Overview of Hedge Fund Investment Strategies

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The term “hedge fund” is an imprecise description of any type of pooled investment vehicle which utilizes an investment strategy (generally involving securities) to make money.  There are many different types of strategies which a hedge fund manger might use to make its returns, including the following:

In addition to these more “traditional” types of hedge fund strategies, there are different types of investment strategies which are forming all of the time including asset based lending hedge funds, life settlement hedge funds, among other types.  Sometimes lumped into the hedge fund category are Private Equity Funds and Venture Capital Funds which are pooled investment vehicles like hedge funds, but typically have different focuses and structures from hedge funds.

In the coming weeks we will detailing the main characteristics of the above strategies and what hedge fund managers running these strategies need to think about when crafting an investment program for their hedge fund.  Below I’ve also reprinted a summary of the different hedge fund strategies as stated in a hedge fund report issued by the Government Accountability Office earlier this year.  The report can be found here.

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Appendix III: Various Hedge Fund Investment Strategies Defined:

Hedge funds seek absolute rather than relative return–that is, look to make a positive return whether the overall (stock or bond) market is up or down–in a variety of market environments and use various investment styles and strategies, and invest in a wide variety of financial instruments, some of which follow:

Convertible arbitrage: Typically attempt to extract value by purchasing convertible securities while hedging the equity, credit, and interest rate exposures with short positions of the equity of the issuing firm and other appropriate fixed-income related derivatives.

Dedicated shorts: Specialize in short-selling securities that are perceived to be overpriced–typically equities.

Emerging market: Specialize in trading the securities of developing economies.

Equity market neutral: Typically trade long-short portfolios of equities with little directional exposure to the stock market.

Event driven: Specialize in trading corporate events, such as merger transactions or corporate restructuring.

Fixed income arbitrage: Typically trade long-short portfolios of bonds.

Macro: Take bets on directional movements in stocks, bonds, foreign exchange rates, and commodity prices.

Long/short equity: Typically exposed to a long-short portfolio of equities with a long bias.

Managed futures: Specialize in futures trading–typically employing trend following strategies.

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