Comprehending Hedge Funds Investors looking into hedge fund administration are often drawn to a hedge fund because it can yield higher returns than a mutual fund or some other investment vehicle. Nonetheless, it is important to understand the nature of a hedge fund before becoming involved. Even for investors who do not qualify for a hedge fund can benefit from an awareness in order to know how their pension funds work. To start you will want to understand the difference between a speculator and an investor. An investor contributes his funds to support a specific company. The corporation takes investment funds and purchases assets for growth. Once the investor picks the business he does so believing that good use will be made of the money he invests. He is gambling that the company will expand and that his investment will grow with it. A speculator only looks to the profit on his investment. His involvement is not necessarily for the support of the continued growth of the chosen company. Actually, rather than purchase stock, he may sell short on a company he believes is distressed. In other words, sometimes he bets that a business will lose. A moral person may decide that being an investor is a lot more responsible to society and general financial growth. However, as far as his investment is concerned, if the company does crash, so will his return. If he hedges his investment by acquiring stocks in many companies, say all in the technology market, and the technology market takes a general downward spiral, then he will lose again. If he diversifies his portfolio even more and a recession strikes, he loses once more. If the economy drops or even just a business or market segment, the only way to pull out of it is to employ a short sale approach. At this point, he is a speculator. A mutual fund is an investment monetary fund. A group of investors buy shares in a fund, and a fund manager grows the fund using a buy and hold technique of a set of stocks. On the speculation fund aspect you have what is known as a hedge fund. You will often find such institutions as pension funds plus the very wealth purchasing shares as part of a hedge fund. A well-managed hedge fund will grow no matter what the state of the economy and generate higher than average returns. There are far more risks connected with hedge funds. This is a good reason that the ability to participate in a hedge fund is restricted to high-dollar investors who presumably are aware of the risk. Leverage is the second most important thing you need to understand about hedge funds. When you purchase stocks or any other instruments for less cash than the value, this is leverage. For example, your brokerage firm might allow you to purchase $10,000 of a company's stock for a deposit of only $5,000. This is usually a 2:1 leverage. What this implies for the hedge fund is that if the stock can increase by 100% you will receive a 200% return on your investment. Conversely, if the value of the stock decreases by half, you receive a margin call, you have the possibility to lose your entire investment and the stocks could be resold. If the company does happen to go under, this provision would keep you from owing $5,000. That was just an illustration, the hedge fund manager can be running greater risks with much higher leverages. This is how he recognizes an increased return. As a participant in a hedge fund, you would be getting a higher return at the cost of the higher risk. For that reason, selecting the proper hedge fund management for your funds is vital.
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Altiplano Financial Services