uro,e8. Howe)er5 ,ri)ate9e;uit. fir+s now account for nearl. one in three +ergers or ac;uisitions. 0hese fir+s ha)e gra33ed ,u3lic attention with a series of huge deals5 including the 3u.outs of energ. giant 0U@ Cor,. for D!# 3illion and health9care co+,an. HC45 Inc.5 for D33 3illion. Pri)ate9e;uit. fir+s are ushering in a new +odel of cor,orate go)ernance5 and the 3est funds i+,ro)e the ,erfor+ance of +an. of the co+,anies the. 3u.. For instance5 one stud. of %/ le)eraged93u.out deals found that two9thirds of the+ i+,ro)ed co+,an. ,erfor+ance and ,osted ris'9ad6usted returns of twice the industr. a)erage. Seeing su,erior returns in co+,anies ta'en ,ri)ate5 shareholders of ,u3licl. listed co+,anies are inclined to scrutini:e the ,erfor+ance of their res,ecti)e +anage+ents +ore closel. and de+and i+,ro)e+ents. 4lthough ,ri)ate9e;uit. funds are so+eti+es accused of see'ing short9ter+ ,rofits5 +ost ,ri)ate9 e;uit. funds in)est on a three9 to fi)e9.ear hori:on5 gi)ing the+ leewa. to engage in root9and9 3ranch cor,orate restructuring. $. adding de3t to an ac;uired co+,an.2s 3alance sheet5 the. force +anagers to hit tough financial targets. 4s the ,ace of 3u.outs ;uic'ened earlier in 2//75 ,ri)ate9e;uit. fir+s caused +an. ,u3lic co+,anies to rethin' their attitudes toward de3t and e;uit.Xin the @nited States5 for instance5 co+,anies ha)e increasingl. 3een choosing to 3u. 3ac' shares5 often ,urchasing the+ ,artl. 3. raising le)els of de3t. 0he recent tightening of credit +ar'ets has co+,licated the financing of so+e recent 3u.out deals and +a. da+,en the flow of in)estor +one. into ,ri)ate9e;uit. fir+s. $ut e)en if growth slows in the short ter+5 -GI ,ro6ects that the industr.2s assets will increase to D1.! trillion 3. 2/12. 4s the industr. e<,ands5 ,ri)ate9e;uit. fir+s will +ature5 consolidate5 and di)ersif. their in)est+ents5 a+,lif.ing their influence on the 3roader cor,orate and financial landsca,e. 0hese new ,ower 3ro'ers are here to sta.5 and the. are increasingl. )enturing into each other2s territor.. Hedge funds are 3u.ing u, co+,anies. 4sian central 3an's are starting to re,licate the

“Hedging Fund & Its Impact On Capital Market” so)ereign wealth funds of oil e<,orters. Oil e<,orters are creating +ore9so,histicated in)est+ent )ehicles such as ,ri)ate9e;uit. funds. 0he concerns a3out the new ,ower 3ro'ers are genuineXand +a. well 3e 6ustified. $ut we should +a'e 6udg+ents 3ased on the factsXnot out of an e+otional res,onse to ,ower2s ,assing to a new set of actors on the financial stage. 0here is cause for ;ualified o,ti+is+ that the 3enefits of li;uidit.5 inno)ation5 and di)ersification 3rought 3. the new ,la.ers will outweigh the ris's.

co)er onl.ro)ide data.ing in ca.ro)ide detailed 3alance sheets.ital +ar'ets. Hedge funds often are characteri:ed as unregulated .la. 4 funda+ental .ears of .es of funds are increasingl. . discouraging hedge fund fraud.ro)ide infor+ation on fundsC use of le)erage5 3ut their definition of le)erage is often unclear. 0he onl. .uit. "ata collected 3.ital +ar'ets cannot 3e .o.ri)ate )endors5 the. &hile registration of ad)isers of such funds +a. the Securities and ><change Co++ission 7S>C8 fro+ registered ad)isers to hedge funds are not co+. So+e data3ases .uantitati)e infor+ation that the S>C currentl.recision. >)en if a fund is included in a . the co+.. 4s hedge .er+it in)estors to redee+ their interests within two . 0he . co+.le< trading strategies using deri)ati)es or other new financial instru+ents. . in)est.et the..ose of registration is to . Pri)ate e.ri)ate funds that can ta'e on significant le)erage and e+.ing in the ca.“Hedging Fund & Its Impact On Capital Market” Role of Hedge Funds in the Capital Markets 0he role that hedge funds are . are t. well 3e unnecessar.ing the role that hedge funds are .rehensi)e. not 3e re.ri)ate data3ase or its ad)iser is registered with the S>C5 the infor+ation a)aila3le is .icall.resentati)e of the total .ri+ar.5 the data are not co+. . 4lthough se)eral data3ases on hedge funds are co+.uentl. Pri)ate data3ases t.ositions.eriods +a'es the data less useful for . collects is total assets under +anage+ent.ur.ro3le+ is that the definition of a hedge fund is i+. funds are usuall.anies in which the.la.rehensi)e either. .icall.urchasing the+. Further+ore5 3ecause the funds that choose to re.recise5 and distinctions 3etween hedge funds and other t.ort +a. unregulated and often le)erage significantl. =i'ewise5 traditional asset +anagers +ore and +ore are using deri)ati)es or are in)esting in structured securities that allow the+ to ta'e on le)erage or esta3lish short . 3e +isleading.uite li+ited. not considered hedge funds5 . ar3itrar. do not .ro)ide assets under +anage+ent as well as so+e li+ited infor+ation on how the assets are allocated a+ong in)est+ent strategies5 3ut the. the hedge funds that )oluntaril.uantif. Conse.iled 3..rotect in)estors 3.uantified with an.uire an ad)iser to a hedge fund5 regardless of how large it is5 to register if the fund does not . .lo. 0he S>C does not re. .ulation of hedge funds5 generali:ations 3ased on these data3ases +a.. to discourage fraud5 the e<clusion fro+ the data3ase of funds with long loc'9u.

