A lot has been written about Hedge Funds recently and the article below is not only an interesting read but attempts to warn investors about the risks and what can happen in the future should the fund lose money.
LearnMoney Comment: Hedge Funds are certainly a lucrative investment for a few of the top investors in the top funds but what about the rest of us? As small investors (assets of less than £1 million) it's highly likely that we'll all be put into funds run with the main intent of generating commissions and fees for the fund promoters. Of course if the fund makes money then that's a bonus for everyone involved but you just have to look at how the fees and commission are charged to see that Hedge Funds are yet another marketing trick by the big firms to subtly transfer wealth from client pockets into theirs.
Having said that in markets that move sharply lower Hedge Funds are most probably the vehicles to be positioned in because they pretty much have carte blanche to carry out any trading strategy including shorting.
The main point to note in the article below is that if a Hedge Fund loses say 25% of its capital it has to make back 25% before the managers can start to think about paying themselves their 20%-30% share of profits. For most people 25% cannot be made in a short period of time so it makes a lot of sense for the managers to close the fund and restart another one so wiping the slate clean.
For example the ABC Fund had £100 million under management but lost £25 million. The fund gets closed down and the money returned to investors. The ABC fund managers then raise another £100 million and promptly make £25 million for the fund over the next 9 months. The managers would then share in say 25% of the profit or £6.25m, but if they'd kept the original fund open their earnings would be zero as the profits would be used to get the fund back to near its original level.
These types of sleight of hand games are going on all the time and is one of the reasons why Hedge Fund companies usually offer a lot of different funds, one fund closing and another one opening doesn't appear on the radar screen when you're promoting 20+ different funds. Another hidden advantage to this type of manoeuvring is that losing funds because they are closed are taken out of the overall performance indexes so making their returns look all the more impressive. It's a little bit like having an index of 100 shares like the FTSE but quickly dropping those shares that go down and replacing them with shares that are going up. This means that the index itself will always show the best possible returns but at the same time is impossible to replicate unless of course you have a crystal ball and never invest in those shares that go down!
