Hedge funds and mutual funds have many similarities, but many differences exist as well. Know the benefits of each before making the decision to invest.
In 1949 Australian Alfred Jones was credited with the term "hedge fund". Historically it derives its name from the use of hedging to manage risk while achieving superior returns. Today, a hedge fund is an un-regulated investment vehicle designated for sophisticated, also known as the "Accredited Investor".
Mutual funds gained popularity in the 1980's. Prior to this time, the problem of the small investor was in obtaining sufficient knowledge to make informed investment decisions, and so the average person avoided stock market investing. Instead money was held in traditional savings accounts or placed with a bank in a Guaranteed Investment Certificate ("GIC") or Certificate of Deposit ("CD").
What to do. The small investor was not able to obtain a professional money manager without $10 million or more to start. But what if he could pool his money with other small investors to reach this minimum threshold. And so the mutual fund was created to address these exact concerns.
The mutual fund concept was simple, allow the un-sophisticated investor access to the strategies of the professional money manager. This was done by pooling small sums of money, as little as $20.00 deposited monthly. In return, the fund company would use professional money managers using professional investment strategies to easily out perform traditional bank savings products.
The mutual fund investor had other problems. Because they did not understand the nature of the investments made for them, government regulators got involved to protect investor rights. And so mutual fund investing became regulated and soon took on a life of its own. Rules were set in place to govern what could be held within a mutual fund and how the investment strategies were marketed to the public. Even what could be invested and what should be avoided.
While much evolution has transpired since the early days of the 80's. One thing is for certain, mutual fund investing is all about what it cannot do. While this article is not focused on these issues, there are some glaring examples the investor needs to know. In times of market un-certainty, the mutual fund cannot sell and move to cash for safety. The manager must remain fully invested at all times making the investor, in consultation with his Investment Advisor, responsible for proper asset allocation. The mutual fund also cannot employ risk management or hedging techniques because they are deemed too sophisticated for the small investor to understand. So to avoid investor complaints, these important strategies are discouraged by managers and outlawed by regulators.
In the end, all of the benefits started by the mutual fund industry to provide safety of capital have been regulated away from the interests of the small investor. In fact, these are the exact investors which need safety of capital most of all. Many market observers believe the industry has become over regulated and as such, do more harm than good.
To-date, the hedge fund industry has been able in all country jurisdictions to avoid nuisance government meddling. The recent wall street initiated financial melt down has proven that even a self regulated industry is not immune. It seems big company rights take precedence over investor rights. So some regulation may be forth coming. Historically, the hedge fund industry has been able to avoid regulation by offering its products only to the Accredited Investor. There is a strict agreed upon formula based on wealth accumulation. The premise being if you were smart enough to accumulate wealth, then you are smart enough to understand the sophisticated investments being recommended.
Typically hedge fund investors are in direct contrast to mutual fund investors and thus have different needs. The mutual fund investor has modest wealth and little investment knowledge. The hedge fund investor has significant wealth with greater investment understanding. Therefore one is regulated to protect the investor and the other is not.
The above description is not the only difference that separates the two. Hedge funds can employ a complex strategy of investment vehicles known only to the fund manager. Many hedge fund managers are protective of any proprietary trading formula which will provide an edge over their competition and disclosure of their trading style is not required.
Mutual funds are sold through an Investment Advisor who will make comparisons, explain and make recommendations for a balanced portfolio. Hedge fund investing can be more difficult. Firstly, there can be difficulty in locating a list of the availability of funds. There are however helpful data-bases for this. Then you must undertake your own due diligence to ascertain if it is the right asset mix for your overall portfolio.
Thirdly, you'll need to have an understanding of the different investment strategies. Do you choose a value fund or a growth fund. CTA funds are out performing these days and what about a suitable bond fund. Does my fund employ hedging and should I invest in an off-shore fund to obtain the tax benefits.
There are certainly many things to think about when selecting the proper investment vehicle. Make your selection with intelligence and proper planning. Ask around and be inquisitive. Your level of investment knowledge and the time needed to devote to this topic will dictate which is best for you.