use financial .“Hedging Fund & Its Impact On Capital Market” funds and other +ar'et .tions a3out the li.recisel.ital +ar'ets cannot 3e .uidit.S. account for significant shares of total trading )olu+es in so+e seg+ents of fi<ed inco+e5 e.ortance of that role is clear.ed restore +ar'et li.i'e in o.uit. re.uidit.rotect the+sel)es ade.ers of the ris'ier e. acti)e trading of so+e hedge funds.le< and highl.uential as . dollar interest rate o. 0he trading )olu+es of these funds re. -ore +eaningful econo+ic +easures of le)erage are co+. fro+ the ris's associated with such in)est+ents5 whether hedge fund le)erage is 3eing constrained effecti)el.ro)iders of li.tions and other fi<ed inco+e +ar'ets were under stress in the su++er of 2//35 the willingness of hedge funds to sell o.articular5 when the o.uantified5 the growing i+.ital +ar'ets5 hedge funds clearl. and a3sor3ers of ris'.tions .artici. conse. are increasingl. concerns. 0heir +ar'et i+. Further+ore5 hedge funds can le)erage those assets through 3orrowing +one. are significant 3u. .5 and what .tions indicated that . of the +ar'ets in @.le5 a stud.uidit.uatel.uit. In . 4t the sa+e ti+e5 howe)er5 the growing role of hedge funds has gi)en rise to .olic.ortedl.artici.ste+ if their le)erage 3eco+es e<cessi)e. and su3ordinated tranches of collaterali:ed de3t o3ligations 7C"Os8 and of asset9 3ac'ed securities5 including securities 3ac'ed 3. of the +ar'ets in which financial instru+ents can 3e sold or hedged.ositions5 and structured securities.u3lic .ortedl.ants )iewed hedge funds as a significant sta3ili:ing force.rices hel.tions following a s.ants increasingl. the e<tre+el. sensiti)e to assu+.ose to the financial s. nonconfor+ing residential +ortgages.roducts such as deri)ati)es and securiti:ed assets that e+3ed le)erage5 con)entional +easures of le)erage ha)e 3eco+e +uch less useful.otential ris's the funds . In )arious ca. For e<a+. . 0otal assets under +anage+ent are usuall. 0hese include concerns a3out whether hedge fund in)estors can .orted to e<ceed D1 trillion. Hedge funds re. and through their use of deri)ati)es5 short .5 and deri)ati)es +ar'ets. 4lthough the role of hedge funds in the ca.act is further +agnified 3. and li+it losses to deri)ati)es dealers and in)estors in fi<ed9rate +ortgages and +ortgage93ac'ed securities.

ondents said that a hedge fund ad)iserCs registration or lac' of registration with the S>C had no effect on their decision a3out whether or not to in)est 3ecause the institutions conducted their own due diligence.ension fund regulators should ensure that .ect to all their in)est+ents5 not 6ust their in)est+ents in hedge funds. 0hose laws effecti)el.ears hedge funds re. ad)isers to hedge funds that are offered to @.ension funds5 s. In the case of . Concerns a3out the .uire +an.l. allow onl.ro. Such in)estors argua3l. difficult to unco)er5 e)en through on9site e<a+inations.t fro+ +ost . understand this well. -ost institutional in)estors .rotect the+sel)es fro+ the ris's associated with hedge funds. in)estors to register with the co++ission. 0herefore5 it is critical that in)estors do not )iew the S>C registration of ad)isers as an effecti)e su3stitute for their own due diligence in selecting funds and their own +onitoring of hedge fund .otential direct and indirect e<. Further+ore5 . res.ro3a3l.ears ago of @.etite for a )ariet.“Hedging Fund & Its Impact On Capital Market” $n!estor Protection Hedge funds and their in)est+ent ad)isers historicall.erfor+ance.ro)isions of the federal securities laws. 0he S>C 3elie)es that the e<a+ination of registered hedge fund ad)isers will deter fraud. ha)e 3een +ar'eted increasingl. in)estors fro+ hedge fund in)est+ents and hedge fund fraud contri3uted to the S>CCs decision in "ece+3er 2//! to re. to a less wealth.rotect .ension funds5 +an. clientele. Pension funds and other institutional in)estors see+ to ha)e a growing a. 0he registration of hedge fund ad)isers si+. out their fiduciar.onsors to carr. of alternati)es to holding stoc's and 3onds5 including real estate5 . .onsors and .osition to .ri)ate e.riate due diligence with res.. wealth. of whose 3eneficiaries are not wealth. are in a .osures of less wealth. and co++odities5 and in)est+ents in hedge funds are onl. In a sur)e. one +eans of gaining e<. endow+ents and foundations5 7/ .ercent of the res.S.S..lan s.osures to those alternati)e assets.ension fund 3eneficiaries fro+ the failures of . cannot .uit. indi)iduals to in)est in hedge funds. $ut fraud is )er. institutions and relati)el.onsi3ilities.5 ha)e increased in)est+ents in hedge funds.ortedl. were e<e+. se)eral .ension funds conduct a. Howe)er5 in recent .

