A Hedge Fund is an investment firm. The operation of any Hedge Fund London is similar to that of mutual funds in which a “Fund Manager” invests large sums of money owned by investors. Unlike mutual funds, Hedge Funds are much less regulated in terms of restrictions. Indeed, they are free to use any style of investment they desire and can take positions when the stock is down using short-selling. Hedge funds, as compared to mutual funds, can also use significant leverage to maximize their return on investment. The risks to which they are exposed are therefore more diverse.
To Know How to Buy Shares like a Hedge Fund, Lets Know A Little about the Different Styles Hedge Funds Implement
There are thousands of Hedge Funds around the world and their number is expanding. The largest Hedge Funds require a minimum investment of nearly $1 million or more, while smaller structures accept a minimum investment of just under $50,000. Although, some Hedge Funds specialize in a particular sector such as technology or commodities, others may specialize in a single region, country or continent such as Asia or Europe, East etc.
Relative Value Arbitrage Strategies
Relative value strategies aim to exploit very low price differentials that the fund considers to be unjustified. To do this, Hedge Funds use leverage to amplify the potential for gain (and loss), which is to borrow cash to increase the effective size of the portfolio (initially consisting only of funds contributed by Investors). This leverage, facilitated by investment banks, exposes the managers to a significant counterparty risk. The underlying elements of this type of strategy are extremely broad and range from stocks to bonds, commodities, currencies, derivatives and so on. These strategies aim to generate stable performance with little volatility from the market. If you want stability while thinking how to buy shares, this strategy will help.
Equity Market Neutral
In the case of the Market Neutral strategy, the net equity exposure (long positions – short positions) is maintained around 0% (plus or minus 10%). The market risk factors (Beta), industrial sector risk, geographic zone risk and even style (Value, Growth, Momentum, Quality …) are generally neutralized by the use of multifactorial models (of Barra type especially). These multifactor models establish better relationships between the different assets of a portfolio. One of the main ideas is that with similar characteristics, the assets should have similar returns. This degree of similarity between assets is found at several levels (size of the company, sector, prices, volumes processed, profitability, dividend rate, leverage, balance sheet, etc.). The performance factors, specific or common, are weighted by their supposed importance. Specific risk factors are assumed to be decoupled among the assets within such a model, so the specific risk of each position is eliminated through diversification.
This strategy is closely linked to “peer trading”, which consists of taking a long position and a short position on two shares of similar and historically strongly correlated companies. One of the two actions is generally considered to be subject to a valuation anomaly not linked to the fundamentals, which results in overvaluation / undervaluation of one of the two shares in relation to the other. The market then aims to correct this inefficiency by converging the price of the two shares (the short-term price deviations are corrected via a return to the historical average), independently of global market movements. The valuation spread is generally detected by financial analysis, statistical analysis (via statistical arbitrage) or technical analysis. The return on the strategy stems from the price difference between the two shares and the dividend rate differential.
Fixed Income Arbitrage
This strategy exploits the anomalies associated with the movements and deformations of the yield curves by taking positions on different maturities of the yield curve. It is implemented through government securities, futures, options and interest rate swaps. These strategies rely heavily on quantitative models of rate curve modeling, in order to identify the anomalies and to follow the corrections of these anomalies. Interest rate risk is generally hedged.
If a bond with a maturity of 29 years has a higher rate than an obligation with a maturity of 28 years and greater than an obligation with a maturity of 30 years from the same issuer, three bonds have no nested optionality (put or call provision) or preferential treatment in terms of taxation. Then there is an opportunity for arbitration that can be implemented by taking a long position on the 29-year bond, while selling the 28 and 30 year bonds. This difference in rates potentially linked to a temporary pressure in terms of liquidity is destined to disappear over time allowing the manager to unwind its positions by making a profit.
The yield curve is generally upward (lending on a longer horizon implies greater risk and therefore a higher demand yield). Nevertheless, the yield curve also depends on supply and demand. If it is expected that a government will reduce its bond issues due to a surplus budget, demand for long-term issuance will increase, reducing long-term bond yields. As a result, long-term rates may be lower than short-term rates and the yield curve may be downward. It is in this type of downward slope curve configuration that the strategy of Fixed Income Arbitrage is the most used in the perspective that the curve of rate takes a rising slope. Knowing this strategy will give you an edge on how to buy shares.
Credit arbitrage strategies resemble Fixed Income Arbitrage strategies but are based on spread curves (the spread between a risky bond and a risk-free bond with the same maturity), rather than on yield curves. These spreads are calculated as a function of the probability of default evaluated over a given horizon. If the probability of default of an issuer of a bond at 29 years is higher (depending on the issuer’s repayment capacity) than at 28 years and 30 years, then there is potentially an opportunity for arbitration. The strategy is implemented through corporate bonds of various seniority levels (priority of repayment in case of default) and Credit Default Swaps (CDS). This strategy does not necessarily imply expectations about the credit quality of the issuer.
Treasury / Eurodollar arbitrage strategies exploit differences in default risk assessment between governments (Treasury: government bond rates) and banks (Eurodollar: bank refinancing rates) in the same country. These differences are generally very low since the refinancing rate of banks is indexed to the rates of government bonds and that the banks generally have the support of the states (too big to fail) but they increase very strongly during a crash (The Eurodollar rate increases more than the rate of government bonds for the same maturity).
If you want to know how to buy shares like Hedge funds London, following the strategy of some very good Hedge Fund companies can help a lot. Companies like Solo Capital has established itself as the pioneer of investment strategies.
To know more on how to buy shares like hedge funds London, visit hedgetoday.co.uk