A Unique Investment Strategy For Mutual Fund Investors

By: brain strom

Hedge funds are becoming very popular in the news with the guru’s clamoring for increased regulation and the chicken littles sounding the market crash alarm. Hedge funds are private investment organizations that uses a different strategies protecting wealth from risks of volatile markets. It uses an unconventional investments to makeup losses when the market turns sour. They generally have a very different investment policies as compared to any mutual fund. Hedge funds tend to be more philosophical as compared to mutual funds which may cite growth or income. Capital growth and capital preservation are indeed goals of hedge fund investors.

Hedge fund managers are given much control over funds investments. But when we speak of any mutual fund, prospectus usually outline maximum and minimum allocations for different asset classes forbidding managers from riskier strategies such as shorting. So in a hedge fund the investments are up to the sole discretion of the manager. One might also call Hedge funds as strategy allocation as they may use a number of investment strategies to limit the fund’s exposure to any given strategy. Hedge fund managers may sell a large percentage of the fund’s securities and hold cash or other hard assets including commodities futures. The hedge fund manager would usually decide if a stock is overvalued for one reason or the other. Short selling would include selling securities that one does not own in order to buy them back at a discount so anyone with a margin account can do this. Such trading requires a healthy amount of assets to cover up just in case the security actually rise in value.

When we speak of hedge funds, short selling is always accompanied by long positions. Such strategies purchase securities that they believe would rise in value and simultaneously short selling those that are believed will fall. Such funds would either be net short or net long, depending on what direction the manager sees the market going. Using a long-short method within an asset class, an equity market neutral strategy may be used that earns returns from stock-picking within an industry or market and hedges against volatility. This strategy hedges against market risks. Sometimes an equity market neutral funds may employ a similar strategy called as market neutral arbitrage which would mean to imbalance the pricing between securities. Such arbitrage seeks out imbalances in multiple securities from the same issuer. The strategy would hedge market risks by investing in opposing positions in different asset class of the same issuer thus limiting the market risk. So in such a case even if the company does poorly, the investment may do very well. Certain risk arbitrage would also focus on companies involved in a takeover or merger. This strategy provides relatively consistent returns regardless of the market conditions. So looking at any of the above strategies one can say that hedge funds are a smart way of investments.