ro)ing credit ris' +anage+ent 3. In the case of =0C-5 howe)er5 +ar'et disci. In the wa'e of the =0C. In our +ar'et93ased econo+.riate to tighten the criteria for an indi)idual to 3e considered an eligi3le in)estor. If indi)iduals with relati)el.ri+ar. . regi+e for hedge funds would . hedge funds. 0he &or'ing Grou.ro+oting +easures that enhance +ar'et disci. le)eraged institution would create s.e.ste+ic ris' 3. 0he &or'ing Grou.otential for a large hedge fund to 3eco+e e<cessi)el.line 3ro'e down..roach Qindirect regulationR of hedge funds. "%cessi!e Le!erage and ystemic &isk 0he near failure of the hedge fund =ong90er+ Ca.te+3er 1 illustrated the . all of which are regulated 3an's and securities fir+s. It 3elie)ed that indirect regulation would address concerns a3out s. 0he &or'ing Grou..le+ent +ar'et disci. a highl.ositions held 3.uidit. and would a)oid the . i+. >)en when the go)ern+ent has o)ersight of le)erage5 as in the case of 3an's and 3ro'er9dealers5 such o)ersight is intended to su.lace it.arties. concluded that hedge fundsC le)erage could 3e constrained +ost effecti)el. on Financial -ar'ets considered how 3est to constrain e<cessi)e le)erage 3.isode5 the PresidentCs &or'ing Grou.ste+ic ris's fro+ hedge funds +ost effecti)el. and illi.osed 3.“Hedging Fund & Its Impact On Capital Market” 4s for indi)idual in)estors5 the inco+e and wealth criteria that define eligi3le in)estors in hedge funds una)oida3l. . considered the alternati)e of direct go)ern+ent regulation of hedge funds5 3ut it concluded that de)elo.line rather than to re.. 3.ital -anage+ent 7=0C-8 in Se. 3eco+e the )icti+s of hedge fund fraud5 it +a. hedge fundsC counter.5 the .resent for+ida3le challenges in ter+s of cost and effecti)eness. 3eco+e a..ing a regulator.arties and creditors5 nearl.histication. creditors and counter.otential attendant costs of direct regulation. ter+ed this a.ro.line i+.uidation of large . are a crude test for so. little wealth increasingl. le)eraged and raised * concerns that a forced li. +echanis+ that regulates fir+sC le)erage is the +ar'et disci. e<acer3ating +ar'et )olatilit.line 3.

art. +onitoring counter.ro)ing +ar'et disci.line on hedge funds.riate internal controls to ensure the integrit.art.eration is essential in this area 3ecause hedge fundsC .ital +ar'et acti)ities.ractices guidance and the C(-PG reco++endations.erfor+ a.ractices of 3an's that are +a6or hedge fund counter.ste+s to +easure and +anage counter. 1 5 the $asel Co++ittee on $an'ing Su.th the 3an'sC .er)ision 7$C$S8 .arties and creditors and i+.art. of twel)e +a6or 3an's and securities fir+s to for+ a Counter. o)ersight of those 3an's and securities fir+s. credit ris'.arties see' to ensure that 3an's 718 .rocesses for +anaging counter.ractices.arties.orated into Federal (eser)e su.art+ent encouraged a grou. credit ris's to hedge funds and other highl. In general ter+s5 routine su. Grou.le+ent the necessar. o)ersight. 0he $C$S sound . le)eraged institutions..ractices against the $C$S and Federal (eser)e sound .uantitati)e ris' e<.artiesG 728 esta3lish5 +onitor5 and enforce a. of their .arties include foreign 3an's as well as @. guidance and e<a+ination .ro)e+ents in credit ris' +anage+ent . a.er)isor. 0hese targeted re)iews e<a+ine in de. ris' +anage+ent .u3lished a set of reco++endations for sound .rocedures a.ractices ha)e 3een incor.osures5 the Federal (eser)e .art. coo. ris' +anage+ent .riate due diligence in assessing the 3usiness5 ris' e<.ro)e+ents in su. re)iews of counter. $esides conducting routine re)iews and continuall.riate s.er)isor.osures5 and credit standing of their counter. 3an's and securities fir+s. credit ris'G and 7!8 de.ractices 3.ect to hedge funds and other counter.art.anies5 the Federal (eser)e has wor'ed with other do+estic and international regulators to i+.er)isor.erfor+s targeted re)iews of the credit ris' +anage+ent .eriodicall..al creditors and counter.er)isor.S.art.osure li+its for each of their counter.ro.ro)e+ents in su.rinci. i+...art. (is' -anage+ent Polic. the 3an's and securities fir+s that are hedge fundsC counter.ractices for +anaging counter.. 4s a regulator of 3an's and 3an' holding co+. . .riate . 7C(-PG85 which in Iul. "e.ro)ing counter.ro.ro.lica3le to 3an'sC ca. credit e<. (egulator. 4round the sa+e ti+e5 the Federal (eser)e5 the S>C5 and the 0reasur.le+entar. 0hese included reco++endations for i+.ractices with res.artiesG 738 use a. 1 issued its own co+. In Ianuar. reco++endations for i+.“Hedging Fund & Its Impact On Capital Market” The 'ederal &eser!e and Hedge 'unds 0he PresidentCs &or'ing Grou. +ade a series of reco++endations for i+.lo.ro.

7C(-PG II8 called attention to the fact that the clearing and settle+ent infrastructure for credit deri)ati)es 7and o)er9the9counter deri)ati)es generall.5 the dealers ha)e +ade re+ar'a3le .S. the infrastructure wea'nesses and as'ed the dealers to de)elo.ast se)eral .e. da.ace with the )olu+e of trading. without the .uests for the authori:ation of assign+ents.art.5 total credit deri)ati)e confir+ations outstanding for +ore than thirt.arties.art. . dealers of assign+ents of trades 3. growth in the .ercent 3etween Se. 2//# re. &ith su.“Hedging Fund & Its Impact On Capital Market” 4ccording to su. acti)e trading 3. hedge funds.le< structured financial .read.ractice of unauthori:ed assign+ents has al+ost ceased5 and dealers are now e<.s fell 7/ . +ade clear their concerns a3out the ris's created 3.onding to re.ite trade docu+entation re. 0he su.ractices are e)ol)ing as necessar.er)isors collecti)el.artici. to address the increasing co+. 4 Iul.t .ants5 counter. since the =0C.etition for hedge fund 3usiness a+ong 3an's and securities fir+s.lans to address those concerns. ?er. e<.rogress since last Se.er)isors and +ost +ar'et . In .ressures do not result in an.art. one counter. Counter. Grou.isode in 1 *.er)isors. ris' +anage+ent and that ris' +anage+ent ..te+3er 2//# the Federal (eser)e $an' of New Aor' 3rought together fourteen +a6or @.otential to 3e a source of s.ro)iding co++on incenti)es for the collecti)e actions that were necessar.er)isors need to ensure that co+. (is' -anage+ent Polic.articular5 a 3ac'log of unsigned trade confir+ations was growing5 and the acce.anded their acti)ities and strategies in an en)iron+ent of intense co+. For the fourteen dealers as a grou.8 had not 'e. 0he . of the financial instru+ents used 3. and foreign deri)ati)es dealers and their su.roducts5 for which )aluation and ris' +easure+ent are challenging 3oth to the funds the+sel)es and to their counter.ro)ed significantl.editiousl.rior consent of the other5 des.te+3er 2//# and -arch 2//%. Howe)er5 since that ti+e5 hedge funds ha)e greatl.uire+ents for such consent5 was 3eco+ing wides. 0o address these and other concerns a3out the clearing and settle+ent of credit deri)ati)es5 in Se.tance 3. significant wea'ening of counter. to the e<traordinar. Further+ore5 so+e hedge funds are a+ong the +ost acti)e in)estors in new5 +ore9co+.le<it. hedge funds has contri3uted significantl.art.ste+ic ris' 3.te+3er. ris' +anage+ent has i+. ensuring that the clearing and settle+ent infrastructure that su. 0he reduction in outstanding . 0he Federal (eser)e has also sought to li+it hedge fundsC . res.ort 3.etiti)e .orts the +ar'ets in which the funds trade is ro3ust.ears of the +ar'ets for credit deri)ati)es.er)isors . a new Counter.arties and su.

