Financial market participants

Investors Hedge funds Private equity Venture capital

Speculation

Institutional investors Banks Building societies Trusts Collective investment schemes Credit Unions Insurance companies Investment banks Pension funds Prime Brokers Trusts

Finance series Financial market Participants Corporate finance Personal finance Public finance Banks and Banking Financial regulation

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A hedge fund is private, largely unregulated pool of capital whose managers can buy or sell any assets, bet on falling as well as rising assets and participate substantially in profits from money invested. There are two basic financial market participant categories Investor vs See Investor AB for the Swedish investment company An investor is any party that makes an Investment. In Finance, private equity is an Asset class consisting of equity Securities in operating companies that are not Publicly traded on Venture capital (also known as VC or Venture) is a type of Private equity capital typically provided to immature high-potential growth companies Speculation, in a financial context is making an investment that increases the overall risk in a portfolio Institutional investors are organizations which pool large sums of money and invest those sums in companies A banker or bank is a Financial institution whose primary activity is to act as a payment agent for customers and to borrow and lend money A building society is a financial institution owned by its members, that offers banking and other Financial services, especially mortgage lending A trust company is a Corporation, especially a Commercial bank, organized to perform the Fiduciary functions of trusts and agencies A collective investment scheme is a way of investing money with other people to participate in a wider range of investments than those feasible for most individual investors A credit union is a Cooperative Financial institution that is owned and controlled by its members and operated for the purpose of promoting thrift providing credit Insurance, in Law and Economics, is a form of Risk management primarily used to hedge against the Risk of a contingent loss Investment banks profit from companies and governments by raising money through issuing and selling Securities in the Capital markets (both equity and A pension fund is a pool of assets forming an independent legal entity that are bought with the contributions to a Pension plan for the exclusive purpose of financing pension Prime brokerage is the generic name for a bundled package of services offered by Investment banks and securities firms to Hedge funds and other professional investors A trust company is a Corporation, especially a Commercial bank, organized to perform the Fiduciary functions of trusts and agencies The field of finance refers to the concepts of Time, Money and Risk and how they are interrelated In Economics, a financial market is a mechanism that allows people to easily buy and sell ( Trade) financial Securities (such as stocks and bonds There are two basic financial market participant categories Investor vs Corporate finance is an area of Finance dealing with the financial decisions Corporations make and the tools and analysis used to make these decisions Personal finance is the application of the principles of Finance to the monetary decisions of an individual or family unit Public finance is a field of economics concerned with paying for collective or governmental activities and with the administration and design of those activities A banker or bank is a Financial institution whose primary activity is to act as a payment agent for customers and to borrow and lend money Financial regulations are a form of Regulation or supervision which subjects Financial institutions to certain requirements restrictions and guidelines aiming to It charges both a performance fee and a management fee. A hedge fund is a private Investment fund open to a limited range of investors which is permitted by regulators to undertake a wider range of activities than other investment Typically open only to qualified investors, hedge fund activity in the public securities markets has grown substantially, accounting for approximately 10% of all U. See Investor AB for the Swedish investment company An investor is any party that makes an Investment. S. fixed-income security transactions, 35% of U. S. activity in derivatives with investment-grade ratings, 55% of the trading volume for emerging-market bonds, and 30% of equity trades. Derivatives are Financial instruments whose values depend on the value of other underlying financial instruments The term emerging markets is used to describe a nation's social or business activity in the process of rapid Industrialization. Software for Fixed assets management and Stock control developed in 2004. Hedge Funds dominate certain specialty markets such as trading within derivatives with high-yield ratings, and distressed debt. Distressed securities are securities of companies or government entities that are either already in Default, under Bankruptcy protection or in distress ^[1]

Alfred W. Jones is credited with inventing hedge funds in 1949. Year 1949 ( MCMXLIX) was a Common year starting on Saturday (link will display the full calendar of the Gregorian calendar. ^[2]

In the United States, for an investment fund to be exempt from direct regulation, it must be open to a limited number of accredited investors only. Accredited investor is a term defined by various securities laws that delineates investors permitted to invest in certain types of higher risk Investments Limited partnerships While there is no legal definition for "hedge fund" under U. S. securities laws and regulations, typically they include any investment fund that, because of an exemption from the types of regulation that otherwise apply to mutual funds, brokerage firms or investment advisors, can invest in more complex and riskier investments than a public fund might. A mutual fund is a professionally managed type of collective investments that pools money from many investors and Invests it in Stocks bonds, A broker is a party that mediates between a Buyer and a Seller. An investment advisor (or investment adviser is an individual or firm that advises clients on investment matters on a professional basis Hedge funds managed from other countries have similar relationships with their national regulators. As a hedge fund's investment activities are therefore limited only by the contracts governing the particular fund, it can make greater use of complex investment strategies such as short selling, entering into futures, swaps and other derivative contracts and leverage. Investment or investing is a term with several closely-related meanings in Business management, Finance and Economics, related to saving In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then In Finance, a futures contract is a standardized Contract, traded on a Futures exchange, to buy or sell a certain Underlying instrument For the Thoroughbred horse racing champion see Swaps (horse. In finance a swap is a derivative in which two counterparties Derivatives are Financial instruments whose values depend on the value of other underlying financial instruments In Finance, leverage (or gearing) is using given resources in such a way that the potential positive or negative outcome is magnified and/or enhanced

As the name implies, hedge funds often seek to offset potential losses in the principal markets they invest in by hedging their investments using a variety of methods, most notably short selling. In Finance, a hedge is an investment that is taken out specifically to reduce or cancel out the Risk in another investment In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then However, the term "hedge fund" has come in modern parlance to be applied to many funds that do not actually hedge their investments, and in particular to funds using short selling and other "hedging" methods to increase risk, and therefore return, rather than reduce it.

Hedge funds have acquired a reputation for secrecy. Being outside the regulatory regime that applies to retail funds greatly reduces the information a hedge fund is legally required to make public. Additionally, divulging trading methods and positions would compromise the business interests of many types of hedge fund, tending to limit the information they want to release. ^[3]

The assets under management of a hedge fund can run into many billions of dollars, and this will usually be multiplied by leverage. Assets Under Management (AUM is a term used by Financial services companies in the Mutual fund and money management Investment management, Wealth In Finance, leverage (or gearing) is using given resources in such a way that the potential positive or negative outcome is magnified and/or enhanced Their sway over markets, whether they succeed or fail, is therefore potentially substantial and there is a continuing debate over whether they should be more thoroughly regulated.

Contents 1 Industry 2 Fees 2.1 Management fees 2.2 Performance fees 2.2.1 High water marks 2.2.2 Hurdle rates 2.3 Withdrawal/Redemption fees 3 Strategies 3.1 Global macro 3.2 Directional 3.3 Event driven 3.4 Relative value 3.5 Miscellaneous 4 Hedge fund risk 5 Legal structure 5.1 Domicile 5.2 The legal entity 5.3 Open-ended nature 5.4 Listed funds 6 Hedge fund management worldwide 7 Regulatory Issues 7.1 US regulation 7.2 Comparison to private equity funds 7.3 Comparison to U.S. mutual funds 7.4 Offshore regulation 8 Hedge Fund Indices 9 Debates and controversies 9.1 Systemic risk 9.2 Transparency 9.3 Market capacity 9.4 Investigations of illegal conduct 9.5 Performance measurement 9.6 Relationships with analysts 10 Hedge fund data 10.1 Top performing funds 10.2 Highest-earning hedge fund managers 10.3 Notable hedge fund management companies 11 Terminology 12 See also 13 References 14 External links

Industry

In 2005, Absolute Return magazine found there were 196 hedge funds with $1 billion or more in assets, with a combined $743 billion under management - the vast majority of the industry's estimated $1 trillion in assets. ^[4] However, according to hedge fund advisory group Hennessee, total hedge fund industry assets increased by $215 billion in 2006 to $1. 442 trillion, up 17. 5% on a year earlier, an estimate for 2005 seemingly at odds with Absolute Return. ^[5]

As large institutional investors have entered the hedge fund industry the total asset levels continue to rise. The 2008 Hedge Fund Asset Flows & Trends Report ^[6] published by HedgeFund.net and Institutional Investor News estimates total industry assets reached $2. 68 trillion in Q3 2007. According to the BarclayHedge Monthly Asset Flow Report, hedge funds received only $15 billion in October, the second-lowest inflow in 2007. Year-to-date hedge funds attracted $278. 5 billion, three times year-to-date inflow into equity mutual funds.

