For investors that have a significant amount of money and want to be able to invest in some form of alternative investments, they may look into hedge funds for that opportunity. Hedge funds are designed to make a profit even when the economic market is currently not doing so well, which is a financial strategy called hedging. While it sounds lucrative, hedge funds are difficult to understand and manage and there are several risks involved. An investor will have to know advanced accounting, investing principles and the financial market to be able to work in a hedge fund.
Hedge funds can certainly be very dynamic and offer a wide amount of opportunities for an investor to be able to make more money. It is a risk on its own to decide on a hedge fund that you want to invest in. The reason this is so is because hedge funds are privately owned. They do not have regulations that are set up by the Securities and Exchange Commission, mutual funds. Mutual funds are required to give annual reports and financial statements to the public, which is stated by the SEC, and potential investors look up this information in order to decide on whether or not they want to put money into the investment. If you are wanting to invest in a hedge fund, you can request to look at a hedge fund audit, which is the only document that they are required to turn in to the IRS. You may have to talk with fellow investors and trust your business relationships to decide the rest.
What is the purpose of the hedge fund? Essentially it’s to provide an honest and accurate professional opinion about the way the hedge fund is currently performing. A hedge fund auditor can then provide some recommendations on how to improve the way the hedge fund is working so investors can make better decisions in the future. Hedge fund managers benefit from these audits because it’s a way for them to understand their own job – they want to know if they are pleasing their investors and doing their job right. Hedge fund audits are performed by certified public accountants, who are looking for ways in which the hedge fund might be running into trouble with existing tax law. They also want to be looking for ways that investors are actually behaving in ways that benefit them and the other investors involved.
Because hedge funds are privately owned, managers are not allowed to market them to other investors. Everything is done like an exchange of hands or private property that you are selling straight to one other person. The investments are done essentially by word of mouth, and getting involved in a hedge fund has mainly to do with the social relationships that an investor has with other investors who may want to invite him in.
The point of a hedge fund is to make profit no matter how the economic market is going – going up or going down. This may sounds like it is impossible, but in actually it isn’t. You will have to make some risks and make decisions based on how you predict the market will go. It’s similar to betting, in which a good prediction will lead to profit. There are two ways to make investments in a hedge fund: long and short positions. Long positions are easy and they make more sense: you purchase stock with the hopes that the value will increase over time, because you think it is undervalued. The short positions are the play: stock is purchased and then sold on the hope that it is overvalued and the value will decrease over time so that it can be repurchased at a lower price later on. The investor will then use securities lending, and the hedge fund manager can invest the borrowed money to create a profit from the decreased value. It is certainly more complicated, but when the cards are played right, it can be more lucrative.
Obviously stated, if your predictions are incorrect, then you will have costs. But short positions do not take up the bulk of the investments in hedge funds, and the majority of the time, the market that is being invested in a hedge fund is around $100. Think of short positions as a way of being an insurance for long positions, in case something goes wrong. This shouldn’t be too much of a foreign concept for you – after all, you are hedging against damages and accident repairs on a new car purchase when you are buying car insurance. This is how short positions are considered to be.
When you are hedging against investment risk, which is inherent due to price fluctuations and changing values in the market, you make two investments. Of course, you hope that they both turn out to be profitable, but in case one does not, the other might be able to pull you back onto your feet.