5 u.ort infrastructure to standardi:e and auto+ate .ositor.ercent of the fourteen dealersC credit deri)ati)es trades were 3eing confir+ed electronicall. electronic +ar'et. confir+ trades in credit deri)ati)es.ortance has grown5 so too ha)e concerns a3out in)estor . -arch 2//%5 % . stateR .ossi3le in . 0he stead.ro)ing credit ris' +anage+ent 3.ort for ..e.ortant in the ca. state will in)ol)e 718 the creation of a largel.rinci.otential s.G and 7!8 the creation of an auto+ated .ste+ o. Hedge funds clearl..ants agree that further . 0he dealers ha)e wor'ed with their largest and +ost acti)e clients5 +ost of which are hedge funds5 to ensure that the.ste+ic ris'. 3.line 3.rocessed electronicall. 0he &or'ing Grou. $ut as their i+.al trade association for the hedge fund industr.erated 3.art 3. 0he S>C 3elie)es that the e<a+ination of registered hedge ad)isers will deter fraud. on Financial -ar'ets considered how 3est to address concerns a3out . .ital +ar'ets as sources of li. +ore wides. "0CC of an industr.isode5 the PresidentCs &or'ing Grou. all of which are regulated 3an's and securities fir+s.rocessing s. can electronicall. trade infor+ation warehouse and su. 0he .rocessing standards for those trades that cannot 3e confir+ed electronicall. $ut in)estors +ust not )iew S>C regulation of ad)isers as an effecti)e su3stitute for their own due diligence in selecting funds and their own +onitoring of hedge fund .te+3er. 4fter the =0C. the "e. $.rocessing of e)ents throughout each contractCs lifeG 738 new . fro+ !7 .ort notifications and consents with res.lans e+3odied in the dealersC co++it+ents. are 3eco+ing +ore i+. considered the alternati)e of direct go)ern+ent regulation of hedge funds .ro+oting +easures that enhance +ar'et disci.. 0he &or'ing Grou. fundsC counter.arties and creditors5 nearl. i+.read and intensi)e use of an electronic confir+ation9. and holders and +anagers of ris'. has stated its su..oration 7"0CC8. will 3eG 728 the creation 3.erfor+ance. Su.osition for the industr.er)isors and +ar'et . Octo3er 315 2//%5 a Qstead. 0rust and Clearing Cor.artici.ect to trade assign+ents.ercent last Se.lace in which all trades that can 3e .rotection and s. concluded that hedge fundsC le)erage could 3e constrained +ost effecti)el.ste+ic ris's fro+ e<cessi)e hedge fund le)erage.latfor+ to su.rogress is needed5 and in -arch the fourteen dealers co++itted the+sel)es to achie)ing 3.“Hedging Fund & Its Impact On Capital Market” confir+ations was +ade .uidit.

art.ercent of trading in distressed de3t.riate +ar'et disci. +eaningful +easures of le)erage5 see a.ro3le+s with fraud at .3 3illion in assets.ri)ate e. 0he Federal (eser)e has 3een see'ing to ensure a. See Greenwich 4ssociates 72//!85 Hedge Aunds2 %he 8nd of the @eginningD 7Greenwich 4ssociates5 "ece+3er8. #.ear5 and e<cluding fund of funds5 the 04SS data3ase included funds that had D 7 . hedge fundsC counter.uire in)estors to +a'e long9ter+ co++it+ents of ca..ital funds5 which are si+ilar in so+e res. ><a+.arties and creditors. ensuring that the clearing and settle+ent infrastructure that su. through 4. trade is ro3ust.ercent of trading )olu+es in +ar'ets for 3elow9in)est+ent9grade de3t5 credit deri)ati)es5 collaterali:ed de3t o3ligations5 e+erging9+ar'et 3onds5 and le)eraged loans5 and */ .ste+ 704SS85 Centre for International Securities and "eri)ati)es -ar'ets 7CIS"-8 Hedge Fund "ata3ase5 and Hedge Fund (esearch "ata3ase.ste+ic ris' 3. So+e of these esti+ates +a.ril 2//!.otential for hedge funds to 3e a source of s. 3. .ro+ote effecti)e counter. 1.les of hedge fund data3ases include 0rading 4d)isors Selection S. 71 9ounterparty 6is$ anagement Cra"ti"es 7New Aor'H C(-PG5 Iune8.ro.orts the +ar'ets in which the.line. 0hese esti+ates were 3ased on inter)iews with hedge funds and other institutional in)estors that Greenwich 4ssociates conducted fro+ Fe3ruar.roach focused on strengthening +ar'et disci.art. (is' -anage+ent Polic.line on hedge funds 3. dou3le count in)est+ents in funds of funds. Of course5 not all funds are included in this data3ase.. 85 *mproving !. wor'ing with other regulators to . For a discussion of the definition and construction of econo+icall. and would 3e less effecti)e than an a. re. Greenwich 4ssociates esti+ates that hedge funds in 2//! accounted for 2/ to 3/ . 4t the end of last .. or )enture ca..endi< 4 in Counter. Grou.ects to hedge funds 3ut usuall. 2.uit.ital.“Hedging Fund & Its Impact On Capital Market” 3ut concluded that it would 3e +ore costl. ris' +anage+ent 3. 0he co++ission decided not to re. It has also sought to li+it the .uire such funds to register 3ecause it had not encountered significant .

