Understanding Hedge Funds

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Proliferation of hedge funds is increasing year after year. You might be thinking how hedge funds work. You are indeed lucky enough to have come across this article. You will be learning the basics of hedge funds, how they work and how to make an investment in a hedge fund.

What is a Hedge Fund?

From the name itself, hedge funds are looking for ways to increase gains while minimizing or offsetting losses by use of several methods.

Hedge funds are types of investments available to investors like institutions and individuals with substantial assets. It is like being in an investment partnership wherein the fund manager (commonly known as the general partner) partners with investors (commonly known as limited partners).

The limited partners are the ones funding the money whereas the general partner is the one responsible for managing it following a certain strategy. It is often regarded as an advanced investing strategy respecting simple principles and rules.

Its main purpose is to maximize returns and reduce risks on the part of the investor. Regardless of the market status (i.e. went higher or lower), one of a hedge fund aims is to make money regardless of the circumstance.

How does a hedge fund work?

The hedge fund manager obtains money from investors and invests it using a certain strategy he or she was able to discuss with the investors. There are hedge funds concentrating in “long-only” equities, or which simply means they only focus on common stocks and are not into selling shorts. Moreover, there are hedge funds that are involved with private equities or those that buy private businesses and are into taking them over to improve operations and later taking charge of an initial public offering. Also, there are hedge funds that are into junk bonds, real estate or even with patents and music rights. Thus, hedge funds can just be involved with anything.

Furthermore, hedge funds can also consider investing in derivatives. These are contracts to purchase or sell a certain security at a stipulated price. Common examples of derivatives are futures and options.

Thus, hedge funds have a wider investment freedom since they can basically invest in anything.

What common techniques do hedge funds employ?

Hedge funds usually employ an investment technique known as leverage. It is technically investing using borrowed money. This strategy can pose an increase in return potential but it also calls for a greater risk of loss.

They use such technique to amplify their returns.

Who can invest in hedge funds?

Investing in hedge funds is only possible if you are an “accredited” investor based on the law or regulations set by the government. Typically, accredited investors are those that must reach a minimum annual income, have a net worth of above one $1 million and possess a considerable amount of knowledge in investment. A hedge fund manager will only admit a willing investor only if he or she satisfies the prerequisites.

Hedge funds are private investments where wealthy people can invest their money. This type of investment can employ any strategy they like as long as discuss it with the investors. Due to its flexibility, hedge funds can produce amazing results in the long run.


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  • hedge funds
  • general partner
  • limited partners
  • long only equities
  • junk bonds
  • real estate
  • derivatives
  • futures
  • options
  • leverage