What Is a Hedge Fund?

What Is a Hedge Fund?

By Charles Joseph | Editor, Financial Affairs
Reviewed by Corey Michael | Senior Financial Analyst

A hedge fund is an investment vehicle often regarded as a type of mutual fund or an investment partnership. Typically, it pools capital from accredited investors or institutional investors, and invests it in a variety of assets with an aim of generating high returns. The investment strategies are often aggressive, leveraging derivatives, short selling and other speculative strategies. This versatility distinguishes hedge funds from mutual funds. Additionally, hedge fund managers are remunerated based on their performance, which is usually a percentage of the fund’s profits.

Related Questions

1. What is an accredited investor?

An accredited investor refers to an individual or a business entity that is allowed to deal in securities not registered with financial authorities. They are recognized on the basis of their net worth, asset size, governance status or professional experience.

2. What is short selling in the context of hedge funds?

Want More Financial Tips?

Get Our Best Stuff First (for FREE)
We respect your privacy and you can unsubscribe anytime.

Short selling is an investment strategy used by hedge funds where the fund borrows a stock and sells it in anticipation that it will buy it back later for less money. The aim is to profiteer from the stock’s fall in price.

3. What are derivatives and how are they used in hedge funds?

Derivatives are contracts that derive their value from an underlying entity which can be an asset, index, or interest rate. Hedge funds often use derivatives for hedging, increasing leverage, or to gain access to otherwise hard-to-trade assets.

4. How are hedge fund managers remunerated?

Hedge fund managers generally earn a management fee and a performance fee. The management fee is typically between 1% and 2% of the asset under management, while the performance fee can reach up to 20% of the fund’s profits.

5. How do hedge funds differ from mutual funds?

The primary difference between a hedge fund and a mutual fund lies in their investment strategies. While mutual funds often aim for steady, long-term growth, hedge funds employ aggressive strategies aiming for high short-term returns. In terms of accessibility, mutual funds can usually be accessed by all levels of investors whereas hedge funds are often only accessible to accredited investors.