Fees

A hedge fund manager will typically receive both a management fee and a performance fee (also known as an incentive fee). Mutual fund fees and expenses are charges that may be incurred by investors who hold mutual funds A performance fee is a fee that an investment fund may be charged by the investment manager that manages its assets, calculated by reference to the increase Performance fees are closely associated with hedge funds, and are intended to be an incentive for the investment manager to produce the largest returns he can. A typical manager will charge fees of "2 and 20", which refers to a management fee of 2% of the fund's net asset value (or "NAV") per annum and a performance fee of 20% of the fund's profit (being the increase in its NAV). Net Asset Value (NAV is a term used to describe the value of an entity's assets less the value of its liabilities

Fees are payable by the fund to the investment manager. They are therefore taken directly from the assets that the investor holds in the fund.

Management fees

As with other investment funds, the management fee is calculated as a percentage of the net asset value of the fund at the time when the fee becomes payable. A collective investment scheme is a way of investing money with other people to participate in a wider range of investments than those feasible for most individual investors Net Asset Value (NAV is a term used to describe the value of an entity's assets less the value of its liabilities Management fees typically range from 1% to 4% per annum, with 2% being the standard figure. Therefore, if a fund has $1 billion of assets at the year end and charges a 2% management fee, the management fee will be $20 million. Management fees are usually calculated annually and paid monthly, but can also be paid weekly.

Performance fees

Performance fees, which give a share of positive returns to the manager, are one of the defining characteristics of hedge funds. The manager's performance fee is calculated as a percentage of the fund's profits, counting both unrealized profits and actual realized trading profits. Performance fees exist because investors are usually willing to pay managers more generously when the investors have themselves made money. For managers who perform well the performance fee is extremely lucrative.

Typically, hedge funds charge 20% of gross returns as a performance fee. However, the range is wide, with highly regarded managers charging higher fees. In particular, Steven Cohen's SAC Capital Partners charges a 3% management fee and a 35% performance fee,^[7] while Jim Simons' Renaissance Technologies Corp. Steven A Cohen (born Circa 1956 is an American billionaire Hedge fund manager and the founder and manager of SAC Capital Partners, a Stamford Connecticut SAC Capital Advisors (SAC Capital Partners SAC Capital Management is a $16 billion dollar group of multi-strategy multi-discipline Hedge funds founded by Steven A James Harris "Jim" Simons (b 1938 is an American Mathematician, Academic, trader, and Philanthropist. Renaissance Technologies is a Hedge fund management company Renaissance was started by James Simons in 1982 charged a 5% management fee and a 44% incentive fee in its flagship Medallion Fund.

Performance fees are intended to align the interests of manager and investor better than flat fees that are payable even when performance is poor. However, performance fees have been criticized by many people, including notable investor Warren Buffett, for giving managers an incentive to take excessive risk rather than targeting high long-term returns. Warren Buffett (born August 30 1930 is an American Investor, Businessman, and Philanthropist. In an attempt to control this problem, fees are usually limited by a high water mark and sometimes limited by a hurdle rate. The hurdle rate is the minimum Rate of return that must be met for a company to undertake a particular project Alternatively a "claw-back" provision may be included, whereby the investment manager might be required to return performance fees when the value of the fund drops.

High water marks

A high water mark (also known as a loss carryforward provision) is often applied to a performance fee calculation. ^[8] This means that the manager only receives performance fees on the value of the fund that exceeds the highest net asset value it has previously achieved. For example, if a fund were launched at an NAV per share of $100, which then rose to $130 in its first year, a performance fee would be payable on the $30 return for each share. If the next year it dropped to $120, no fee is payable. If in the third year the NAV per share rises to $143, a performance fee will be payable only on the $13 return from $130 to $143 rather than on the full return from $120 to $143.

This measure is intended to link the manager's interests more closely to those of investors and to reduce the incentive for managers to seek volatile trades. If a high water mark is not used, a fund that ends alternate years at $100 and $110 would generate performance fee every other year, enriching the manager but not the investors.

The mechanism does not provide complete protection to investors: a manager who has lost a significant percentage of the fund's value will often close the fund and start again with a clean slate, rather than continue working for no performance fee until the loss has been made good. This depends on the manager being able to persuade investors to trust it with their money in the new fund. ^[9]

Hurdle rates

Some managers specify a hurdle rate, signifying that they will not charge a performance fee until the fund's annualized performance exceeds a benchmark rate, such as T-bill yield, LIBOR or a fixed percentage. The hurdle rate is the minimum Rate of return that must be met for a company to undertake a particular project Treasury securities are Government bonds issued by the United States Department of the Treasury through the Bureau of the Public Debt. The London Interbank Offered Rate (or LIBOR, ˈlaɪbɔr is a daily Reference rate based on the Interest rates at which Banks offer to lend This links performance fees to the ability of the manager to do better than the investor would have done if he had put the money elsewhere.

Managers which specify a "soft" hurdle rate charge a performance fee based on the entire annualized return once the hurdle rate has been achieved. Managers which use a "hard" hurdle rate only charge a performance fee on returns above the hurdle rate. The hurdle rate is the minimum Rate of return that must be met for a company to undertake a particular project

Because demand for hedge funds has outstripped supply, most managers do not now need hurdle rates in order to attract investors. For this reason, hurdle rates are now rare.

Withdrawal/Redemption fees

Some managers charge investors a withdrawal/redemption fee (also known as a surrender charge) if they withdraw money from the fund before a certain period of time has elapsed since the money was invested. The purpose is to encourage long-term investment in the fund: as a fund's investments need to be liquidated to raise cash for withdrawals, the fee allows the fund manager to reduce the turnover of its own investments and invest in more complex, longer-term strategies. The fee also dissuades investors from withdrawing funds after periods of poor performance.

The fee is typically known as a "withdrawal fee" where the fund is a limited partnership and a "redemption fee" where the fund is a corporate entity. A limited partnership is a form of Partnership similar to a General partnership, except that in addition to one or more general partners (GPs there are Generally a company is a form of Business organization. The precise definition varies

Strategies

Hedge funds employ many different investment strategies, which are classified in many different ways, with no standard system used. Each strategy can be said to be built from a number of different elements:

• Style: global macro, directional, event driven, relative value (arbitrage), managed futures (CTA)
• Market: equity, fixed income, commodity, currency
• Instrument: long/short, futures, options
• Exposure: directional, market neutral
• Sector: emerging market, technology, healthcare etc. The term global macro is used to classify the strategy of certain Hedge funds —those that take positions in Financial derivatives, on the basis of forecasts and analysis In Computer programming, event-driven programming or event-based programming is a Programming paradigm in which the flow of the program is determined In Economics and Finance, arbitrage is the practice of taking advantage of a price differential between two or more Markets striking a combination of matching Fixed income refers to any type of Investment that yields a regular (or fixed return A commodity is anything for which there is demand but which is supplied without qualitative differentiation across a market A currency is a unit of exchange, facilitating the transfer of Goods and/or services It is one form of Money, where money is An Investment strategy or portfolio is considered market neutral if it seeks to entirely avoid some form of market Risk, typically by hedging The term emerging markets is used to describe a nation's social or business activity in the process of rapid Industrialization. Technology is a broad concept that deals with a Species ' usage and knowledge of Tools and Crafts and how it affects a species' ability to control and adapt Health care is the prevention treatment and management of illness and the preservation of mental health through the services offered by the medical, Nursing
• Method: discretionary/qualitative (where the individual investments are selected by managers), systematic/quantitative (or "quant" - where the investments are selected according to numerical methods using a computerized system)
• Diversification: multi manager, multi strategy, multi fund, multi market

The four main strategy groups are based on the investment style and have their own risk and return characteristics. The most common label for a hedge fund is "long/short equity", meaning that the fund takes both long and short positions in shares traded on public stock exchanges. In finance a long position in a security such as a Stock or a bond, or equivalently to be long in a security means the holder of the position owns the In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then A stock exchange, share market or bourse is a Corporation or Mutual organization which provides "trading" facilities for Stock

Global macro

(Macro, Trading) Anticipate to global macroeconomic events using all markets and instruments. The term global macro is used to classify the strategy of certain Hedge funds —those that take positions in Financial derivatives, on the basis of forecasts and analysis Macroeconomics is a branch of Economics that deals with the performance structure and behavior of a national or regional Economy as a whole

• Discretionary macro - trading is done by investment managers instead of generated by software.
• Systematic macro - trading is done pure mathematically, generated by software without human intervention. Mathematics is the body of Knowledge and Academic discipline that studies such concepts as Quantity, Structure, Space and
  • Commodity Trading Advisors (CTA, Managed futures, Trading) - trading in futures (or options contracts) in commodity markets. Commodity trading advisor is a regulatory term as defined under the US Commodity Exchange Act and defined as follows (6 Commodity trading advisor (A In general A commodity is anything for which there is demand but which is supplied without qualitative differentiation across a market
  • Systematic diversified - trading in diversified markets.
  • Systematic currency - trading in currency markets. The foreign exchange ( currency or forex or FX) market refers to the market for currencies.
  • Trend following - profit from long-term or short-term trends. In Finance, trend following is an Investment strategy that tries to take advantage of long-term moves that seem to play out in various markets.
  • Non-trend following (Counter trend) - profit from trend reversals. In Investing, Financial markets are commonly believed to have market trends that can be classified as primary trends secondary trends (short-term and secular trends
• Multi strategy - combination of discretionary and systematic macro.