ers5 including 4M( Ca.art. 0he greatest de+and for rede+. Now5 in another indication that the .ected to slow5 creating a challenge for funds that in)est in stoc's and ac.ital -anage+ent5 "> Shaw5 and Gold+an Sachs5 ha)e recentl.re.tions will li'el. indi)iduals to chief in)est+ent officers for endow+ents and trusts5 are 3eco+ing +ore cautious a3out ris'. 4ugust5 when the su3.onse5 hedge funds are +a'ing new offers and i+. of credit and 3. 3e difficult to find and current in)estors +a. 3ac'.ro+inent . to D2 / 3illion in its in)est+ents 3ecause in)estor faith in +ortgages has 3een sha'en. 0he crunch in the su3.uantitati)e funds. Muantitati)e hedge funds5 which select in)est+ents 3ased on co+. as' for their +one.ossi3ilit.ri+e +ortgage +ar'et was followed 3.ro+inent $ear Sterns funds s.sis5 3egan . a decline in the o)erall a)aila3ilit. 4fter two .5 stated that it could lose u. BB( Financial Holdings5 an affiliate of Bohl3erg Bra)is (o3erts 1 Co.ital in)estors are showing signs of retreating fro+ hedge funds.uisition deal acti)it. Advertisement =arge9scale rede+. In res.ital -anage+ent5 High3ridge Ca.uisitions. is e<. 3e seen 3. hedge funds focused on su3. necessar. . In)est+ent funds are .ri+e +ortgages colla. Since credit and share )alues are i+. that new in)estors +a.ro)ed ter+s in order to woo the in)estors that su. So+e of the hedge fund sector2s .ort the+.rices on the stoc' +ar'et.ears ha)e 3een good to in)estors5 in)est+ent funds5 and the -14 +ar'et.eciali:ing in su3.“Hedging Fund & Its Impact On Capital Market” 0he last few .uantitati)e anal.ital to in)estors. seen hea).uests fro+ in)estors see'ing to redee+ their in)est+ent.ortant factors in the -14 +ar'et.ri+e +ortgage in)est+ents and . 3e o)er5 ca. losses.uidit.ri+e +ortgage crash triggered a crisis of confidence in credit +ar'ets..la. +a. In)estors5 ranging fro+ wealth.sed5 other hedge funds in the sa+e +ar'et 3egan seeing re.osting stee. losses in late Iul.lace5 the recent high . falling share . and earl. to return ca.ace of +erger and ac.uter93ased +odels and .aring for the .tions could dri)e hedge funds to sell off assets 3elow )alue in order to create the li.

erfor+ance sur. not withdraw for si< +onths.ing the fund going. in the fund.5 Glo3al >..artici. 0he deal is clear9 l.5 stating that it cannot +eet its in)estors2 re. . incenti)e fees until the fund a. Gold+an has in)ested a3out D2 3illion of its own +one..uests to withdraw their +one.ercent of assets . Inc.end rede+.er .rising ter+s to new .! 3illion of its assets.ear as a +anage+ent fee and 2/ .erfor+ance fee.uit.uests.eriod.“Hedging Fund & Its Impact On Capital Market” Hedge funds are not sitting .5 waiting for their in)estors to . as'ed regulators for . ten . Sentinel -anage+ent Grou.uarter.s notice. 0he fee will 3e a. Sentinel -anage+ent has re.ants in the fund 9 Gold+an is wai)ing the fund2s +anage+ent fee and cutting its . li+it the i+.tions as well. New in)estors +a.% 3illion in assets. Pre)iousl.rofits a3o)e that threshold. 0here is a catch5 howe)er. Funds at $ear Sterns5 $raddoc' Financial5 and @nited Ca. 3eing charged the 2/ .ose Ngates5N rule structures that li+it the a+ount of assets withdrawn in a gi)en . 0he new deal doesn2t i+.ear.er+ission to sus. hedge funds i+. Gold+an is offering sur.reciates 3.ortedl.aid two . +onthl.ercent of the fund2s .uit.ital -ar'ets ha)e also ta'en actions to sus. with 1# da. in)estors . 2//%5 so e<isiting in)estors are not currentl.. Glo3al >.# 3illion fund.end rede+. In the +idst of all the concern5 in)est+ent 3an'ing giant Gold+an Sachs is +a'ing efforts to draw in)estors to its Glo3al >. 0he 3an'ing giant has an interest in 'ee. O. without selling in)est+ents at a stee. ten . 0he fund2s )alue has declined since Iul.2s e<isting in)estors can withdraw their +one.ed out a3out D1. -an. discount5 has fro:en a D1. structured to draw in)estors with the resources and confidence to co++it for a longer in)est+ent . Gold+an will then 'ee.ercent of .lied when the funds .rofits as an incenti)e fee.asses its highest le)el fro+ last . 4fter its recent +ar'et losses5 the fund has a3out D3.ercent.ortunities hedge fund5 after stoc' +ar'et losses wi.uit.tions.ercent .act that sudden in)est+ent withdrawals can ha)e on +ar'ets as the funds would otherwise ha)e to sell of assets at discount rates in order to +eet the withdrawal re. 0hese strictures hel.ull out.uietl.erfor+ance fees in half.ose an.

