If you want to earn high market returns without risking everything, you can invest in a wide variety of assets that trade in different instruments across different markets. These may include non-securities, securities, derivatives, and more.
The more you diversify your assets or “hedge your bets”, the better. This is where hedge funds come into the picture. You must have come across this term while reading about mutual funds. However, hedge funds are not the same as mutual funds.
While both these types of funds pool money from diverse investors, primarily high-net-worth individuals, banks, insurance companies, pension funds, commercial firms, and other such institutions invest in hedge funds. Why? The minimum investment stake in a hedge fund is Rs. 1 crore.
Also, hedge funds are not regulated by SEBI the same way as mutual funds are. These funds don’t have to disclose their Net Asset Value or NAV or be registered with this regulatory body.
Want to know more about hedge funds? Keep reading.
What are Hedge Funds, and How Do They Work?
Hedge funds are unregistered pooled funds that invest and trade across domestic and international markets by investing in different instruments. There is a rather long list of equity, debt and derivatives that hedge funds typically invest in. These may include bonds, real estate, convertible securities, equities, currencies, and many others.
These funds employ different trading techniques due to the various asset classes they invest in. For instance, when a hedge fund invests in derivatives like futures and options, it can either buy and sell them directly from the company selling them or trade them in the stock market.
Given the relatively free hand with which hedge funds operate, both in terms of investing and freedom from regulation, investing in them automatically awards you healthy diversification.
Different Types of Hedge Funds
Broadly there are three types of hedge funds.
1. Fund of Funds
If you’re a mutual fund investor, you must have come across this term. While a fund of funds is not precisely a hedge fund, it invests in other hedge funds. But, only after considering the hedge fund’s returns rather than the returns of each underlying security within those funds.
A fund of funds doesn’t have a high minimum investment ask of Rs. 1 crore, like pure hedge funds. Often small investors who can’t stomach high risks find this fund a good bet.
2. Offshore Hedge Funds
As the name suggests, offshore hedge funds invest only in multinational companies or other organizations and industries overseas. These funds often emerge in low taxation countries and are pretty popular with high-net-worth NRIs.
3. Domestic Hedge Funds
These hedge funds are only open to investors who reside in a particular country and, more importantly, pay taxes in the same country. For instance, no international parties can invest in domestic hedge funds in India.
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