Directional

(Equity hedge) Hedged investments with exposure to the equity market. A stock market, or (equity market is a private or public market for the trading of company Stock and derivatives of company

• Long / short equity (Equity hedge) - long equity positions hedged with short sales of stocks or stock market index options. Long/short equity is an investment strategy generally associated with Hedge funds It involves buying long equities that are expected to increase in value and selling short equities In finance a long position in a security such as a Stock or a bond, or equivalently to be long in a security means the holder of the position owns the In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then A stock market, or (equity market is a private or public market for the trading of company Stock and derivatives of company This article is about index in an economics and finance sense Options are financial instruments that convey the right but not the obligation to engage in a future transaction on some Underlying security, or in a Futures
• Emerging markets - specialized in emerging markets, such as China, India etc. The term emerging markets is used to describe a nation's social or business activity in the process of rapid Industrialization. The term emerging markets is used to describe a nation's social or business activity in the process of rapid Industrialization.
• Sector funds - expertise in niche areas such as technology, healthcare, biotechnology, pharmaceuticals, energy, basic materials.
• Fundamental growth - invest in companies with more earnings growth than the broad equity market. A stock market, or (equity market is a private or public market for the trading of company Stock and derivatives of company
• Fundamental value - invest in undervalued companies.
• Quantitative Directional - equity trading using quantitative techniques. In Finance, a trader is someone who buys and sells Financial instruments such as stocks, bonds and derivatives. A quantitative attribute is one that exists in a range of magnitudes and can therefore be measured.
• Short bias - take advantage of declining equity markets using short positions. In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then A stock market, or (equity market is a private or public market for the trading of company Stock and derivatives of company In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then
• Multi strategy - diversification through different styles to reduce risk.

Event driven

(Special situations) Exploit pricing inefficiencies caused by anticipated specific corporate events.

• Distressed securities (Distressed debt) - specialized in companies trading at discounts to their value because of (potential) bankruptcy. Distressed securities are securities of companies or government entities that are either already in Default, under Bankruptcy protection or in distress Bankruptcy is a legally declared inability or impairment of ability of an individual or organization to pay their Creditors Creditors may file a bankruptcy petition against
• Merger arbitrage (Risk arbitrage) - exploit pricing inefficiencies between merging companies. Risk Arbitrage, or merger arbitrage, is an Investment or trading strategy often associated with Hedge funds Two principal types of merger Risk Arbitrage, or merger arbitrage, is an Investment or trading strategy often associated with Hedge funds Two principal types of merger
• Special situations - specialized in restructuring companies or companies engaged in a corporate transaction. Restructuring is the Corporate management term for the act of partially dismantling or otherwise reorganizing a company for the purpose of making it more profitable
• Multi strategy - diversification through different styles to reduce risk.
• Credit arbitrage - specialized in corporate fixed income securities. Fixed income refers to any type of Investment that yields a regular (or fixed return
• Regulation D - specialized in private equities. Regulation D (also known as Reg D) is a regulation of the US Securities and Exchange Commission (the "SEC" and is also a term for an investment In Finance, private equity is an Asset class consisting of equity Securities in operating companies that are not Publicly traded on
• Activist - take large positions in companies and use the ownership to be active in the management

Relative value

(Arbitrage, Market neutral) Exploit pricing inefficiencies between related assets which are mispriced. An Investment strategy or portfolio is considered market neutral if it seeks to entirely avoid some form of market Risk, typically by hedging

• Fixed income arbitrage - exploit pricing inefficiencies between related fixed income securities. Fixed-income arbitrage is an Investment strategy generally associated with Hedge funds which consists of the discovery and exploitation of inefficiencies in the pricing Fixed income refers to any type of Investment that yields a regular (or fixed return
• Equity market neutral (Equity arbitrage) - being market neutral by maintaining a close balance between long and short positions. An Investment strategy or portfolio is considered market neutral if it seeks to entirely avoid some form of market Risk, typically by hedging In finance a long position in a security such as a Stock or a bond, or equivalently to be long in a security means the holder of the position owns the In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then
• Convertible arbitrage - exploit pricing inefficiencies between convertible securities and the corresponding stocks. Convertible arbitrage is a market neutral Investment strategy often associated with Hedge funds It involves the simultaneous purchase of convertible securities A convertible security is a security that can be converted into another security for example a bond that under certain terms can be converted into equity Software for Fixed assets management and Stock control developed in 2004.
• Fixed Income corporate - fixed income arbitrage strategy using corporate fixed income instruments. Fixed-income arbitrage is an Investment strategy generally associated with Hedge funds which consists of the discovery and exploitation of inefficiencies in the pricing Fixed income refers to any type of Investment that yields a regular (or fixed return
• Asset-backed securities (Fixed Income asset backed) - fixed income arbitrage strategy using asset-backed securities. Fixed-income arbitrage is an Investment strategy generally associated with Hedge funds which consists of the discovery and exploitation of inefficiencies in the pricing In Finance, an asset-backed security is a type of debt security that is based on pools of Assets or collateralized by the cash flows from a specified pool
• Credit long / short - as long / short equity but in credit markets instead of equity markets. The bond market (also known as the debt, credit, or fixed income market) is a Financial market where participants buy and sell Debt
• Statistical arbitrage - equity market neutral strategy using statistical models. In the world of finance and investments statistical arbitrage is used in two related but distinct ways In academic literature statistical arbitrage is opposed An Investment strategy or portfolio is considered market neutral if it seeks to entirely avoid some form of market Risk, typically by hedging Statistics is a mathematical science pertaining to the collection analysis interpretation or explanation and presentation of Data.
• Volatility arbitrage - exploit the change in implied volatility instead of the change in price. Volatility most frequently refers to the Standard deviation of the continuously compounded returns of a Financial instrument with a specific time horizon
• Yield alternatives - non fixed income arbitrage strategies based on the yield instead of the price. Fixed-income arbitrage is an Investment strategy generally associated with Hedge funds which consists of the discovery and exploitation of inefficiencies in the pricing
• Multi strategy - diversification through different styles to reduce risk.
• Regulatory Arbitrage - the practice of taking advantage of regulatory differences between two or more markets.

Under certain circumstances an investor can completely hedge the risks of an investment, leaving pure profit. For example, at one time it was possible for exchange traders to buy shares of, say, IBM on one exchange and simultaneously sell them on another exchange, leaving pure profit. Competition among investors has leached away such profits, leaving hedge fund managers with trades that are partially hedged, at best. These trades still contain residual risks which can be considerable.

Miscellaneous

• Fund of hedge funds (Multi manager) - a hedge fund with a diversified portfolio of numerous underlying hedge funds to reduce risk.
• Fund of fund of hedge funds (F3, F cube) - ultra diversified by investing in other fund of hedge funds.
• Multi strategy - a hedge fund exploiting a combination of different hedge fund strategies to reduce market risk.
• Multi manager - a hedge fund where the investment is spread along separate sub managers investing in their own strategy.
• 130-30 funds - unhedged equity fund with 130% long and 30% short positions, the market exposure is 100%.
• Long only absolute return funds - partly hedged fund excluding short selling but allow derivatives.

Hedge fund risk

Investing in certain types of hedge fund can be (but is not necessarily) a riskier proposition than investing in a regulated fund, despite a "hedge" being a means of reducing the risk of a bet or investment. Risk is a Concept that denotes the precise probability of specific eventualities A mutual fund is a professionally managed type of collective investments that pools money from many investors and Invests it in Stocks bonds, In Finance, a hedge is an investment that is taken out specifically to reduce or cancel out the Risk in another investment The following are some of the primary reasons for the increased risk in hedge funds as an industry, though by no means all hedge funds have all of these characteristics, and some have none:

Leverage - in addition to money invested into the fund by investors, a hedge fund will typically borrow money, with certain funds borrowing sums many times greater than the initial investment. In Finance, leverage (or gearing) is using given resources in such a way that the potential positive or negative outcome is magnified and/or enhanced If a hedge fund has borrowed $9 for every $1 received from investors, a loss of only 10% of the value of the investments of the hedge fund will wipe out 100% of the value of the investor's stake in the fund, once the creditors have called in their loans. A creditor is a party (eg person organization company or government that has a claim to the services of a second party In September 1998, shortly before its collapse, Long Term Capital Management had $125 billion of assets on a base of $4 billion of investors' money, a leverage of over 30 times. Long-Term Capital Management ( LTCM) was a US Hedge fund which failed spectacularly in the late 1990s leading to a massive bailout by other major banks It also had off-balance sheet positions with a notional value of approximately $1 trillion. ^[10]

Short selling - due to the nature of short selling, the losses that can be incurred on a losing bet are theoretically limitless, unless the short position directly hedges a corresponding long position. In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then In Finance, short selling or "shorting" is the practice of selling a Financial instrument that the seller borrows first (does not own and then In Finance, a hedge is an investment that is taken out specifically to reduce or cancel out the Risk in another investment In finance a long position in a security such as a Stock or a bond, or equivalently to be long in a security means the holder of the position owns the Therefore, where a hedge fund uses short selling as an investment strategy rather than as a hedging strategy it can suffer very high losses if the market turns against it. Ordinary funds very rarely use short selling in this way.