Dwayne Strocen is a registered CTA, Portfolio Manager. He manages the Global Climate Fund, an environmentally friendly hedge fund focused on the reduction of greenhouse gases. Website: http://www.co2climatefund.com
View more information about hedge funds and Who We Are
Showing posts with label hedge fund. Show all posts
Showing posts with label hedge fund. Show all posts
Monday, April 19, 2010
Sunday, November 22, 2009
Transparency In Hedge Fund Investing Is Critical
Due to some recent high profile fraud cases within the hedge fund industry, many investors are seeking greater transparency from their investment managers. While many managers protect their proprietary trading programs, there is one sure fire way to address this issue.
Fund redemptions are nothing new. Every recession or bear market sees investors redeeming their fund investments and moving to asset classes which provide a greater degree of safety. For most, this is the Government Treasury Bill also called the T-Bill.
While reasons for redemptions are as varied as the investment selections themselves, it seems that individual investors are uncertain of their understanding of what their money has been invested in. While mutual funds are marketed to the investor with a lower knowledge of investment products, the hedge fund has always been the investment choice for more knowledgeable investors or the "Accredited Investor". But now it seems even this group is calling for the need of greater understanding from their investment managers.
The battle for returns which out perform the index has resulted in many Portfolio Managers refusing to disclose their trading program for fear others will duplicate their trading style. It is said by many managers that it's this ability to observe unique characteristics in the market place that differentiates their funds performance from the typical returns generated by bottom quartile performing funds and fund managers. Of course the unregulated hedge fund industry has perpetuated this myth by trusting the Accredited Investor with an above average knowledge of the market and his ability to select the correct investment for their portfolio. It seems the Accredited Investors does not always posses greater knowledge than their more un-sophisticated mutual fund brethren.
So that bears the question of how to obtain this transparency to the satisfaction of the investing public? And the answer is the Managed Account.
Managed Accounts are simply individual accounts opened in the name of the investor. These accounts are not pooled, yet they are identically structured and managed by the hedge fund Portfolio Manager in the same style as the pooled fund. The critical difference is the investors ability to see every trading transaction performed in the account by the fund manager.
The popularity of the pooled investment structure is that investors do not have to deposit large sums of money to utilize the services of a professional Portfolio Manager. Most successful professional Portfolio Managers do not accept accounts less than US$10 million dollars.
The hedge fund and mutual fund gained popularity by allowing smaller sums of money to be pooled with other deposits from many other investors. So while you can currently participate in a hedge fund investment for $100,000, and a mutual fund for $50., a managed account may require a minimum investment in excess of $1 million. Not so good for everybody.
But lets suppose you can convince your hedge fund manager to accept your $100,000 what advantage do you gain.
1. the investment account is actually in your name and not in the funds name;
2. your account is segregated from all other trading accounts;
3. instead of waiting for your monthly or quarterly statements, you can see the activity in your account on a daily basis in real time;
4. cash deposits or withdrawals can be simplified;
5. you have an overall increase of account transparency; and
6. you can no longer claim you did not know what was going on in your account. (oops, is that a benefit).
There are also some disadvantages. Or put another way, the pooled investment structure provides some distinct advantages which originally made them popular since the first hedge fund was created in 1949. These funds should not be confused with the investment account managed by your stock broker. The professional Portfolio Manager will continue to exercise complete trading autonomy and does not want your advice on how to manage the assets in your account.
Advantages for remaining in a hedge fund or mutual fund:
1. investors can obtain the services of a professional fund manager with smaller sums of money;
2. management costs are cheaper since it is more economical to manage one large account instead of many smaller accounts;
3. you pay one flat management fee, no commissions; and best of all
4. you still have someone to blame if things go wrong.
It is estimated that the hedge fund industry managed $2.7 trillion dollars by the end of 2008. The mutual fund industry manages $19 trillion investment dollars. So there is no question of the popularity of the industry since that first fund in 1949.
If transparency is an issue for you, you need to take a long, hard look and evaluate the pros and cons wisely. Take some time to speak with your fund manager about a managed account, it just might be the alternative you've been looking for.
