In a Crises Go For Smaller Hedge Funds – Understanding the Investment Strategy of Hedge Funds

Hedge Funds or alternative asset managers offer a wide range of investment solutions. The strategies put in place vary widely in terms of returns and risk which gives one a comprehensive idea on how to buy shares like Hedge funds London. Some of them have very little correlation with equity markets (Relative Value, for example), which are unpredictable and aim to offer performance whatever be the state of the market. These strategies, once integrated into a traditional equity / bond portfolio, help to reduce the unpredictability of the overall portfolio, through the correlation gains they bring.

Other strategies, on the other hand, are much more volatile than the equity markets (Global Macro for example). Their use of derivatives (options, futures, swaps, etc.), does short selling of a security that an investor does not yet possess, so that they can redeem it later at a lower price and collect the difference. A comprehensive understanding of these strategies will help one understand how to buy shares like hedge funds London.

The term “hedge” comes from the Hedge Funds’ vocation, which is to protect the capital of investors during a decline in market prices. This is achieved by covering the traditional market risks (equity, interest rates, credit, currency etc.) to which they are exposed or by exposure to alternative asset classes (commodities, real estate, private equity, etc.). A Hedge Fund is generally highly specialized on expertise / strategy. The Hedge Fund is a trillion dollar industry under management, and there are about 10,000 hedge funds active in the world. The Hedge Funds charge relatively high management fees and performance fees (traditionally 2% fixed plus 20% of performance against an index or target) in order to attract and retain the most performance. Indeed, only a minority of them outperform in time. Pension funds, institutional investors and high-wealth individuals are the main clients of these Hedge Funds London, although they are increasingly turning their attention to passive management (eg ETFs and Smart Beta).

Investment Strategy of Hedge Funds

Before we get into which type of hedge funds to invest in, let’s know a little about their strategies and how to buy shares

Hedge Funds London implementing arbitrage strategies with diminishing returns (if an undervalued asset is identified, the purchase transaction will potentially raise its price to its intrinsic value, limiting future earnings), are limited In terms of the capital they can accept to manage. The Hedge Funds have little regulations and transparent because the portfolio positions are rarely revealed, in order to be able to execute all the transactions deemed profitable, before other market participants intervene on these same underlying, or to limit the risk of ‘To be overtaken’ by a faster operator: “front-running” at the time of purchase or “liquidity squeeze” at the time of sale. As a result, measuring the risk of investing in a Hedge Fund is difficult to assess and Hedge Fund subscribers are often so-called “sophisticated” investors who are able to pay high entry fees. This high entry fee therefore makes diversification via investment in several Hedge Funds with different strategies difficult to access, although many Hedge Funds are themselves multi-strategies and allocate their capital differently depending on market conditions. Hedge funds are generally much less liquid than mutual funds. It usually takes 1 to 3 months to get a subscription in the fund and then 2 to 12 months to get a redemption of its units. The “Managed Account” strategies proposed by some major banks to their clients, replicate Hedge Fund strategies and offer better liquidity and transparency while requesting a lower entry ticket.

Long / Short Equity Strategies

A Long / Short Equity strategy is to take short or long purchase on an underlying stock. Long and short positions may be taken by buying or selling conventional shares, selling or short selling, or via derivatives on shares, indices or baskets of shares. This strategy can be implemented at the global level or focus on an industrial sector (Technology / Biotechnology, Energy / Materials, etc.), a geographical area, style (Value, Growth, Momentum, Quality …) Level of capitalization (small / medium / large capitalization). The pioneer of the hedge fund industry, the American sociologist and financial journalist Alfred Winslow, was one of the first to implement this type of strategy in the late 1940s. Another very prominent Hedge Fund named Solo Capital, led by Sanjay Shah, is known to be one of the best operators in this business and have adopted some of the most noteworthy strategies that have given high returns top their clients.

Short Bias

This strategy aims to identify companies overvalued by the market and take a short position on it. The strategy can prove to be successful if the companies concerned are disappointed in their incomes, face increasingly fierce competition, lose the key elements of their management, misrepresent their fundamentals via their balance sheets and profit and loss accounts Etc. By exposing the public for poor accounting practices, Short Bias managers contribute to the efficiency of the markets in terms of transparency of information. The magnitude of this exposure depends on the economic cycle but will generally remain negative. As most institutional investors have restrictions on taking short positions, market inefficiencies are not all eliminated and thus represent opportunities for profit. Not surprisingly, this strategy proves more profitable when the market is down. It also reduces the risk of portfolios through the inverted gain profile it offers.

Long Bias

Unlike Short Bias strategies, Long Bias strategies maintain positive exposure. Nevertheless, adjusted exposure may be negative. For example, it’s the purchase of defensive shares (in public utilities, for example) with low market sensitivity combined with the sale of cyclical shares (financial industry) with high market sensitivity. The stocks of companies with a large capitalization are the most sold short because they are more liquid and are easier to borrow.

Within Long Bias strategies, we can distinguish so-called Growth / Value strategies. Fundamental Growth strategies invest in companies with high potential for growth in their income from capital, profitability and market shares that are superior to those of their peers. These companies are identifiable thanks to their strong price / earnings ratio, their low dividends and their relatively low capitalization. These companies are over-represented in the technology and biotechnology sectors. Fundamental Value strategies concern companies that already have solid revenues and pay stable dividends but whose prices are lower than their valuation multiples (Price / Book, Price / Sales, Price / Cash Flow, etc.) may suggest.

In conclusion, investing in a Hedge Fund is not open to all types of investors. In order to sort out and put aside “incompetent” or insufficient investors, many Hedge Funds only accept “qualified” investors. In order to be considered a “qualified” investor, you will need to be an institution or an individual investor with a net wealth of at least $ 1 million or an annual salary of at least $ 200,000. You need to also consider how much risk you are willing to take in terms of a crisis.

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