THREE MAIN ISSUE DISCUSS A. to get rough. focusing in particular on its work on valuation policies and pricing procedures for hedge fund portfolios? .redict 6ust how great the in)estor withdrawal will 3e. What is the appropriate regulatory response to these risks? C. what are the key risks posed by hedge funds? B.uall. o)er5 and the road ahead is li'el. $ut the eas. to tell whether new strategies will sa)e hedge funds. ride is definitel. From a regulatory point of view. What is the approach being taken by the nternational !rganisation of "ecurities Commissions to hedge funds. It is e. difficult to .“Hedging Fund & Its Impact On Capital Market” It is too earl.

erate acce. indeed +a.ects of this colla.se5 there +a.h.t that fir+s will +a'e errors of 3usiness 6udge+ent5 ti+ing5 or strateg. regulation...act on the +ar'et relati)el.lace so+e 3usinesses +ust fail5 and this realit. ris's5 we +ust deter+ine the .articular to hedge funds and hedge fund +anagers5 it is worth stressing that the FS4 3elie)es fir+l.. regi+e that guarantees that failures will ne)er occur.rotection and +aintenance of +ar'et confidence.uestion of what the FS4 considers are the 'e. 0here are in.“Hedging Fund & Its Impact On Capital Market” +rom a regulator" perspective.ea'ing therefore of ris's that arise to our regulator.5 3ut there are as.tion to trading in the sector or its underl. and it is not .erfor+ed 3. )i3rant and successful +ar'et. 0he 4+aranth case is in so+e res. fro+ ti+e to ti+e disa.sical +ar'ets. 3e lessons to 3e learned a3out due diligence . inter)ene in +ar'ets where the +ar'et is failing to deli)er acce.what are the ke" risks posed !" hedge funds.ear.le of what I +ean5 and I digress for 6ust a +o+ent longer.s dri)e standards higher for those who succeed.uate collateral5 and the .uidated or transferred without undue disru. hel. o36ecti)es of .ro)ide ser)ices to the+. hedge fund in)estors. 0he losses were catastro. or forget that the. 4 non9:ero failure regi+e of the sort we o.ta3le outco+es5 and where the costs of inter)ention are 6ustified 3. 3e interesting .hic for the fir+ and sudden5 3ut the o)erall i+. the 3enefits to 3e deli)ered 3.uiries underwa. Iudging fro+ the infor+ation a)aila3le to in)estors 3efore the colla.ossi3le to co++ent definiti)el. 3reaches5 we +ust acce. 0his is .ear all to ha)e had +ore than ade. -oreo)er5 we are not a regulator who considers it sensi3le or desira3le to deli)er a regulator.act of failures which arise fro+ regulator. or si+.ect of hedge funds and those who +anage and .ect that hedge funds will ne)er lose +one.se could ha)e 3een foreseen5 so there +a. $efore turning to the ris's that are . 0he .ortionate in)estor .ri+e 3ro'ers in)ol)ed a.ro. that a regulator should onl.uestions for fund of hedge fund +anagers and other in)estors in the fund to as' the+sel)es a3out whether the colla. fail to +easure u.ear to ha)e 3een li. ris's arising in res.l. $ut no one should e<. regulator. to the co+. &hile we ai+ to +ini+ise the i+. insignificant.ositions of 4+arath a.ing . In an.se that suggest that the o)erall regulator.etition. Once we ha)e identified the 'e.ts that fir+s will fro+ ti+e to ti+e fail. I a+ s.erate in an effecti)e +anner.ects an interesting e<a+. fra+ewor' did o.art of the ris'Freward fra+ewor' that underlies all financial +ar'ets. =et +e return then to the .

0he centre of e<.ri+e 3ro'erage ser)ices to the funds.ecti)e of where within the FS4 that grou... .act fir+s are su36ect to 3aseline +onitoring through regulator. . 0hat2s how we ha)e organised our resources5 3ut now let +e deal with our res. or desira3le regulator.f these are the principal risks. su. &e do not consider that the assertion of e<tra9territorial 6urisdiction is a necessar. the industr. 0hese +anagers ha)e a dedicated su.eriodic ris' assess+ents to de)elo. hedge fund cases.lans with the+.er)isor in regular contact with the fir+s and underta'ing .onse to the s. 4 . .ro)ide . or fir+ is . indi)idual ris' +itigation . &ith this in +ind5 the FS4 set u. o)er hedge fund +anagers and the 3ro'erFdealers who .ecific ris's to our o36ecti)es I outlined earlier.resent are located outside our 6urisdiction.ertise in Octo3er 2//#.ri+aril.ro. Our a.roach is to +itigate the ris's through our e<isting authorit.stallising5 in order to decide whether there are an.er)ision5 co)ering a wide range of entities that ha)e hedge fund +andates irres. of this tea+ has 3een to enhance our o)ersight of 31 of the largest hedge fund +anagers in the @B 7accounting for #/E of assets +anaged8.5 I +ust e+. =ower i+.onse to an. a centre of hedge fund e<.laced to ta'e.. as a whole.“Hedging Fund & Its Impact On Capital Market” li'elihood of the+ cr.riorit. returns and other t.es of alerts and +ar'et intelligence.ortionate +itigating actions that we or indeed others +ight 3e 3est . Further+ore5 it underta'es the+atic su. inter)ention in this +ar'et.ertise ad)ises and where rele)ant ta'es the lead on the FS4 res.hasise the FS4 is not see'ing to authorise and regulate the funds the+sel)es5 which at . Firstl.er)ised O the a.osed to our o36ecti)es 3.roach is designed to address the ris's .what then is the appropriate response for a regulator to them.

