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Q&A: the hedge fund

By HELEN HUNTLEY
Published May 28, 2005

What is a hedge fund?

An unregistered, privately managed pool of investor money, somewhat like a mutual fund but without a lot of the rules and regulations that apply to mutual funds. They generally are aggressive, high-risk investment vehicles.

What kind of investments do hedge funds make?

That's up to the managers. Possibilities include stocks, bonds, options, private equity, loans, currencies and commodities. Some hedge funds specialize in certain sectors or special situations, such as pending mergers.

What's risky about them?

Many hedge funds borrow a lot of the money they invest, which amplifies gains and losses, and some pursue risky strategies, such as investing in bankrupt companies. Some are more conservative.

What kind of returns do they have?

That's not easy for an individual investor to find out. Some hedge funds do spectacularly well; the failures just go out of existence. Standard & Poor's tracks an index comprised of 41 hedge funds, which was up when stocks were down from 2000 to 2002, but underperformed stocks in 2003 and 2004 when the market rose. Last year it was up 3.95 percent. Another index, the MSCI asset-weighted composite index of hedge fund returns, was up 7.3 percent last year.

Can I invest in one?

Yes, if you have an appetite for risk and plenty of money. Rock bottom is a net worth of at least $1-million or an annual income of $200,000 ($300,000 for a couple). Many hedge funds set very high minimum investments, such as $1-million, so a lot of hedge fund investors are companies or institutions, such as pension funds. However, some funds take investments as small as $25,000.

How many hedge funds are there?

About 8,350, with assets of $875-billion, according to the Hedge Fund Association. Some other sources say assets have passed the $1-trillion mark.

Are hedge funds regulated?

Because they restrict who can invest, hedge funds are exempt from securities regulation. They don't need to report price and performance information or to disclose their holdings. The SEC is in the process of requiring hedge fund managers to register as investment advisers.

How are hedge fund managers paid?

Typical compensation is an annual management fee of 1 to 2 percent of the fund's assets plus 20 percent of the fund's profits each year.

Why are they called hedge funds?

Early funds used hedging strategies so they could make money whether the markets went up or down. Many still do that, but the field is so diversified the name is no longer descriptive.

[Last modified May 28, 2005, 00:08:13]