Appetite for risk - hedge funds are culturally more likely than other types of funds to take on underlying investments that carry high degrees of risk, such as high yield bonds, distressed securities and collateralized debt obligations based on sub-prime mortgages. Risk is a Concept that denotes the precise probability of specific eventualities In Finance, a high yield bond ( non-investment grade bond, speculative grade bond or junk bond) is a bond that is rated below Distressed securities are securities of companies or government entities that are either already in Default, under Bankruptcy protection or in distress For other subjects with the same abbreviation see CDO. Collateralized debt obligations (CDOs are an unregulated type of Asset-backed security Subprime lending ( near-prime, non-prime, or second chance lending is a financial term that was popularized by the media during the "credit crunch"

Lack of transparency - hedge funds are secretive entities with few public disclosure requirements. In Economics, a market is transparent if much is Known by many about What products services or Capital assets are available It can therefore be difficult for an investor to assess trading strategies, diversification of the portfolio and other factors relevant to an investment decision. Diversification in Finance is a Risk management technique related to hedging, that mixes a wide variety of investments within a portfolio. In finance a portfolio is an appropriate mix of or collection of investments held by an institution or a private individual

Lack of regulation - hedge funds are not subject to as much oversight from financial regulators as regulated funds, and therefore some may carry undisclosed structural risks. This article is for the legal term For regulation of genes see Regulation of gene expression.

Investors in hedge funds are, in most countries, required to be sophisticated investors who will be aware of the risk implications of these factors. They are willing to take these risks because of the corresponding rewards: leverage amplifies profits as well as losses; short selling opens up new investment opportunities; riskier investments typically provide higher returns; secrecy helps to prevent imitation by competitors; and being unregulated reduces costs and allows the investment manager more freedom to make decisions on a purely commercial basis.

Legal structure

A hedge fund is a vehicle for holding and investing the funds of its investors. A collective investment scheme is a way of investing money with other people to participate in a wider range of investments than those feasible for most individual investors Money is anything that is generally accepted as Payment for Goods and services and repayment of Debts. The fund itself is not a genuine business, having no employees and no assets other than its investment portfolio and a small amount of cash, and its investors being its clients. A business (also called firm or an enterprise) is a legally recognized organizational entity designed to provide goods and/or services to Employment is a Contract between two parties, one being the employer and the other being the employee. In Business and Accounting, assets are everything owned by a person or company (all tangible and intangible property that can be converted into cash. In finance a portfolio is an appropriate mix of or collection of investments held by an institution or a private individual Cash usually refers to Money in the form of Currency, such as Banknotes and Coins In Bookkeeping and Finance, See Investor AB for the Swedish investment company An investor is any party that makes an Investment. A customer is someone who makes use of the paid products of an individual or Organization. The portfolio is managed by the investment manager, which has employees and property and which is the actual business. Property is any physical or virtual entity that is owned by an individual An investment manager is commonly termed a “hedge fund” (e. g. a person may be said to “work at a hedge fund”) but this is not technically correct. An investment manager may have a large number of hedge funds under its management.

Domicile

The specific legal structure of a hedge fund – in particular its domicile and the type of legal entity used – is usually determined by the tax environment of the fund’s expected investors. In Conflict of Laws, domicile (sometimes termed domicil in the U Regulatory considerations will also play a role. This article is for the legal term For regulation of genes see Regulation of gene expression. Many hedge funds are established in offshore tax havens so that the fund can avoid paying tax on the increase in the value of its portfolio. An offshore financial centre (or OFC) although not precisely defined is usually a low- Tax, lightly Regulated jurisdiction which specializes in providing An investor will still pay tax on any profit it makes when it realizes its investment, and the investment manager, usually based in a major financial centre, will pay tax on the fees that it receives for managing the fund. Realization is generally understood in financial circles as the point at which revenue is recognized typically through a transaction which involves the exchange of an asset product or Investment or investing is a term with several closely-related meanings in Business management, Finance and Economics, related to saving

In January 2006, 55% of the number of hedge funds were registered offshore. The most popular offshore location was the Cayman Islands (63% of number of offshore funds), followed by British Virgin Islands (13%) and Bermuda (11%). The US was the most popular onshore location (with funds mostly registered in Delaware) accounting for 48% of the number of onshore funds, followed by Ireland with 7%. . ^[11]

The legal entity

Limited partnerships are principally used for hedge funds aimed at US-based investors who pay tax, as the investors will receive relatively favorable tax treatment in the US. A limited partnership is a form of Partnership similar to a General partnership, except that in addition to one or more general partners (GPs there are The United States of America —commonly referred to as the See Investor AB for the Swedish investment company An investor is any party that makes an Investment. The general partner of the limited partnership is typically the investment manager (though is sometimes an offshore corporation) and the investors are the limited partners. A limited partnership is a form of Partnership similar to a General partnership, except that in addition to one or more general partners (GPs there are An offshore financial centre (or OFC) although not precisely defined is usually a low- Tax, lightly Regulated jurisdiction which specializes in providing A limited partnership is a form of Partnership similar to a General partnership, except that in addition to one or more general partners (GPs there are Offshore corporate funds are used for non-US investors and US entities that do not pay tax (such as pension funds), as such investors do not receive the same tax benefits from investing in a limited partnership. Generally a company is a form of Business organization. The precise definition varies A pension fund is a pool of assets forming an independent legal entity that are bought with the contributions to a Pension plan for the exclusive purpose of financing pension Unit trusts are typically marketed to Japanese investors. A unit trust is a form of collective investment constituted under a trust deed For a topic outline on this subject see List of basic Japan topics. Other than taxation, the type of entity used does not have a significant bearing on the nature of the fund.

Many hedge funds are structured as master/feeder funds. The master-feeder structure allows asset managers to capture the efficiencies of larger pools of assets see Economies of scale although fashioning investment funds In such a structure the investors will invest into a feeder fund which will in turn invest all of its assets into the master fund. The assets of the master fund will then be managed by the investment manager in the usual way. This allows several feeder funds (e. g. an offshore corporate fund, a US limited partnership and a unit trust) to invest into the same master fund, allowing an investment manager the benefit of managing the assets of a single entity while giving all investors the best possible tax treatment.

The investment manager, which will have organized the establishment of the hedge fund, may retain an interest in the hedge fund, either as the general partner of a limited partnership or as the holder of “founder shares” in a corporate fund. In financial markets, a share is a Unit of account for various financial instruments including Stocks Mutual funds Limited partnerships Founder shares typically have no economic rights, and voting rights over only a limited range of issues, such as selection of the investment manager – most of the fund’s decisions are taken by the board of directors of the fund, which is self-appointing and independent but invariably loyal to the investment manager.

Open-ended nature

Hedge funds are typically open-ended, in that the fund will periodically issue additional partnership interests or shares directly to new investors, the price of each being the net asset value (“NAV”) per interest/share. An open-end(ed fund is a collective investment which can issue and redeem shares at any time For partnership in cricket terminology see List of cricket terms A partnership is a type of Business entity in which partners In financial markets, a share is a Unit of account for various financial instruments including Stocks Mutual funds Limited partnerships See Investor AB for the Swedish investment company An investor is any party that makes an Investment. Net Asset Value (NAV is a term used to describe the value of an entity's assets less the value of its liabilities To realize the investment, the investor will redeem the interests or shares at the NAV per interest/share prevailing at that time. Realization is generally understood in financial circles as the point at which revenue is recognized typically through a transaction which involves the exchange of an asset product or Investment or investing is a term with several closely-related meanings in Business management, Finance and Economics, related to saving Therefore, if the value of the underlying investments has increased (and the NAV per interest/share has therefore also increased) then the investor will receive a larger sum on redemption than it paid on investment. Redemption value is the price at which the issuing company may choose to repurchase a security before its maturity date Investors do not typically trade shares among themselves and hedge funds do not typically distribute profits to investors before redemption. In Finance, a trader is someone who buys and sells Financial instruments such as stocks, bonds and derivatives. Dividends are payments made by a Corporation to its Shareholder members This contrasts with a closed-ended fund, which has a limited number of shares which are traded among investors, and which distributes its profits. A closed-end fund, or closed-ended fund is a Collective investment scheme with a limited number of shares.