targets the largest Pri+e $ro'ers 7currentl. ha)e wor'ed in tande+ with . those with large ris' e<. is to enhance our understanding of .ortance to hedge fund +anagers of a s+all nu+3er of )er. 0hese . our sur)e.!H1.er cent to D! ! 3illionG • • 4ggregate a)erage le)erage had grown slightl.osition of these 3an's )is9Y9)is hedge funds. on the e<.articularl. So what are the headline findings thus farW Our 4. 0he sur)e.5 the funds2 gearing was significantl.uantitati)e 3enefits of the sur)e. is 2.osures to hedge funds5 the second focuses on the .5 and we ha)e used this to de)elo.ro)ide .ril 2//% sur)e.ri+e 3ro'erage or )ia the trading of O0C deri)ati)es.ri+e 3ro'ers the+sel)es..uit. 3asis5 3.has 3een identified. 0he . 0he ai+ of this sur)e.ara3le to =0C.ri+e 3ro'er 3usiness. discourse with fir+s5 .osures5 and encouraged the i+..“Hedging Fund & Its Impact On Capital Market” /0 )arket disruption1s"stemic issues In 2//!5 we esta3lished a regular si< +onthl. 0he highest gearing of • • . 1# fir+s8 with 2 +ain data re. fund was 1#H1 *5 and #/H1 3.ri+e 3ro'ers continued to account for 6ust o)er half the sector2s total e<. ha)e a close regulator.osures of the fir+s to +a6or hedge funds5 either )ia . large . a +uch i+. &e are conscious of the i+. sur)e.2# to 2. the ti+e of its colla.uestsG the first loo's at their credit e<.er)isor.ro)ed understanding of the . lower than =0C-5 which was le)eraged at 2#H1 until earl.ort to the hedge fund +anagers. Present le)erage on a)erage as re)ealed 3. Generall.ro)ide 3oth financial gearing and o. showedH • 4ssets under +anage+ent had grown5 on an e. relationshi.ri+e 3ro'erage and to gather data on the e<.ri+e 3ro'ers5 who .se. fro+ to 2. 2 E .ualitati)e su.erational su.er centG No fund with +a6or e<.ortG it has ad)anced su.osure to hedge fundsG 4)erage e<cess collateral re+ains unchanged at 1// .osures to hedge funds of the +ain =ondon 3ased 3an's that .ri+e 3ro'ers are institutions with which we at the FS4 alread.ri+e 3ro'erage ser)ices.osures co+.ro)e+ent of ris' +anage+ent s. 1 an.ste+s in the .3 G 0wo .

. Firstl..tions5 our infor+ation co)ers onl.5 was significantl. concerned a3out significant trade confir+ation 3ac'logs in the credit deri)ati)e +ar'ets last . 30 A co(ordinated glo!al approach to reducing credit derivatives !acklogs &e5 together with regulators in other +a6or financial centres 9 nota3l. In assessing this ris'5 we 3eca+e aware that the assign+ent of trades 3. e<.osures of the .riorit.. &ith two e<ce.osition. co+. 4 word a3out the li+itations of this sur)e. for the organisation going forward. hedge funds5 without .icture in res. Credi3le deterrence has four 'e.ri+e 3ro'ers and other regulators whether5 and if so how5 this )oluntar.eration to ensure a stead. collateralised5 as was e)ident as noted in the 4+aranth colla.ercentage of the glo3al +ar'et5 is a good indicator of the .ect of these . contri3uting to this 3ac'log.rogra++e.ste+s and .ro)e+ent of the hedge fund +anagersC .sis s. 2hot s.ort to ha)e the total glo3al .ur. efforts to enhancing +anagers2 s.ots52 a +odern transaction anal.rocedures for dealing with .ste+5 industr. 20 )arket .art.resent .ro9acti)e sur)eillance of li'el.se. &e are also discussing with the .ntegrit" Our focus on +ar'et integrit. &e ha)e also not hesitated to ta'e enforce+ent action where warranted and ha)e identified +ar'et a3use as an enforce+ent .rocedures in this area.onse has 3een to wor' as a grou. underl.ing hedge fund.ear.rior a. &e ha)e 3een acti)e in encouraging an i+.osures 3oo'ed in =ondon5 so we do not ha)e and do not .ro)al or e)en notification of their counter.ri+e 3ro'ers or indeed of an.onents O . It is worth +entioning that we ha)e 3een de)oting significant su. has two strands.ital5 and were in general full. flow of infor+ation5 and an effecti)e enforce+ent . the @S Federal (eser)e and the S>C 9 3eca+e )er. Our res. Nonetheless5 we consider that this infor+ation5 which does co)er a su3stantial . +ight 3e e<tended internationall. sur)e.ri+e 3ro'ers to the hedge funds were 3oth li+ited in a3solute a+ount and relati)e to ca.“Hedging Fund & Its Impact On Capital Market” • &e found that e<. coo.rice sensiti)e infor+ation.5 see'ing to deter a3use. to set targets .er)isor.

ect acce. In su++ar. &e ha)e re)iewed the guidance and confir+ed that we will ta'e it into account when e<ercising our regulator. 40 Transparenc"1 side letters &e +ade clear in our .5 fir+s will 3e re.uate disclosures of +aterial side letters would a+ount to a 3reach of Princi. &e will 3e . a)aila3le to the retail +ar'et5 and which would 3enefit fro+ so+e of the structural and in)est+ent .ractice to 3e for +anagers to ensure that all in)estors are infor+ed when a +aterial side letter is granted. guidance on the disclosure of side letters.u3lishing our consultation . 0his a. alternati)e in)est+ent )ehicles5 it see+ed ano+alous that there was no si+ilar on9shore )ehicle that was +ore widel. Gi)en the increasing .olic.les for $usinesses. on granting +ore fa)oura3le treat+ent than other holders of the sa+e class of share or interest and there3.ta3le +ar'et .art..ro)ed effecti)e5 with )er. &e will 3e conducting so+e the+atic wor' to test the +ar'etCs res. conferring an ad)antage in res.“Hedging Fund & Its Impact On Capital Market” and encourage the 3an's to i+.ossi3ilit.a.enetration of the @B retail +ar'et 3. a @B 3ased hedge fund +anager to +a'e ade..er in the first .u3lished industr. -aterial 0er+s focus essentiall.ear on the . significant reductions in 3ac'logs alread. .uired to disclose the e<istence of side letters which contain Q+aterial ter+sR5 and the nature of such ter+s5 where the fir+ is a .roducts..uarter of the New Aear. functions5 although this cannot affect the rights of third .u3lished a discussion . state+ent on hedge fund issues that a failure 3.er last . to the side letters. 0his is one of our core .arties.a. achie)ed5 and +ore still on the wa.rinci. 50 Retailisation &e .roach has .les5 and states that a fir+ +ust conduct its 3usiness with integrit. &e ha)e decided to consult on the creation of an on9shore fund of hedge funds and other unauthorised funds regi+e. of o. 4I-4 has recentl.ro)e.le 1 of our Princi.ect of rede+.tion or the right to redee+.onse to these standards in the near future. 4s a +ini+u+5 we would e<. 60 )is(valuation of comple7 illi uid instruments1fraud .ening the @B retail +ar'et to a wider range of alternati)e in)est+ent .rotections that characterised regulated in)est+ent funds on shore.

