Hedge funds and the managers who run them have been getting a lot of publicity lately — and not of the flattering kind.
We have massive Ponzi schemes, equally massive losses and outsized systemic risks that are enough to frighten away even the hardiest of investors.
So before you leap, you need to look — carefully and deeply into this industry. When you do, however, you'll also find that there's a lot more to hedge funds than has been making it into the evening news …
Hedge funds are an integral part of our financial investment landscape. They often outperform the broad stock market by wide margins. Many are designed to make money in ANY market environment. And they are now more accessible to investors via a fast-growing new vehicle — funds of hedge funds.
This morning, I'll give you a basic primer on hedge funds to help you decide if these unique investments are possibly right for you. And in the future, I'll introduce you to specific funds — and strategies they use — for successful global investing.
What Are Hedge Funds?
The first hedge fund came out in 1949 as a strategy to neutralize the effect of overall market movements on a portfolio.
The strategy was simply to buy stocks that were expected to rise and selling short stocks expected to fall. The concept was to add BALANCE — to produce returns that were not market-dependent and tended to hedge a portfolio's market exposure.
Nowadays, that has changed in a very fundamental way: Besides protecting a portfolio from downside risk, hedge funds often go for maximum return by deploying large amounts of leverage and investing in several asset classes among global markets.
Who Invests in Hedge Funds?
Hedge funds are private partnerships that are open to a limited number of investors, with qualification criteria determined by the SEC. To get into one, you'll need to prove you have a net worth greater than $1 million and meet a minimum income requirement.
The reason for these stringent requirements is simple: The SEC feels that hedge funds are riskier and less transparent than mutual funds and most other investments.
Beyond high-net-worth individuals, institutional investors are also a dominant force behind the rising popularity of hedge funds. Two such groups are …
#1. Pension Funds
Unfortunately, U.S. corporate and government pension funds rarely have enough money in their kitty to cover all their expected future liabilities to their members. In fact, assuming the most likely future scenario, the expected shortfall is almost $1.5 trillion!
This is a major reason why pension fund managers have reached beyond traditional investment vehicles to seek outsized returns. And many fund managers think hedge funds are the best places to find them.
Estimates vary.
