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Hedge funds are a type of mutual fund with a high degree of freedom for the hedge fund manager in charge of the fund. These investments use complex hedging strategies to maximize returns with lower risk than the market normally offers.
Large Yields and Highly Speculative Operations
Hedge funds originally had a different definition. They were designed as protection mechanisms against unforeseen market situations. This is where the term “hedge” in the name comes from. The idea was to maintain combined market positions while simultaneously making money from the opposing side of the investment. They used derivative instruments that protect the portfolio against a sudden fall of the stock market.
A derivative is a financial product whose value depends on the price of another asset, such as a stock index, commodity, future or similar product. These investments have a particular characteristic that makes them very attractive to speculators and requires a very small initial expenditure with the possibility of large profits and minimal losses.
Hedge fund managers realized they could use these tools to increase the benefits to their shareholders dramatically in exchange for small increases in the risk assumed by their operations. So hedge funds slowly became alternative derivative products used as a tool for protection against market fluctuations. Today, investors use them as highly speculative instruments to boost their bottom line.
Very Aggressive, High-Risk Investments
Because hedge funds are not open to the public, they’re not regulated as much as other mutual funds and stock investments. Regulators impose minimal reporting and transparency obligations on them, because they do not have to provide daily liquidity. Instead, they increasingly specialize in very aggressive, high-risk operations that investment funds traditionally are not allowed to engage in.
Depending on the type of fund, investors must meet one of two requirements. They must either be an “accredited investor” or a “qualified client.” Many times, hedge funds don’t need to be registered with the Securities and Exchange Commission, or SEC, so many secretive, unregulated funds have cropped up over the last couple of decades.
Such funds are structured as partnerships, with the hedge fund manager becoming a general partner responsible for making decisions regarding investments. Investors take on the role of limited partners. The aim of hedge fund managers is to drive up the profits of investments while trying not to depend too much on market stability. In many cases, markets with high volatility are even preferable as they sometimes produce the best results.
While hedge funds aren’t heavily regulated, managers are subject to the same rules and market regulations as any other broker. The advantage of hedge funds is the possibility of applying a wide variety of strategies while investing in many more commodities than traditional mutual funds. Investments can include real estate, art, agricultural products, and even Internet domains. The hedge fund manager can implement the technique of leverage, short sales, asset-backed loans and arbitration in order to obtain maximum profitability for clients.
Related Resource: Chartered Financial Analyst
The world of hedge funds is highly technical and usually open only to an elite few brokers and managers. To become involved in one of these organizations, you need a degree in finance or business from a top school as well as five to 15 years of experience, according to the Bureau of Labor Statistics. If you have the determination and interest, you may want to consider becoming a hedge fund manager.
