What Does A Hedge Fund Manager Do?

Before discussing what hedge fund managers do, it is important to understand the definition of a hedge fund.

What Is a Hedge Fund?

A hedge fund is similar to a mutual fund, but with a few important differences. The first difference is that mutual funds are regulated by the Securities and Exchange Commission (SEC). Hedge funds are considered private investment vehicles and are not regulated by the SEC or any other government oversight committee. The second main difference between hedge funds and mutual funds is any investor can invest in mutual funds. On the other hand, hedge fund investments are reserved for companies and individuals with significant means. In other words, hedge funds are exclusively designed for wealthy individuals and businesses.

Hedge funds can invest in a much wider range of securities and investments than mutual funds because of the lack of regulation. Though hedge funds can invest in traditional investments, such as bonds, real estate, stocks and other securities, these funds can also invest in riskier and more sophisticated investments. Most hedge funds utilize long and short positions.

Long and Short Positioning

Hedge funds will use borrowed money to purchase stocks. This is known as long positioning. However, hedge funds will also sell stocks purchased with borrowed money, and then by them back when the price of the stock has decreased. This is known as “shorting” the stock. The term “hedge fund” comes from the way these funds hedge their investments by leveraging borrowed money to produce a yield whether a stock rises or falls in value. Hedge funds aspire to make money regardless of whether the underlying securities rise or fall. (Source: Forbes)

Derivatives

A great deal of controversy surrounds the trading and manipulation of derivatives in today’s market. If anything will influence the US Congress and the citizenry to demand regulation for hedge funds, it is the derivative market. Options and futures are considered derivatives. In laymen’s terms, derivatives enable hedge funds to trade stocks and other securities they do not actually own. Many financial experts attribute the 2008 stock market crisis in the US to the unregulated trading of derivatives, mainly by hedge funds.

The Hedge Fund Manager

Hedge fund managers manage one or more hedge fund accounts for wealthy investors. There are no hard and fast qualifications required for an individual to become the manager of a hedge fund, other than intuition and a thorough understanding of the industry within which he or she trades. Though many managers hail from Ivy League schools, just as many do not. Hedge fund managers are, however, to hold the same licenses and certifications required by state and federal laws for stock traders.

Income Potential

A manager of a mutual fund receives an expense ratio when the securities managed by the fund increase in value. This ratio is usually a set percentage. Hedge fund managers, on the other hand, receive a performance fee in addition to the expense ratio. The most common breakdown of hedge fund managers’ profits are what is known as “Two and Twenty.” This means that the owner of the investment pays the hedge fund manager a two percent management fee plus 20 percent of any gains. Clearly, a talented hedge fund manager has the potential of making a great deal of money working in this field. (Source: The NewYorker)