Hedge Funds

9 Key excerpts on "Hedge Funds"

• 

  eBook - ePub

  The Handbook of Financial Instruments

  • Frank J. Fabozzi(Author)
  • 2018(Publication Date)
  • Wiley

    (Publisher)

  Chapter 25 Hedge Funds

  Mark J. P. Anson, CFA, Ph.D., CPA, Esq.

  Chief Investment Officer CalPERS

  The term “hedge fund” is a term of art. It is not defined in the Securities Act of 1933 or the Securities Exchange Act of 1934. Additionally, “hedge fund” is not defined by the Investment Company Act of 1940, the Investment Advisers Act of 1940, the Commodity Exchange Act, or, finally, the Bank Holding Company Act. So what is this investment vehicle that every investor seems to know about but for which there is scant regulatory guidance?

  As a starting point, we turn to the American Heritage Dictionary (third edition) which defines a hedge fund as:

  An investment company that uses high-risk techniques, such as borrowing money and selling short, in an effort to make extraordinary capital gains.

  Not a bad start, but we note that Hedge Funds are not investment companies, for they would be regulated by the Securities and Exchange Commission under the Investment Company Act of 1940.1 Additionally, some Hedge Funds, such as market neutral and market timing have conservative risk profiles and do not “swing for the fences” to earn extraordinary gains.

  We define Hedge Funds as:

  A privately organized investment vehicle that manages a concentrated portfolio of public securities and derivative instruments on public securities, that can invest both long and short, and can apply leverage.

  Within this definition there are five key elements of Hedge Funds that distinguish them from their more traditional counterpart, the mutual fund.

  First, Hedge Funds are private investment vehicles that pool the resources of sophisticated investors. One of the ways that Hedge Funds avoid the regulatory scrutiny of the SEC or the CFTC is that they are available only for high net worth investors. Under SEC rules, Hedge Funds cannot have more than 100 investors in the fund. Alternatively, Hedge Funds may accept an unlimited number of “qualified purchasers” in the fund. These are individuals or institutions that have a net worth in excess of $5,000,000.

  Sign up to read

  Learn more about book
• 

  No longer available |Learn more

  Investment Management

  • (Author)
  • 2014(Publication Date)
  • Orange Apple

    (Publisher)

  ____________________ WORLD TECHNOLOGIES ____________________ Chapter- 6 Hedge Fund A hedge fund is a lightly regulated investment fund that is typically open to a limited range of investors who pay a performance fee to the fund's investment manager. Every hedge fund has its own investment strategy that determines the type of investments it undertakes and these strategies are highly individual. As a class, Hedge Funds undertake a wider range of investment and trading activities than traditional long-only investment funds, and invest in a broader range of assets including long and short positions in shares, bonds and commodities. As the name implies, Hedge Funds often seek to hedge some of the risks inherent in their investments using a variety of methods, notably short selling and derivatives. In most jurisdictions, Hedge Funds are open only to a limited range of professional or wealthy investors who meet criteria set by regulators, and are accordingly exempted from many of the regulations that govern ordinary investment funds. The net asset value of a hedge fund can run into many billions of dollars, and the gross assets of the fund will usually be higher still due to leverage. Hedge Funds dominate certain specialty markets such as trading within derivatives with high-yield ratings and distressed debt. History Sociologist, author, and financial journalist Alfred W. Jones is credited with the creation of the first hedge fund in 1949. Jones believed that price movements of an individual asset could be seen as having a component due to the overall market and a component due to the performance of the asset itself. To neutralize the effect of overall market movement, he balanced his portfolio by buying assets whose price he expected to be stronger than the market and selling short assets he expected to be weaker than the market.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Multi Asset Class Investment Strategy

  • Guy Fraser-Sampson(Author)
  • 2006(Publication Date)
  • Wiley

    (Publisher)

