HEDGE FUNDS: We’ve all heard of the term and have been intrigued by it. What does one associate with these mysterious entities? MONEY! That’s right. More than two trillion dollars are managed by hedge funds around the world today. And some hedge fund managers are crazy rich, their bonuses surpassing their base salaries by miles. Ray Dalio, the founder of the world’s largest Hedge Fund, Bridgewater Associates is worth a whopping 15 Billion US Dollars.
Hedge Funds are thus a subject of great interest. Because of their secretive nature of making money, a lot of suspicion is attached to them (and rightly so). Indeed many of these funds have gained notoriety for doing lots of shady stuff!
But how do these Hedge Funds actually work and how do they differ from normal mutual funds?
Hedge Funds are not regulated by any governing body (like SECs in the USA). As a result they aren’t able to market themselves. You won’t find their advertisements on Finance Journals or Newspapers. The most successful Hedge Funds aren’t even remotely close to being household names. This is in sharp contrast with Mutual funds which market themselves left, right and center and are all over the place.
Hedge Funds involve high risk. You can make a fortune or you can perish. Thus the general public is not allowed to invest in hedge funds. You either need to be a very high net worth person or need to provide credentials that enable you to participate in such risky investments. Esoteric stuff, they are!
The Two and Twenty Rule
2% of all Hedge Fund capital provides money for the management. This is significantly higher than the number for mutual funds. Further a fee of 20% is charged on all profits made. At such high rates, it is really difficult to make money for your clients. But the top hedge fund managers and traders who are really good at it can make a fortune for themselves and their clients.
The Hedge Funds don’t need to be transparent about their investments (as long as they are legal of course). It’s like the government telling Hedge Funds, “Hey, I give you the liberty to be a bad boy. So do whatever you want. Just don’t cross the line”. This, along with the exemption from regulations is very advantageous.
Alternative Investment Funds
In India Hedge Funds have not proliferated the way they have in the US and UK. Hedge Funds here are classified under AIFs or Alternative Investment Funds and face much stricter regulation. Thus they are limited in number and in size.
However, recently the RBI eased regulations on Hedge Funds to a great extent. At the same time, the number high net worth Indians is rising too. So are Hedge Funds set to boom in this country? It will be interesting to find out!
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Views presented in the article are those of the author and not of ED.