Listed funds

Corporate hedge funds often list their shares on smaller stock exchanges, such as the Irish Stock Exchange, in the hope that the low level of quasi-regulatory oversight will give comfort to investors and to attract certain funds, such as some pension funds, that have bars or caps on investing in unlisted shares. In corporate finance a listing refers to the company's Shares being on the list (or board of Stocks that are officially traded on a Stock exchange. In financial markets, a share is a Unit of account for various financial instruments including Stocks Mutual funds Limited partnerships A stock exchange, share market or bourse is a Corporation or Mutual organization which provides "trading" facilities for Stock The Irish Stock Exchange ( ISE) (Stocmhalartán na hÉireann is Ireland 's Stock exchange, formed through the merger of the Cork and Dublin exchanges both This article is for the legal term For regulation of genes see Regulation of gene expression. A pension fund is a pool of assets forming an independent legal entity that are bought with the contributions to a Pension plan for the exclusive purpose of financing pension Investment or investing is a term with several closely-related meanings in Business management, Finance and Economics, related to saving Shares in the listed hedge fund are not traded on the exchange, but the fund’s monthly net asset value and certain other events must be publicly announced there. A stock trader or a stock investor is an Individual or firm who buys and sells Stocks or bonds (and possibly other Net Asset Value (NAV is a term used to describe the value of an entity's assets less the value of its liabilities

A fund listing is distinct from the listing or initial public offering (“IPO”) of shares in an investment manager. Initial public offering (IPO, also referred to simply as a "public offering" is when a company issues Common stock or shares to the public for the first Although widely reported as a "hedge-fund IPO",^[12] the IPO of Fortress Investment Group LLC was for the sale of the investment manager, not of the hedge funds that it managed. Fortress Investment Group ( is a New York NY-based asset management firm which manages Private equity, Hedge funds and Real estate and railroad ^[13]

Hedge fund management worldwide

In contrast to the funds themselves, hedge fund managers are primarily located onshore in order to draw on larger pools of financial talent. Onshore is a term used in Finance to denote the Jurisdiction in which a company is domiciled and in which it pays a significant rate of tax The US East coast – principally New York City and the Gold Coast area of Connecticut (particularly Stamford and Greenwich) – is the world's leading location for hedge fund managers with approximately double the hedge fund managers of the next largest centre, London. The East Coast of the United States, also known as the "Eastern Seaboard" or "Atlantic Seaboard" refers to the easternmost coastal states in the central and northern The City of New York Gold Coast is a region of the state of Connecticut, United States that roughly corresponds to the labor market area of the city of Stamford. Connecticut ( is a state located in the New England region of the northeastern United States of America. Stamford is a city in Fairfield County, Connecticut, United States. Greenwich is a town in Fairfield County, Connecticut, United States. London ( ˈlʌndən is the capital and largest urban area in the United Kingdom. With the bulk of hedge fund investment coming from the US, this distribution is natural. Investment or investing is a term with several closely-related meanings in Business management, Finance and Economics, related to saving The United States of America —commonly referred to as the

London is Europe’s leading centre for the management of hedge funds. At the end of 2006, three-quarters of European hedge fund investments, totaling $400bn (£200bn), were managed from London, having grown from $61bn in 2002. Year 2006 ( MMVI) was a Common year starting on Sunday of the Gregorian calendar. See also 2002 (disambiguation Year 2002 ( MMII) was a Common year starting on Tuesday of the Gregorian calendar. Australia was the most important centre for the management of Asia-Pacific hedge funds, with managers located there accounting for approximately a quarter of the $140bn of hedge fund assets managed in the Asia-Pacific region in 2006. For a topic outline on this subject see List of basic Australia topics. Asia-Pacific or APAC is the area generally regarded as encompassing Littoral East Asia, Southeast Asia and Australasia near the ^[14]

Regulatory Issues

Part of what gives hedge funds their competitive edge, and their cachet in the public imagination, is that they straddle multiple definitions and categories; some aspects of their dealings are well-regulated, others are unregulated or at best quasi-regulated.

US regulation

The typical public investment company in the United States is required to be registered with the U.S. Securities and Exchange Commission (SEC). The US Securities and Exchange Commission (commonly known as the SEC) is an independent agency of the United States government which holds primary responsibility Mutual funds are the most common type of registered investment companies. Aside from registration and reporting requirements, investment companies are subject to strict limitations on short-selling and the use of leverage. There are other limitations and restrictions placed on public investment company managers, including the prohibition on charging incentive or performance fees.

Although hedge funds fall within the statutory definition of an investment company, the limited-access, private nature of hedge funds permits them to operate pursuant to exemptions from the registration requirements. The two major exemptions are set forth in Sections 3(c)1 and 3(c)7 of the Investment Company Act of 1940. The Investment Company Act of 1940 is an Act of Congress. It was passed as a United States Public Law and is codified at through. Those exemptions are for funds with 100 or fewer investors (a "3(c) 1 Fund") and funds where the investors are "qualified purchasers" (a "3(c) 7 Fund"). ^[15] A qualified purchaser is an individual with over US$5,000,000 in investment assets. (Some institutional investors also qualify as accredited investors or qualified purchasers. ) ^[16] A 3(c)1 Fund cannot have more than 100 investors, while a 3(c)7 Fund can have an unlimited number of investors. Both types of funds can charge performance or incentive fees.

In order to comply with 3(c)(1) or 3(c)(7), hedge funds are sold via private placement under the Securities Act of 1933. Congress enacted the Securities Act of 1933 (the "1933 Act" the "Truth in Securities Act" or the "Federal Securities Act", enacted 1933-05-27 Thus interests in a hedge fund cannot be offered or advertised to the general public, and are normally offered under Regulation D. Although it is possible to have non-accredited investors in a hedge fund, the exemptions under the Investment Company Act, combined with the restrictions contained in Regulation D, effectively require hedge funds to be offered solely to accredited investors. ^[17]. An accredited investor is an individual person with a minimum net worth of US $1,000,000 or, alternatively, a minimum income of US$200,000 in each of the last two years and a reasonable expectation of reaching the same income level in the current year. For banks and corporate entities, the minimum net worth is $5,000,000 in invested assets. ^[18]

The regulatory landscape for Investment Advisors is changing, and there have been attempts to register hedge fund investment managers. There are numerous issues surrounding these proposed requirements. One issue of importance to hedge fund managers is the requirement that a client who is charged an incentive fee must be a "qualified client" under Advisers Act Rule 205-3. The Investment Advisers Act of 1940, codified at through, is a United States federal law that was created to regulate the actions of investment advisers (also spelled To be a qualified client, an individual must have US$750,000 in assets invested with the adviser or a net worth in excess of US$1. 5 million, or be one of certain high-level employees of the investment adviser. ^[19]

For the funds, the tradeoff of operating under these exemptions is that they have fewer investors to sell to, but they have few government-imposed restrictions on their investment strategies. The presumption is that hedge funds are pursuing more risky strategies, which may or may not be true depending on the fund, and that the ability to invest in these funds should be restricted to wealthier investors who are presumed to be more sophisticated and who have the financial reserves to absorb a possible loss.

In December 2004, the SEC issued a rule change that required most hedge fund advisers to register with the SEC by February 1, 2006, as investment advisers under the Investment Advisers Act. "MMIV" redirects here For the Modest Mouse album see " Baron von Bullshit Rides Again " Events 1327 - Teenaged Edward III is crowned King of England, but the country is ruled by his mother Queen Year 2006 ( MMVI) was a Common year starting on Sunday of the Gregorian calendar. ^[20] The requirement, with minor exceptions, applied to firms managing in excess of US$25,000,000 with over 15 investors. The SEC stated that it was adopting a "risk-based approach" to monitoring hedge funds as part of its evolving regulatory regimen for the burgeoning industry. ^[21] The rule change was challenged in court by a hedge fund manager, and in June 2006, the U. S. Court of Appeals for the District of Columbia overturned it and sent it back to the agency to be reviewed. See Goldstein v. SEC.