  7 Hedge Funds WHAT IS A HEDGE FUND? The phrase ‘hedge fund’ can be a trifle misleading, in that hedging has been around for a long time, but is not strictly speaking what Hedge Funds do at all! Investors have for many years used derivative products to hedge assets that they own, or cashflows that they anticipate receiv-ing at a fixed time in the future, against movements in the equity markets, against fluctuations in foreign exchange, and even against changes in interest rates. Depending on the investor’s circumstances and the tactics employed, this activity can range from effectively dou-bling up a market bet at one extreme to prudently laying off some potential upside to buy a more certain outcome at the other. Hedge Funds also utilise derivative products, and while some do hedge against market downturns in the manner just described, many do not. Indeed, a bewildering number of investment strategies are pursued, some of which I will attempt to summarise. It is also important to understand from the outset that, in addition to using derivative prod-ucts such as options, futures, swaps, etc., Hedge Funds also use short selling and leverage their positions with debt. To my mind it is this ability to gear their positions by borrowing that really sets Hedge Funds apart from anything their investors might attempt for themselves, and from the other asset classes I consider in this book. Quoted equity investors such as pension funds do not generally borrow against their positions as a matter of course while private equity and property investors typically ‘ring-fence’ any borrowing exposure within the context of an individual investee legal vehicle, or by security granted solely against one individual asset. This exposure to debt of a whole fund vehicle is perhaps unique to Hedge Funds and is a factor that I am not sure is always fully understood or taken into account when con-sidering their riskiness and attractiveness relative to other asset classes.

  Sign up to read

  Learn more about book
• 

  eBook - ePub

  The Savvy Investor’s Guide to Building Wealth Through Alternative Investments

  • H. Kent Baker, Greg Filbeck, Andrew C. Spieler(Authors)
  • 2021(Publication Date)
  • Emerald Publishing Limited

    (Publisher)

  Derivatives are securities that derive their value from another security or reference, such as interest rates. Some use derivatives to speculate on movements in the value of an underlying security without taking ownership.

  Growth continued until around the turn of the twenty-first century, with many hedge fund failures occurring. Growth reignited with the number of Hedge Funds growing from about 2,000 in 2002 to around 16,000 by the end of 2019. According to Preqin, the United States remains a crucial driver of the global hedge fund industry, accounting for 75% of the approximate $3.61 trillion in global assets as of November 2019. Preqin provides data and information on private capital and Hedge Funds, including market-wide benchmarks.

  The more recent hedge fund growth is attributable to several factors such as the low correlations between hedge fund returns and traditional assets, including stocks and bonds. Low correlation among asset returns creates greater diversification and the ability to take advantage of both ownership (long positions) and short positions, and strategies that can produce high returns in a low-yield environment. Since the financial crisis of 2007–2008, growth has mainly occurred with larger funds, which investors perceive as having better risk management systems in place. Hedge Funds provide savvy investors with potentially attractive shorter-term investing opportunities.

  1.1. WHAT IS A HEDGE FUND, AND HOW DOES IT WORK?

  A hedge fund is a fancy name for an investment partnership that pools capital from individuals or institutional investors and invests this capital in various assets using alternative and complex strategies and techniques. The initial intent of Hedge Funds was to allow larger investors to “hedge their bets” by diversifying into different asset classes. As private firms, Hedge Funds are subject to little regulation. Their managers are compensated based on assets under management (AUM) and performance-related incentive fees. They can use leverage, derivatives, and short positions, often associated with complex investment strategies. Hedge Funds are only available to accredited or qualified investors

  Sign up to read

  Learn more about book
• 

  eBook - ePub

  Portfolio Design

  A Modern Approach to Asset Allocation

  • Richard C. Marston(Author)
  • 2011(Publication Date)
  • Wiley

    (Publisher)

  Chapter 9 Hedge Funds

  Hedge Funds are difficult to define if only because they have morphed into so many different shapes. The term hedge used to mean that the funds attempted to hedge one set of assets with another. This was certainly true of the first hedge fund formed in 1949 by A.W. Jones, and is still true of Hedge Funds following market-neutral strategies (as explained later). But many Hedge Funds have directional strategies that are anything but hedged.

