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What is a hedge fund?

Getting maximum returns from investments is what many people want and dream of.  Investing in a hedge fund is therefore an attractive option to many High-net-worth individuals (HNIs), who are not happy with the middling returns provided by traditional investment options and mutual funds. With hedge funds becoming increasingly attractive to investors who have money to spare, we look at what you need to know about such a fund. We also look at the risks that you should be aware of before you park your money in a hedge fund, and how the benefits derived from a hedge fund often outweigh its negative points and bring in higher ROI.

What differentiates a hedge fund from a mutual fund?

A hedge fund is composed of a select number of investors while a mutual fund draws on the investments made by many. Another key difference of a hedge fund is that investors that use them are high-net-worth individuals who have money to spare, and each is often required to make a minimum investment of several million dollars. While mutual funds usually attract those who have a limited income and are part of the salaried class.

The risks of investing in a hedge fund

Much like mutual funds, most hedge funds also invest in stocks, bonds and real estate which are part of “traditional” investment areas and expose investors to low risk. Additionally, hedge fund managers are famous for trying out advanced techniques when investing and therefore, investors often have to deal with outcomes from risky investments. Investors in hedge funds deal with a variety of risks that are related to performance, investing strategies which are utilized, and also fraud risk which resulted in the collapse of the Madoff Fund. Finally fund managers are tolerant of risky decisions and so investors in a hedge fund stand to lose everything if the fund goes under.

Benefits of investing in a hedge fund

The higher risks that hedge fund investors have to take on, have not dented their popularly. In fact as hedge funds aim to outperform the trajectory of the market and often are able to do so, they are becoming increasingly attractive investment options for millionaires who have money to spare. So whether the market is in a downturn or on the upswing, the number of hedge funds in operation has increased over the years.

Another benefit of a hedge fund is that the manger of the fund has to be one of the biggest investors in it, and this brings an element of safety when they make decisions and also keeps them focused on improving profits.

Hedge funds are focused on protecting profits and investments and therefore they can use “short selling” to take advantage of falling stock prices in future. Short selling and several other high risk investment strategies employed, allows for such funds to take advantage of prevalent market conditions faster.

The limited amount of regulation imposed on hedge funds, is another important benefit. It gives the manager freedom to make investment choices that generate the most profits.

With the rise of popular hedge funds and their managers often earning billions of dollars pear year, these funds do not appear to be slowing down. Additionally as hundreds of hedge crop up the amount of assets managed by them are also increasing substantially.