Although the SEC is currently examining how it can address the Goldstein decision, commentators have stated that the SEC currently has neither the staff nor expertise to comprehensively monitor the estimated 8,000 U. S. and international hedge funds. See New Hedge Fund Advisor Rule. One of the Commissioners, Roel Campos, has said that the SEC is forming internal teams that will identify and evaluate irregular trading patterns or other phenomena that may threaten individual investors, the stability of the industry, or the financial world. "It's pretty clear that we will not be knocking on [hedge fund] doors very often," Campos told several hundred hedge fund managers, industry lawyers and others. And even if it did, "the SEC will never have the degree of knowledge or background that you do. "

In February 2007, the President's Working Group on Financial Markets rejected further regulation of hedge funds and said that the industry should instead follow voluntary guidelines. ^[22][23][24]

Comparison to private equity funds

Hedge funds are similar to private equity funds in many respects. In Finance, private equity is an Asset class consisting of equity Securities in operating companies that are not Publicly traded on Both are lightly regulated, private pools of capital that invest in securities and compensate their managers with a share of the fund's profits. Most hedge funds invest in relatively liquid assets, and permit investors to enter or leave the fund, perhaps requiring some months notice. Market liquidity is a Business, Economics or Investment term that refers to an Asset 's ability to be easily converted through an act of buying Private equity funds invest primarily in very illiquid assets such as early-stage companies and so investors are "locked in" for the entire term of the fund. Hedge funds often invest in private equity companies' acquisition funds.

Between 2004 and February 2006 some hedge funds adopted 25 month lock-up rules expressly to exempt themselves from the SEC's new registration requirements and cause them to fall under the registration exemption that had been intended to exempt private equity funds.

Comparison to U. S. mutual funds

Like hedge funds, mutual funds are pools of investment capital (i. A mutual fund is a professionally managed type of collective investments that pools money from many investors and Invests it in Stocks bonds, e. , money people want to invest). However, there are many differences between the two, including:

• Mutual funds are regulated by the SEC, while hedge funds are not
• A hedge fund investor must be an accredited investor with certain exceptions (employees, etc. Accredited investor is a term defined by various securities laws that delineates investors permitted to invest in certain types of higher risk Investments Limited partnerships )
• Mutual funds must price and be liquid on a daily basis

Some hedge funds that are based offshore report their prices to the Financial Times, but for most there is no method of ascertaining pricing on a regular basis. Additionally, mutual funds must have a prospectus available to anyone that requests one (either electronically or via US postal mail), and must disclose their asset allocation quarterly, while hedge funds do not have to abide by these terms.

Hedge funds also ordinarily do not have daily liquidity, but rather "lock up" periods of time where the total returns are generated (net of fees) for their investors and then returned when the term ends, through a passthrough requiring CPAs and US Tax W-forms. Hedge fund investors tolerate these policies because hedge funds are expected to generate higher total returns for their investors versus mutual funds.

Recently, however, the mutual fund industry has created products with features that have traditionally only been found in hedge funds.

Mutual funds have appeared which utilize some of the trading strategies noted above. Grizzly Short Fund (GRZZX), for example, is always net short, while Arbitrage Fund (ARBFX) specializes in merger arbitrage. Risk Arbitrage, or merger arbitrage, is an Investment or trading strategy often associated with Hedge funds Two principal types of merger Such funds are SEC regulated, but they offer hedge fund strategies and protection for mutual fund investors.

Also, a few mutual funds have introduced performance-based fees, where the compensation to the manager is based on the performance of the fund. However, under Section 205(b) of the Investment Advisers Act of 1940, such compensation is limited to so-called "fulcrum fees". The Investment Advisers Act of 1940, codified at through, is a United States federal law that was created to regulate the actions of investment advisers (also spelled ^[25] Under these arrangements, fees can be performance-based so long as they increase and decrease symmetrically.

For example, the TFS Capital Small Cap Fund (TFSSX) has a management fee that behaves, within limits and symmetrically, similarly to a hedge fund "0 and 50" fee: A 0% management fee coupled with a 50% performance fee if the fund outperforms its benchmark index. However, the 125 bp base fee is reduced (but not below zero) by 50% of underperformance and increased (but not to more than 250 bp) by 50% of outperformance. ^[26]

Offshore regulation

Many offshore centers are keen to encourage the establishment of hedge funds. An offshore financial centre (or OFC) although not precisely defined is usually a low- Tax, lightly Regulated jurisdiction which specializes in providing To do this they offer some combination of professional services, a favorable tax environment, and business-friendly regulation. Major centers include Cayman Islands, Dublin, Luxembourg, British Virgin Islands and Bermuda. The Cayman Islands are a British overseas territory located in the western Caribbean Sea, comprising the islands of Grand Cayman, Cayman Brac Dublin (ˈdʌblɨn/ /ˈdʊblɨn or /ˈdʊbəlɪn/, bˠalʲə aːha klʲiəh or cliə(ɸ is both the largest city and capital of Ireland. Luxembourg (Groussherzogtum Lëtzebuerg Grand-Duché de Luxembourg Großherzogtum Luxemburg is a small Landlocked country in Western Europe, bordered by The British Virgin Islands ( BVI) is a British overseas territory, located in the Caribbean to the east of Puerto Rico. Ba (officially The Bermuda Islands or The Somers Isles) is a British overseas territory in the North Atlantic Ocean. The Cayman Islands have been estimated to be home to about 75% of world’s hedge funds, with nearly half the industry's estimated $1. 225 trillion AUM. Assets Under Management (AUM is a term used by Financial services companies in the Mutual fund and money management Investment management, Wealth ^[27]

Hedge funds have to file accounts and conduct their business in compliance with the requirements of these offshore centres. Typical rules concern restrictions on the availability of funds to retail investors (Dublin), protection of client confidentiality (Luxembourg) and the requirement for the fund to be independent of the fund manager.

Many offshore hedge funds, such as the Soros funds, are structured as mutual funds rather than as limited partnerships.

Hedge Fund Indices

There are a number of indices that track the hedge fund industry. These indices come in two types, Investable and Non-investable, both with substantial problems. There are also new types of tracking product launched by Goldman Sachs and Merrill Lynch, "clone indices" that aim to replicate the returns of hedge fund indices without actually holding hedge funds at all. The Goldman Sachs Group Inc, or simply Goldman Sachs ( is a large global Bank holding company that engages in Investment banking securities Merrill Lynch & Co Inc () is a global financial services firm

Investable indices are created from funds that can be bought and sold, and only Hedge Funds that agree to accept investments on terms acceptable to the constructor of the index are included. Investability is an attractive property for an index because it makes the index more relevant to the choices available to investors in practice, and is taken for granted in traditional equity indices such as the S&P500 or FTSE100. However, such indices do not represent the total universe of hedge funds and may under-represent the more successful managers, who may not find the index terms attractive. Fund indexes include Eurekahedge Indices,BarclayHedge, Hedge Fund Research, Credit Suisse Tremont and FTSE Hedge.

The index provider selects funds and develops structured products or derivative instruments that deliver the performance of the index, making investable indices similar in some ways to fund of hedge funds portfolios.

Non-investable benchmarks are indicative in nature, and aim to represent the performance of the universe of hedgefunds using some measure such as mean, median or weighted mean from a hedge fund database. There are diverse selection criteria and methods of construction, and no single database captures all funds. This leads to significant differences in reported performance between different databases.

Non-investable indices inherit the databases' shortcomings, or strengths, in terms of scope and quality of data. Funds’ participation in a database is voluntary, leading to “self-selection bias” because those funds that choose to report may not be typical of funds as a whole. Self-selection is a term used to indicate any situation in which individuals select themselves into a group. For example, some do not report because of poor results or because they have already reached their target size and do not wish to raise further money. This tends to lead to a clustering of returns around the mean rather than representing the full diversity existing in the hedge fund universe. Examples of non-investable indices include an equal weighted benchmark series known as the HFN Averages, and a revolutionary rules based set known as the Lehman Brothers/HFN Global Index Series which leverages an Enhanced Strategy Classification System.

The short lifetimes of many hedge funds means that there are many new entrants and many departures each year, which raises the problem of “survivorship bias”. If we examine only funds that have survived to the present, we will overestimate past returns because many of the worst-performing funds have not survived, and the observed association between fund youth and fund performance suggests that this bias may be substantial. As the HFR and CISDM databases began in 1994, it is likely that they will be more accurate over the period 1994/2000 than the Credit Suisse database, which only began in 2000.

When a fund is added to a database for the first time, all or part of its historical data is recorded ex-post in the database. It is likely that funds only publish their results when they are favorable, so that the average performances displayed by the funds during their incubation period are inflated. This is known as "instant history bias” or “backfill bias”.

In traditional equity investment, indices play a central and unambiguous role. They are widely accepted as representative, and products such as futures and ETFs provide liquid access to them in most developed markets. However, among hedge funds no index combines these characteristics. Investable indices achieve liquidity at the expense of representativeness. Non-investable indices are representative, but their quoted returns may not be available in practice. Neither is wholly satisfactory.