  Perhaps it’s better to define Hedge Funds by the fees they charge. The Investment Company Act of 1940 insists that a Registered Investment Company (RIC) like a mutual fund charge symmetrical investment fees. So their fees remain fixed in percentage terms whether the fund rises or falls. Hedge fund managers insist on asymmetrical fees typically consisting of a management fee paid regardless of performance and an incentive fee charged as a percentage of the upside. A typical fee schedule would be to charge a 1 percent or 2 percent management fee on all of the assets under management and a 20 percent incentive fee.1 To avoid having to register as an RIC, the hedge fund must be offered to investors only through a private placement.

  Hedge Funds are organized as partnerships with the general partners being the managers and the limited partners being the investors. The form of the partnership is similar to that used by private equity and venture capital firms. In fact, these firms also charge asymmetrical investment fees. So how are Hedge Funds different from private equity and venture capital firms? The answer is that their investment horizons and their investments are very different. Hedge Funds have short-term strategies and typically invest in publicly available securities such as equities and bonds. Private equity and venture capital invest for extended periods in firms and they invest in projects not generally available to the general public. Of course, the lines between the Hedge Funds and private equity/venture capital are not always sharply drawn, but it helps to think of them as distinct types of investments.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Getting Started in Hedge Funds

  • Daniel A. Strachman(Author)
  • 2005(Publication Date)
  • Wiley

    (Publisher)

  The list of hedge fund managers and investors who do good things with their wealth goes on and on. Hedge Funds do not destroy markets or ruin the economies of countries. They are simply private investment vehicles that seek sig- nificant returns regardless of market conditions. Managers are paid handsomely when they make those returns. It is a win-win situation for both investors and managers. The problem comes when the managers step out-of-bounds and make mistakes. Then it is for the investor and the manager to deter- mine how best to solve the problem. The idea of government influ- ence, intervention, and regulation is not wise. It can only hurt the industry and its investors. The more government involvement, the worse things will be. Members of Congress, senators, and government regulators who have very little knowledge of money and markets should stay away from regulating the industry. Conclusion 177 In a capitalist society, we subscribe to the theory that markets correct themselves when errors occur. If the market deems Hedge Funds too risky or too expensive or no longer valid investment choices, then the market will force a change. Until that day comes, the government and securities industry regulators need to keep out of the business and let the chips fall where they may. 178 CONCLUSION Hedge Fund Strategies T he following list defines a number of hedge fund styles and strategies. The information was compiled by Nashville, Ten- nessee–based Van Hedge Fund Advisors, International, Inc.* aggressive growth: Expected acceleration in growth of earnings per share. Often current earnings growth is high. Generally high P/E, low/no dividends. Usually small-cap or micro-cap stocks that are ex- pected to experience very rapid growth. distressed securities: Buying the equity or debt of companies that are in or are facing bankruptcy. Investor buys company securities at a low price and hopes that company will come out of bankruptcy and secu- rities will appreciate.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Hedge Funds Of Funds

  A Guide for Investors

  • Chris Jones(Author)
  • 2008(Publication Date)
  • Wiley

    (Publisher)

  • Hedge Funds of funds invest only in Hedge Funds and give diversified exposure to this area. 2 Hedge Fund Strategies 2.1 OVERVIEW In this chapter we will take a look at the variety of hedge fund strategies in existence. Below, I split the area into four main strategy groupings: Equity Long/Short, Event Driven/Distressed, Arbitrage and Relative Value and Macro and Trading. We will take a look at each strategy area, take a look at the kind of returns to be expected, the rationale for these returns, the risks involved and cover any other points germane to each strategy. 2.2 EQUITY LONG/SHORT This strategy is also known as Equity Hedge and is fundamentally one of the closest strategies to traditional investing. Equity Long/Short funds managers generally seek out undervalued stock to buy and over-valued stock to short and so this strategy can be thought of as the hedge fund equivalent to a traditional equity fund. There are, however, some significant differences beyond the use of shorting. Equity Long/Short funds tend to have a higher turnover than tradi-tional funds as they seek to manage volatility and downside on a month-by-month basis whereas traditional funds tend to have a longer time horizon. As a result, it would be commonplace for a hedge fund to take advantage of short term misevaluations in the market over shorter periods of time such as a number of days. Furthermore, some Equity Long/Short funds will take advantage of shorter term market moves where they don’t even believe a misevaluation has occurred – they would just run with the market. Equity Long/Short fund managers may even take advantage of event driven situations and other anomalies that are unrelated to fundamental valuations. Other differences between traditional funds and Equity Long/Short funds include the instruments that can be used and the exposures that can be taken. For example, an Equity Long/Short fund manager may be able to use derivatives as well as short positions to reduce market

