Typically, a hedge fund is an investment vehicle that pools the capital of many participants. Private investment pools generate significant returns by investing in nontraditional assets. The classification in India is Alternative Investment Funds (AIF). There are funds that invest in, to mention a few, private equity, currency, venture capital, options, futures, and real estate. To qualify as a hedge fund, the fund must have a minimum capital of INR 20 crore and each investor must contribute at least INR 1 crore.
India’s Securities and Exchange Board introduced hedge funds in 2012. SEBI (Alternative Investment Funds) Regulations authorised its launch. In India, it is classified as Category III AIF. These funds are now in their infancy stage and lack regulation.
Benefits of Hedge Fund
- High net-worth investors
Only accredited or qualified investors are permitted to invest in hedge funds. Banks, high-net-worth individuals (HNIs), insurance companies, endowments, and pension funds are typical examples of these investors. One crore rupees is the minimum investment required by hedge funds.
- Diverse portfolio
Frequently, hedge funds construct a diversified portfolio of investments that includes currencies, derivatives, stocks, real estate, shares, bonds, and even cryptocurrencies. You got it correctly; they typically include all asset types capable of hedging other return-generating portfolio components.
- Higher fees
These funds profit from both the expense ratio and the management fee. Two/Twenty is the global standard, which entails a 2% fixed management fee and a 20% profit-based fee. The management fee for hedge fund companies in India might fall between 1% and 2%. And profit-sharing might range from 10 to 15 per cent, with the exception of the top funds in India.
- Higher risks
The investment practices of hedge funds might result in enormous losses. Lock-in periods are often long for investments. Credits utilised by these funds can result in substantial investment losses.
In India, hedge fund firms are not required to register with the securities markets regulator (SEBI). In addition, they have no other routine reporting requirements, such as the regular disclosure of Net Asset Value.
How Does A Hedge Fund Work?
Returns from hedge funds demonstrate the fund manager’s capacity to generate large returns in the present market environment. A hedge fund manager is crucial to generating returns. These are an alternative to conventional investments, therefore investors choose them to diversify their portfolios.
Frequently, the fund approach employs multiple managers to oversee the investments. Before choosing an asset to invest in, these managers conduct extensive research and provide investors with individualised assistance. Managers occasionally employ a variety of tactics to generate profitable returns. Here are some common tactics they employ.
- Global Macro Strategy: The fund managers employ economic variables, assess their impact on the markets, and build investment strategies accordingly. This method is predicated on future fluctuations rather than current prices. They employ numerous quantitative methodologies to determine the investment’s holding period, long-short positions, or short sales.
- Event-Driven: Hedge fund managers base their investments on occurrences such as mergers and acquisitions, shareholder buybacks, financial difficulties, tenders, and debt exchanges. To invest in stock or credit positions, they utilise basic analysis.
- Relative Value: Portfolio managers make investments based on arbitrage possibilities in equities, fixed income, and derivatives. They employ basic and quantitative analysis to determine what type of security to invest in, when to invest, and for how long to invest.
- Equity: The managers of the portfolio invest in equity securities. They take long or short bets or short sell the underlying security or derivatives of the securities in order to capitalise on cheap valuations or capture corporate events.
- Multi-Strategy Fund: Multiple basic and quantitative strategies are utilised by hedge fund managers to make investing decisions. They may focus on a certain sector for equity holdings but may go long or short in other sectors to capitalise on a bull or bear market. By employing numerous strategies within a single fund, the manager of a hedge fund can maximise returns while minimising risks.
Hedge Fund Types
- Domestic hedge funds: Investors subject to the taxation of the home nation have access to domestic hedge funds.
- Offshore hedge funds: Hedge funds that form outside of a country’s borders, most likely in a low-tax nation, are referred to as offshore hedge funds.
- Fund of funds: This term refers to mutual funds that invest in other hedge funds as opposed to the underlying security.
- Are Hedge Funds a Safe investment?
Hedge funds are fundamentally riskier investments than other alternatives since they frequently wager on ventures seeking enormous short-term returns. These wagers can even be made with borrowed funds from brokers, banks, or other financial entities. However, these wagers can result in losses. These hazardous techniques generate returns for hedge funds regardless of market conditions.
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