Debates and controversies

Systemic risk

Hedge funds came under heightened scrutiny as a result of the failure of Long-Term Capital Management (LTCM) in 1998, which necessitated a bailout coordinated by the U. Long-Term Capital Management ( LTCM) was a US Hedge fund which failed spectacularly in the late 1990s leading to a massive bailout by other major banks S. Federal Reserve. Critics have charged that hedge funds pose systemic risks highlighted by the LTCM disaster. The excessive leverage (through derivatives) that can be used by hedge funds to achieve their return^[28] is outlined as one of the main factors of the hedge funds' contribution to systemic risk. In Finance, leverage (or gearing) is using given resources in such a way that the potential positive or negative outcome is magnified and/or enhanced Derivatives are Financial instruments whose values depend on the value of other underlying financial instruments In Finance, Systemic Risk is that risk which is common to an entire market and not to any individual entity or component thereof

The ECB (European Central Bank) has issued a warning on hedge fund risk for financial stability and systemic risk: ". The European Central Bank (ECB is one of the world's most important Central banks responsible for Monetary policy covering the 15 member countries of the . .  the increasingly similar positioning of individual hedge funds within broad hedge fund investment strategies is another major risk for financial stability which warrants close monitoring despite the essential lack of any possible remedies. This risk is further magnified by evidence that broad hedge fund investment strategies have also become increasingly correlated, thereby further increasing the potential adverse effects of disorderly exits from crowded trades. "^[29]

The Times wrote about this review: "In one of the starkest warnings yet from an official institution over the role of the burgeoning but secretive industry, the ECB sounded a note of alarm over the possible repercussions from any collapse of a hedge fund, or group of funds. The Times is a daily national Newspaper published in the United Kingdom since 1785 when it was known as The Daily Universal Register. The European Central Bank (ECB is one of the world's most important Central banks responsible for Monetary policy covering the 15 member countries of the "^[30]

However, the ECB statement itself has been criticized by a part of the financial research community. These arguments are developed by the EDHEC Risk and Asset Management Research Centre:[2]. The main conclusions of the study are that “the ECB article’s conclusion of a risk of “disorderly exits from crowded trades” is based on mere speculation. While the question of systemic risk is of importance, we do not dispose of enough data to reliably address this question at this stage”, “ it would be worthwhile for financial regulators to work towards obtaining data on hedge fund leverage and counterparty credit risk. A counterparty (sometimes contraparty) is a legal and financial term Such data would allow a reliable assessment of the question of systemic risk”, and “besides evaluating potential systemic risk, it should be recognized that hedge funds play an important role as “providers of liquidity and diversification”.

The potential for systemic risk was highlighted by the near-collapse of two Bear Stearns hedge funds in June 2007. The Bear Stearns Companies Inc, based in New York City, was one of the largest global Investment banks and securities trading and brokerage ^[31] The funds invested in mortgage-backed securities. The funds' financial problems necessitated an infusion of cash into one of the funds from Bear Stearns but no outside assistance. It was the largest fund bailout since Long Term Capital Management's collapse in 1998. The U. S. Securities and Exchange commission is investigating. ^[32]

Transparency

As private, lightly regulated partnerships, hedge funds do not have to disclose their activities to third parties. This is in contrast to a fully regulated mutual fund (or unit trust) which will typically have to meet regulatory requirements for disclosure. A mutual fund is a professionally managed type of collective investments that pools money from many investors and Invests it in Stocks bonds, An investor in a hedge fund usually has direct access to the investment advisor of the fund, and may enjoy more personalized reporting than investors in retail investment funds. This may include detailed discussions of risks assumed and significant positions. However, this high level of disclosure is not available to non-investors, contributing to hedge funds' reputation for secrecy. Several hedge funds are completely "black box", meaning that their returns are uncertain to the investor.

Restrictions on marketing and the lack of regulation means that there are no official hedge fund statistics. An industry consulting group, HFR (hfr. com), reported at the end of the second quarter 2003 that there are 5,660 hedge funds world wide managing $665 billion. For comparison, at the same time the US mutual fund sector held assets of $7. 818 trillion (according to the Investment Company Institute).

Some hedge funds, mainly American, do not use third parties either as the custodian of their assets or as their administrator (who will calculate the NAV of the fund). In Finance, a custodian bank, or simply custodian, refers to a Financial institution responsible for safeguarding a firm's or individual's financial assets Net Asset Value (NAV is a term used to describe the value of an entity's assets less the value of its liabilities This can lead to conflicts of interest, and in extreme cases can assist fraud. In a recent example, Kirk Wright of International Management Associates has been accused of mail fraud and other securities violations ^[33] which allegedly defrauded clients of close to $180 million. ^[34]

Market capacity

Analysis of the rather disappointing hedge fund performance in 2004 and 2005 called into question the alternative investment industry's value proposition. Alpha may have been becoming rarer for two related reasons. Alpha is a Risk -adjusted measure of the so-called active return on an Investment. First, the increase in traded volume may have been reducing the market anomalies that are a source of hedge fund performance. Second, the remuneration model is attracting more and more managers, which may dilute the talent available in the industry.

However, the market capacity effect has been questioned by the EDHEC Risk and Asset Management Research Centre through a decomposition of hedge fund returns between pure alpha, dynamic betas, and static betas. ^[35]

While pure alpha is generated by exploiting market opportunities, the dynamic betas depend on the manager’s skill in adapting the exposures to different factors, and these authors claim that these two sources of return do not exhibit any erosion. This suggests that the market environment (static betas) explains a large part of the poor performance of hedge funds in 2004 and 2005.

Investigations of illegal conduct

In the U. S. , the SEC is focusing more resources on investigating violations and illegal conduct on the part of hedge funds in the public securities markets. The US Securities and Exchange Commission (commonly known as the SEC) is an independent agency of the United States government which holds primary responsibility ^[36][37] Linda C. Thomsen, enforcement director of the SEC, said in November 2007 that federal regulators were concerned about illegal trading and the potential for harm to hedge fund investors. Linda Chatman Thomsen is the Director of the Division of Enforcement for the U She said, “These days, the money is in hedge funds, so the potential for abuse, the potential for securities law violations, is there because there is so much money there. ” Outside firms offering services to the hedge funds such as Prime Brokerage may be held accountable for failing to report illegal conduct on account of their client hedge funds. Prime brokerage is the generic name for a bundled package of services offered by Investment banks and securities firms to Hedge funds and other professional investors ^[38]

Performance measurement

The issue of performance measurement in the hedge fund industry has led to literature that is both abundant and controversial. Traditional indicators (Sharpe, Treynor, Jensen) work best when returns follow a symmetrical distribution. In that case, risk is represented by the standard deviation. Unfortunately, hedge fund returns are not normally distributed, and hedge fund return series are autocorrelated. Autocorrelation is a mathematical tool for finding repeating patterns such as the presence of a periodic signal which has been buried under noise or identifying the Missing fundamental Consequently, traditional performance measures suffer from theoretical problems when they are applied to hedge funds, making them even less reliable than is suggested by the shortness of the available return series.

Innovative performance measures have been introduced in an attempt to deal with this problem: Modified Sharpe ratio by Gregoriou and Gueyie (2003), Omega by Keating and Shadwick (2002), Alternative Investments Risk Adjusted Performance (AIRAP) by Sharma (2004), and Kappa by Kaplan and Knowles (2004). An overview of these performance measures is available in Géhin, W. , 2006, The Challenge of Hedge Fund Performance Measurement: a Toolbox rather than a Pandora’s Box, EDHEC Risk and Asset Management Research Center, Position Paper, December. However, there is no consensus on the most appropriate absolute performance measure, and traditional performance measures are still widely used in the industry.

Relationships with analysts

In June 2006. the U.S. Senate Judiciary Committee began an investigation into the links between hedge funds and independent analysts, and other issues related to the funds. The United States Senate is the Upper house of the bicameral United States Congress, the Lower house being the House of Representatives The United States Senate Committee on the Judiciary (informally Senate Judiciary Committee) is a Standing committee of the United States Senate, the Connecticut Attorney General Richard Blumenthal testified that an appeals court ruling striking down oversight of the funds by federal regulators left investors "in a regulatory void, without any disclosure or accountability. "^[39] The hearings heard testimony from, among others, Gary Aguirre, a staff attorney who was recently fired by the SEC. ^[40][41]

Hedge fund data

Top performing funds

The top 50 performing hedge funds, based on average annual return over the previous three years, were ranked by Barron's Online^[42] in October 2007 (Hedge Fund 50). The top 10 are as follows:

1. RAB Special Situations Fund (RAB Capital, London) - 47. London ( ˈlʌndən is the capital and largest urban area in the United Kingdom. 69%
2. The Children's Investment Fund (The Children's Investment Fund Management, London) - 44. London ( ˈlʌndən is the capital and largest urban area in the United Kingdom. 27%
3. Highland CDO Opportunity Fund (Highland Capital Management, Dallas) - 43. 98%
4. BTR Global Opportunity Fund, Class D (Salida Capital, Toronto) - 43. Toronto (təˈrɒntoʊ colloquially pronounced or) is the largest city in Canada and is the provincial capital of Ontario 42%
5. SR Phoenicia Fund (Sloane Robinson, London) - 43. London ( ˈlʌndən is the capital and largest urban area in the United Kingdom. 10%
6. Atticus European Fund (Atticus Management, New York) - 40. New York ( is a state in the Mid-Atlantic and Northeastern regions of the United States and is the nation's third most populous 76%
7. Gradient European Fund A (Gradient Capital Partners, London) - 39. London ( ˈlʌndən is the capital and largest urban area in the United Kingdom. 18%
8. Polar Capital Paragon Absolute Return Fund (Polar Capital Partners, London) - 38. London ( ˈlʌndən is the capital and largest urban area in the United Kingdom. 00%
9. Paulson Enhanced Partners Fund (Paulson & Co. , New York) - 37. New York ( is a state in the Mid-Atlantic and Northeastern regions of the United States and is the nation's third most populous 97%
10. Firebird Global Fund (Firebird Management, New York) - 37. New York ( is a state in the Mid-Atlantic and Northeastern regions of the United States and is the nation's third most populous 18%

Because of the unavailability of reliable figures, the top 50 list excludes funds such as Renaissance Technologies' Renaissance Medallion Fund and ESL Investments' ESL Partners (each thought to have returned an average of over 35% in the previous 3 years) and funds by SAC Capital and Appaloosa Management, which might otherwise have made the list. Renaissance Technologies is a Hedge fund management company Renaissance was started by James Simons in 1982 Edward S "Eddie" Lampert (born July 27 1962) is an American Investor, Financier and Businessman. SAC Capital Advisors (SAC Capital Partners SAC Capital Management is a $16 billion dollar group of multi-strategy multi-discipline Hedge funds founded by Steven A

The list also excludes funds with a net asset value of less than $250 million. The returns are net of fees.

Highest-earning hedge fund managers

A manager's earnings from a hedge fund are his share of the performance fee plus 100% of the capital gains on his own equity stake in the fund. Exact figures are not made publicly available, meaning that all reported figures are estimations, but several publications publish annual lists of top earning hedge fund managers.

Trader Monthly's list of top 10 earners among hedge fund manager in 2007 was:^[43]

1. John Paulson, Paulson & Co. Trader Monthly is a lifestyle magazine for financial traders founded by Magnus Greaves, edited by Randall Lane and chaired by Jim Dunning under the company Doubledown Media John Alfred Paulson (born December 14, 1955) is an American Hedge fund manager based in New York City. - $3 billion+
2. Philip Falcone, Harbinger Capital Partners - $1. 5-$2 billion
3. Jim Simons, Renaissance Technologies - $1 billion
4. Steven A. Cohen, SAC Capital Advisors - $1 billion
5. Ken Griffin, Citadel Investment Group - $1–$1. James Harris "Jim" Simons (b 1938 is an American Mathematician, Academic, trader, and Philanthropist. Renaissance Technologies is a Hedge fund management company Renaissance was started by James Simons in 1982 Steven A Cohen (born Circa 1956 is an American billionaire Hedge fund manager and the founder and manager of SAC Capital Partners, a Stamford Connecticut SAC Capital Advisors (SAC Capital Partners SAC Capital Management is a $16 billion dollar group of multi-strategy multi-discipline Hedge funds founded by Steven A Kenneth C Griffin (born 1968 in Daytona Beach, Florida) is an American Hedge fund manager Citadel Investment Group is a Hedge fund management firm based in Chicago, Illinois, founded by billionaire trader Kenneth C 5 billion
6. Chris Hohn, The Children's Investment Fund - $800–$900 million
7. Noam Gottesman, GLG Partners - $700–$800 million
8. Alan Howard, Brevan Howard Asset Management - $700–$800 million
9. Pierre Lagrange, GLG Partners - $700–$800 million
10. Paul Tudor Jones, Tudor Investment Corp. Noam Gottesman is an Israeli-American Businessman living in the United Kingdom. Alan MacKenzie Howard, CBE, (born 5 August 1937 is an English Actor known for his roles on stage television and film Paul Tudor Jones II (born September 28 1954 Memphis Tennessee) is a well-known Commodity trader - $600–$700 million

Trader Monthly's top 3 in 2006 were:

1. John D. Arnold, Centaurus Energy - $1. Trader Monthly is a lifestyle magazine for financial traders founded by Magnus Greaves, edited by Randall Lane and chaired by Jim Dunning under the company Doubledown Media John D Arnold runs Centaurus Energy Advisors LLC, a Houston Texas based Hedge fund that specializes in trading energy products 5-$2 billion
2. Jim Simons, Renaissance Technologies - $1. James Harris "Jim" Simons (b 1938 is an American Mathematician, Academic, trader, and Philanthropist. Renaissance Technologies is a Hedge fund management company Renaissance was started by James Simons in 1982 5-$2 billion
3. Eddie Lampert, ESL Investments - $1-$1. Edward S "Eddie" Lampert (born July 27 1962) is an American Investor, Financier and Businessman. Edward S "Eddie" Lampert (born July 27 1962) is an American Investor, Financier and Businessman. 5 billion

Trader Monthly's top 3 in 2005 were:^[44]

1. T. Boone Pickens, BP Capital Management - $1. Trader Monthly is a lifestyle magazine for financial traders founded by Magnus Greaves, edited by Randall Lane and chaired by Jim Dunning under the company Doubledown Media 5 billion+
2. Steven A. Cohen, SAC Capital Advisers - $1 billion+
3. Jim Simons, Renaissance Technologies - $900 million-$1 billion

In comparison, Institutional Investor's list of top 3 earners among hedge fund manager in 2007 was:^[45]

1. John Paulson, Paulson & Co. Steven A Cohen (born Circa 1956 is an American billionaire Hedge fund manager and the founder and manager of SAC Capital Partners, a Stamford Connecticut SAC Capital Advisors (SAC Capital Partners SAC Capital Management is a $16 billion dollar group of multi-strategy multi-discipline Hedge funds founded by Steven A James Harris "Jim" Simons (b 1938 is an American Mathematician, Academic, trader, and Philanthropist. Renaissance Technologies is a Hedge fund management company Renaissance was started by James Simons in 1982 Institutional investors are organizations which pool large sums of money and invest those sums in companies John Alfred Paulson (born December 14, 1955) is an American Hedge fund manager based in New York City. - $3. 7 billion
2. George Soros, Soros Fund Management - $2. George Soros (ˈsɔroʊs or /ˈsɔrəs/ Hungarian ˈʃoroʃ (born August 12, 1930, in Budapest, Hungary, as György Schwartz) is Soros Fund Management LLC, founded by George Soros, is a privately held Corporation providing financial services and investment strategies for various funds including 9 billion
3. Jim Simons, Renaissance Technologies - $2. James Harris "Jim" Simons (b 1938 is an American Mathematician, Academic, trader, and Philanthropist. Renaissance Technologies is a Hedge fund management company Renaissance was started by James Simons in 1982 8 billion

Institutional Investor's 2005 top earner was Jim Simons with $1. Institutional investors are organizations which pool large sums of money and invest those sums in companies James Harris "Jim" Simons (b 1938 is an American Mathematician, Academic, trader, and Philanthropist. 6 billion,^[46] and their 2004 top earner was Edward Lampert of ESL Investments, who earned $1. Edward S "Eddie" Lampert (born July 27 1962) is an American Investor, Financier and Businessman. Edward S "Eddie" Lampert (born July 27 1962) is an American Investor, Financier and Businessman. 02 billion during the year. ^[47]

Notable hedge fund management companies

Sometimes also known as alternative investment management companies. Alternative investment management companies are the structural (i

• Amaranth Advisors
• Bridgewater Associates
• Centaurus Energy
• Citadel Investment Group
• D. E. Shaw & Co.
• Fortress Investment Group
• Goldman Sachs Asset Management
• Harbert Management Corporation
• Long Term Capital Management
• Man Group
• Marshall Wace
• Pirate Capital LLC
• Renaissance Technologies
• SAC Capital Advisors
• Soros Fund Management
• The Children's Investment Fund

Terminology

• Commodity pool
• Derivatives market
• Investment fund
• Venture capital

See also

• 130-30 funds
• Securities lending (See definition of "hedge loan" (HedgeLoan) which is often confused with "hedge fund loan" in section titled Term as Used in Private Stock-collateralized Lending
• Mutual funds
• Mutual-fund scandal (2003)
• Finance
• Financial markets
• Financial regulation
• Global assets under management
• Securities
• Taxation of private equity and hedge funds

References

External links

• Center for International Securities and Derivatives Markets at the University of Massachusetts Amherst is a research center specializing in hedge fund research
• Hedge Fund Research Initiative of the International Center for Finance at the Yale School of Management

The University of Massachusetts Amherst (otherwise known as UMass Amherst, Massachusetts, or UMass) is a research and Land-grant university in About the School The School conducts education and research in Leadership, Economics, Operations management,

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