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Hedge Fund Investment Management

  • Izzy Nelken(Author)
  • 2005(Publication Date)
  • Butterworth-Heinemann

    (Publisher)

  As shown in Brooks and Kat (2002), this will lead to very substantial underestimation of hedge fund risk, sometimes as high as 30–40%. ● Since most data vendors only started collecting data on Hedge Funds around 1994, the available data set on Hedge Funds is very limited. Apart from spanning a very short period of time, the available data on Hedge Funds also span a very special period: the bull market of the 1990s and the various crises that followed. This sharply contrasts with the situation for stocks and bonds. Not only do we have return data over differencing intervals much shorter than 1 month, we also have those data available over a period that extends over many business cycles. This has allowed us to gain insight into the main factors behind stock and bond returns and also allows us to distinguish between normal and abnormal market behaviour. The return generating process behind Hedge Funds on the other hand is still very much a mystery and so far we have little idea what constitutes normal behaviour and what not. 8.3 FUNDS FOLLOWING THE SAME TYPE OF STRATEGY MAY STILL BEHAVE VERY DIFFERENTLY Hedge fund investment strategies tend to be quite different from the strategies fol-lowed by traditional money managers. In principle, every fund follows its own pro-prietary strategy, which means that Hedge Funds are an extremely heterogeneous group. It is common practice, however, to classify Hedge Funds depending on the main type of strategy that funds claim to follow. One popular classification is as follows: Long/short equity : Funds that invest on both the long and the short side of the equity market. Unlike equity market neutral funds (see below), the portfolio may not always have zero market risk. Most funds have a long bias. 114 Hedge Fund Investment Management Equity market neutral : Funds that simultaneously take long and short positions of the same size within the same market, i.e.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Hedge Fund Course

  • Stuart A. McCrary(Author)
  • 2004(Publication Date)
  • Wiley

    (Publisher)

  In general, they focus on funds that deliver consistent, high re- turns relative to the amount of risk involved with the strategy. CONCLUSIONS There are many different types of hedge fund investors with different mo- tives and risk preferences. These investors have portfolios that respond differently to market forces. Fortunately, there are many different kinds of Hedge Funds. Both the investors and the hedge fund managers are best served when the investors find the hedge fund that best suits their invest- ing needs. QUESTIONS AND PROBLEMS 3.1 Why do individual investors put money in Hedge Funds, which expose the returns to ordinary income tax rates (up to 35 percent), much higher than the long-term capital gain rate of 15 percent? 3.2 Explain why a non-U.S. investor in an offshore hedge fund (perhaps run by a U.S. manager) should not be liable for U.S. taxes. 3.3 If an offshore fund is located in a country that has little or no tax on the return of a hedge fund, does the investor enjoy tax-free returns? 3.4 Why would an offshore investor put money in a fund managed by a U.S. manager? 3.5 Why would endowments and foundations invest in Hedge Funds that are viewed as speculative by many? 3.6 Would it be more prudent for a defined benefit pension plan or a de- fined contribution pension plan to invest in Hedge Funds? 3.7 What are some reasons why it might be undesirable for corporations to invest in Hedge Funds? 3.8 Why do funds of Hedge Funds exist, considering the additional fees that this nested structure creates? 3.9 Suppose a fund of funds invests equally in four Hedge Funds. The re- Types of Hedge Fund Investors 55 turns for three months are listed for the individual funds. Each return is before management fees and incentive fees. Assume for simplicity that each hedge fund charges an annual management fee of 2 percent and an incentive fee equal to 20 percent of returns (after management fees have been deducted).

  Sign up to read

  Learn more about book