The hedge fund industry has grown at a ferocious pace in the last
decade, from as few as 300 funds in 1990 to more than 10,000 funds
today. These funds have become highly visible in markets and the press,
and are estimated to manage over $1.4 trillion in assets, both through
onshore and offshore funds.
The very first hedge fund was started by Alfred W. Jones in 1949. By
using leverage and short selling, he effectively "hedged" risk in the
marketplace. Though his hedge fund greatly outperformed mutual funds of
that time, hedge funds really didn't feign much interest until the 60's.
Big names like Warren Buffet and George Soros took an interest in Jone's
strategy, and over the next th years, 130 hedge funds were born.
Hedge funds, like other alternative investments such as real estate and
private equity, are thought to provide returns that are uncorrelated
with traditional investments. This attracted an increasing number of
individual and institutional investors. However, while Alfred Jones'
strategy employed short selling and leverage, there are a multitude of
different strategies used by hedge fund managers today, and the term
"hedge" doesn't always apply, since many of these funds are not hedged
at all. In fact, many hedge funds attempt to capture absolute returns
and take positions that are often highly speculative.
In 2008, the hedge fund industry faced one of its worse years in history
as markets across the globe crumbled. Many of the best and brightest
managers and investors faced losses of 30 percent or more, and assets
under management decreased as investors opted into treasury bills and
cash investments. Still, many of the strategies utilized by hedge fund
managers capture greater returns in a volatile market, and some of the
hedge funds found ways to make investors money despite the financial
crisis.
In the first half of 2009, the industry as a whole has bounced back in
dramatic fashion and seen its popularity rise among many investors. What
does the future hold for this often misunderstood investment class? Only
time will tell.
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Employing vastly different investment strategies and approaches to
risk-management, hedge funds are defined by their structural
characteristics, rather than their "hedged" nature.
Hedge funds are primarily organized as private partnerships to provide
maximum flexibility in constructing a portfolio. Hedge funds can take
both long and short positions, make concentrated investments, use
leverage or derivatives, and invest in many markets. This is in sharp
contrast to mutual funds, which are highly regulated and cannot easily
take advantage the same breadth of investment instruments. While mutual
funds are mainly limited to stocks and bonds, hedge funds enjoy a wide
variety of investments which may include futures, PIPEs, real estate,
art, even website domain names.
Hedge funds typically use a different fee structure for investors than
mutual funds as well. While both mutual funds and hedge funds charge a
management fee or a fee based on a percentage of total assets under
management, hedge funds typically charge a fee based on a percentage of
profits, known as a performance fee. The performance fee helps to align
the managers' and investors' interests. In addition, most hedge fund
managers commit a portion of their wealth to the funds further aligning
their interest with that of other investors. Thus, the objectives of
managers and investors are the same, and the nature of the relationship
is one of true partnership.
Another feature of hedge funds is you must be an accredited investor or
a qualified client in order to invest your money. This is one of the
very few regulations that hedge funds must abide by and is designed to
protect the average middle-class investor from getting into investments
they don't fully understand.
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