Dwayne Strocen is a registered CTA and derivatives analyst assessing market risk for institutional investors. He also manages the Genuine USA Index Fund, which is focused on the indices of the USA. Website: http://www.genuineCTA.com
View more information about his managed account program and about trading greenhouse gases.
Fund redemptions are nothing new. Every recession or bear market sees investors redeeming their fund investments and moving to asset classes which provide a greater degree of safety. For most, this is the Government Treasury Bill also called the T-Bill.
While reasons for redemptions are as varied as the investment selections themselves, it seems that individual investors are uncertain of their understanding of what their money has been invested in. While mutual funds are marketed to the investor with a lower knowledge of investment products, the hedge fund has always been the investment choice for more knowledgeable investors or the "Accredited Investor". But now it seems even this group is calling for the need of greater understanding from their investment managers.
The battle for returns which out perform the index has resulted in many Portfolio Managers refusing to disclose their trading program for fear others will duplicate their trading style. It is said by many managers that it's this ability to observe unique characteristics in the market place that differentiates their funds performance from the typical returns generated by bottom quartile performing funds and fund managers. Of course the unregulated hedge fund industry has perpetuated this myth by trusting the Accredited Investor with an above average knowledge of the market and his ability to select the correct investment for their portfolio. It seems the Accredited Investors does not always posses greater knowledge than their more un-sophisticated mutual fund brethren.
So that bears the question of how to obtain this transparency to the satisfaction of the investing public? And the answer is the Managed Account.
Managed Accounts are simply individual accounts opened in the name of the investor. These accounts are not pooled, yet they are identically structured and managed by the hedge fund Portfolio Manager in the same style as the pooled fund. The critical difference is the investors ability to see every trading transaction performed in the account by the fund manager.
The popularity of the pooled investment structure is that investors do not have to deposit large sums of money to utilize the services of a professional Portfolio Manager. Most successful professional Portfolio Managers do not accept accounts less than US$10 million dollars.
The hedge fund and mutual fund gained popularity by allowing smaller sums of money to be pooled with other deposits from many other investors. So while you can currently participate in a hedge fund investment for $100,000, and a mutual fund for $50., a managed account may require a minimum investment in excess of $1 million. Not so good for everybody.
But lets suppose you can convince your hedge fund manager to accept your $100,000 what advantage do you gain.
1. the investment account is actually in your name and not in the funds name;
2. your account is segregated from all other trading accounts;
3. instead of waiting for your monthly or quarterly statements, you can see the activity in your account on a daily basis in real time;
4. cash deposits or withdrawals can be simplified;
5. you have an overall increase of account transparency; and
6. you can no longer claim you did not know what was going on in your account. (oops, is that a benefit).
There are also some disadvantages. Or put another way, the pooled investment structure provides some distinct advantages which originally made them popular since the first hedge fund was created in 1949. These funds should not be confused with the investment account managed by your stock broker. The professional Portfolio Manager will continue to exercise complete trading autonomy and does not want your advice on how to manage the assets in your account.
Advantages for remaining in a hedge fund or mutual fund:
1. investors can obtain the services of a professional fund manager with smaller sums of money;
2. management costs are cheaper since it is more economical to manage one large account instead of many smaller accounts;
3. you pay one flat management fee, no commissions; and best of all
4. you still have someone to blame if things go wrong.
It is estimated that the hedge fund industry managed $2.7 trillion dollars by the end of 2008. The mutual fund industry manages $19 trillion investment dollars. So there is no question of the popularity of the industry since that first fund in 1949.
If transparency is an issue for you, you need to take a long, hard look and evaluate the pros and cons wisely. Take some time to speak with your fund manager about a managed account, it just might be the alternative you've been looking for.
Dwayne Strocen is a registered CTA and derivatives analyst assessing market risk for institutional investors. He also manages the Genuine USA Index Fund, which is focused on the indices of the USA. Website: http://www.genuineCTA.com
View more information about his managed account program and about trading greenhouse gases.
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