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What Are Hedge Funds?

Hedge funds collect money from investors and invest it in securities or other investments in the hopes of making a profit. Read this blog to find more on hedge funds.

Investment in hedge funds

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Since the beginning of the twenty-first century, hedge funds have become increasingly popular in financial portfolios. Let us dive deep into all the aspects of a hedge fund one should know before investing in it. We cover the fundamentals of this alternative investment vehicle in this article. 

Two and Twenty Structure 

The 2 and 20 pay plans mean that the hedge fund manager is paid 2% of assets and 20% of income per year. 

What are Hedge Funds? 

Hedge funds are investment funds that pool money from several sources, and professionals who run them invest in assets, including public equities. These investments are one of a kind because they require sophisticated portfolio management and risk management techniques.  

Hedge fund managers do market research and collect capital in a variety of ways. Unlike the other investment options on this list, hedge funds are easier to liquidate, which means you can get your money out faster if you invest in them. 

Objectives of Hedge Funds 

Hedge funds differ from other pooled investments as follows. 

1. Accredited or Qualified Investors 

Hedge fund investors must have a minimum net worth of $1 million or an average income of $200,000 over the previous two years to invest in hedge funds. 

2. Leverage is often used. 

Hedge funds also use leverage or borrowed money to boost their returns, potentially exposing them to a wider range of investment risks – as the Great Recession showed. 

3. Fee Structure 

Hedge funds charge both a cost ratio and a performance fee. Two and twenty is a standard fee arrangement that includes a 2% asset management fee and a 20% share of induced profits. 

Hedge funds
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Pros and Cons of Hedge funds 

Hedge funds provide some worthy benefits with potential risks, we mentioned some of the important pros and cons below. 

Pros  Cons  
You can gain from both upward and downward moving markets.  You may lose a sizeable chunk of money. 
Portfolios that are well-balanced minimize risk and uncertainty.  Less liquid than traditional mutual funds. 
A plethora of investment options you can opt for  Preserves funds for a long time.  
Top investment managers oversee this fund. Leverage will increase your losses. 

Types of Hedge Funds 

The following are some of the most common hedge fund strategies. 

  • Long/Short Equity 
  • Merger Arbitrage 
  • Global Macro 
  • Volatility Arbitrage 
Investment in hedge funds
Source: Pexels

A hedge fund, like a mutual fund, is an official partnership between investors who pool their capital and have it managed by experienced investment firms. The similarities, however, end there. Hedge funds are less limited and run with less transparency. 
They follow more versatile and aggressive strategies hoping to generate large returns for investors, which would lead to large profits for fund managers.  

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