I'll try to make it easy, but they are complex by their very nature.
Put simply, a hedge fund takes money from (usually) very wealthy people and tries to make a LOT more profit in 12 months than the Stock Market would have done. It is HIGH RISK for HIGH RETURN - but the risks are very, very carefully assessed.
For that reason, ordinary unit trusts and pension funds are not allowed by law to invest their assets in hedge funds.
How they invest and in what they invest is too complex to explain, really. They do things like 'arbitrage' which is where you look for a situation where a commodity is selling for £x in one place and £x+1 in another and exploit that advantage. The currency markets are a popular area of profit for those who understand what moves the prices of currencies.
They utilise 'leverage' - this is where you can buy shares for just 10% deposit. If you buy £50,000,000 of shares and they go up in value to £55,000,000 in a week (not unusual) then you sell them and take a £5,000,000 profit from an outlay of £5,000,000 deposit. That equals 100% profit on capital employed. Had you paid the full £50 million, you would have made a profit of £5 million but it would only be 10% of capital employed.
Still with me? It's not that bad really, is it? HUGE profits can be made, but HUGE losses can also be made if the market goes the wrong way.
Hedge funds are huge (but carefully calculated) risk for massive rewards.
I've been following the financial pages for 40+ years.
· 1 decade ago