ril of 2//7.ing in)estors dealing in the funds.u3lish our re. and efficienc. I a+ chairing a su39co++ittee of the International Organisation of Securities Co++issions5 which is loo'ing to de)elo.ortfolios difficult to )alue.ital +ar'ets. controlled to ensure that fair )alue is achie)ed for the underl. heightened in hedge funds.ractice . First5 as widel. of the ca.ic of uni.OSCO's approach to hedge fund valuation risks. 0he.Cs re+ar's.le distressed de3t5 e+erging +ar'ets5 fi<ed inco+e ar3itrage8.rinci. 4I-4 esti+ated that in 2//! so+e 2/E of Hedge Fund strategies were in hard to )alue securities 7for e<a+.les for the )aluation .lace in the health and soundness of financial +ar'ets internationall.. third +a6or . $ut IOSCO decided to focus on hedge funds in .osure to hard9to9)alue assets. ha)e a 1//E e<.u3lic traded funds such as +utual funds and @CI0S in >uro. .ect to . 8hat is . a set of good . (egulators around the world ha)e long sought to ensure that the net asset )alue of .ortfolios. -oreo)er5 an in)estor in a fund which focuses on 6ust one of these strategies +a. 0his is a ris' that I thin' deser)es a fuller treat+ent5 and I turn to that now as +. ?aluation of the .ue interest to hedge funds.ears and ha)e e+erged as a )er.articular 3ecause of a nu+3er of factors and ris's that are .ortant co+. i+.uidit. +a'e a +a6or contri3ution to the inno)ation5 li.rocedures of hedge fund .ortfolio of assets of an in)est+ent fund is not a to.ricing . Second5 hedge funds often deal in asset classes that can 3e hard to .olicies and .e is rigorousl.“Hedging Fund & Its Impact On Capital Market” Internationall.onent of glo3al ca.5 we ha)e 3een at the forefront of wor' a+ong regulators on the issue of )aluations.oint in toda.articularl.rice +a'ing their strategies and .ort at the annual +eeting in -u+3ai in 4.ital +ar'ets and as such ha)e a central . recognised5 hedge funds ha)e grown at an astonishing rate in recent . &e ha)e 3een gi)en a +andate fro+ the IOSCO 0echnical Co++ittee and e<.

rocess. .loited to +isre. good .ro)iders.ricing of assets.ricing source5 forcing reliance u. Fifth5 in the case of so+e highl.resentati)es fro+ hedge fund +anagers5 fund of hedge fund +anagers5 .olicies and .led with difficult9to9 )alue assets and in so+e cases self9ad+inistration of the funds5 can create )er. 4s I +entioned5 I a+ chairing an IOSCO su39co++ittee that is loo'ing to de)elo. . call to industr. 3e disinterested in the transaction.ing the i+. 0he.% 3illion dollars.otentiall.uac. @nusuall. 0he grou.rices5 and ade. re.ou should e<.ing .ricing . 0his was a wa'e u. illi.erfor+ance 3ased re+uneration of hedge fund +anagers5 cou.olicies and .artici.ants5 none of who+ +a.arties in .olicies and .lied . i+. Fourth5 the . a single set of )aluation .ossi3le to find a co+.roducing andFor )erif.“Hedging Fund & Its Impact On Capital Market” 0hird5 hedge funds often utili:e su3stantial le)erage in their trading5 . issues.endent .ractices.shod )aluation .uid assets5 it is )irtuall.ri+e 3ro'ers5 auditors5 ad+inistrators and third .9to9da.ricing .resentati)es as contri3uting +e+3ers of the su39co++ittee5 wor'ing with us hand9in9hand throughout the . +agnif.ractice )aluation . o. Poor )aluation controls in co+3ination with wea' internal . and the regulators to the real dangers of sli. 8hat is .art.OSCO doing a!out this. no +eans least5 it is esti+ated that in 2//#5 )aluation9related losses in hedge funds glo3all.les with a reasona3le le)el of granularit.resent hedge fund )alues and co++it fraud.. &ithout gi)ing too +uch awa.ricing .rocedures for hedge fund +anagers. is +andated to de)elo.ricing +is9+ar'.act of a .letel. at this stage of our wor'5 . su3stantial conflicts of interest in the .rices 3ased u. for IOSCO5 the su39co++ittee includes industr.eration of the+5 the role of the hedge fund +anager5 the role of inde.rocedures5 the effecti)e da. =ast5 3ut 3.rocedures were e<. of disclosure to in)estors5 a+ong other 'e.ect us to 3e focusing on the e<istence of ro3ust5 written . totalled so+e D1.on +odels or o3ser)ed or i+. include a s+all nu+3er of re. o36ecti)e .on the 6udg+ent of +ar'et .rinci.

ou would e<. in)estors as a guide in real9life interactions with hedge fund +anagers5 and ha)e the added 3enefit of endorse+ent 3. 0here is a good deal of e<cellent .erts ha)e .ractice out in the +ar'et alread.roduce a set of .ect5 +an.ractical5 and can 3e used 3.. 4s . -oreo)er5 acade+ics and industr. the international regulator.uite de+anding due diligence in res.ricing .les that are .rocedures in the hedge fund sector. e<. institutional in)estors and funds of hedge funds underta'e . &e ho.uid assets5 and we ha)e ta'en that wor' on 3oard as well. co++unit.ractice.ect of their in)est+ents in hedge funds. underta'en su3stantial wor' in this area and continue to do so.. Our ai+ is to .“Hedging Fund & Its Impact On Capital Market” =et +e stress that we are not see'ing to rein)ent the wheel here. .read of that good . &e want to encourage the s.u3lished a good deal a3out )aluation issues for illi.e that will +a'e a +eaningful contri3ution to an e)ol)ing glo3al standard for sound )aluation . In addition5 international trade associations li'e 4I-4 and the -anaged Funds 4ssociation in the @S ha)e alread.olicies and .rinci.

.O$RA:&.9'.“Hedging Fund & Its Impact On Capital Market” 9.