For the first time in a decade, Hedge funds win and top Equities. Every Super Bowl has stars and a winner. The winning superstars get bonuses and Rings of Glory.
Hedge funds and equities, play the financial game. This game doesn’t have quite as many spectators. And the big win may not receive quite so much glory and acclaim. But the competition is tough and the rewards may be sometimes be stated in millions of dollars.
Hedge Funds Has Claimed the First Win over Equities
Hedge Managers: Great Job, Terrible Risks.
The first victory over equities was claimed by Hedge Funds for the first time in ten years. A. P. Accounting and Tax Services wants you to know this year is the first time since 2008 that the $3.2 billion Hedge fund industry is a winner.
Hedge Funds – What are they?
You may be new to the scene of investing. Or you may be an experienced player. Either way, you may or may not be knowledgeable of hedge funds.
Experts tell us that hedge fund “pools the money of contributing investors.” And then, they attempt to “achieve above-market returns,” on their investments. They may use a very wide selection of target investments. Also, they use a variety of investment strategies.
A sample strategy will give us an idea of how hedge funds work. One of those strategies involves investing borrowed funds in what is believed to be a fail-safe venture.
In one particular scenario, the hedge fund sells a stock or commodity when they anticipate the price will drop. When the price does drop, they buy it back on the open market at a lower price. Thus they have won in terms of dollars. And then, the funds are returned to the investor.
Of course, this can quite a risky proposition for several reasons. Among others, the market may not behave as anticipated.
Looking Back to 2008 and Earlier Hedge Fund History
2008 was a real financial crisis. It was a year that made financial history.
Mortgage, housing, and banking industries buckled and faced total failure.
Looking even further back to the 1970’s, Fannie Mae and Freddie Mac created “mortgage-backed securities.” Freddie and Fannie bought loans from the bank. This era allowed more people to become homeowners.
Glass-Steagall Act Repealed in 1999
In 1999, Congress repealed the Glass-Steagall Act. As a result, banks could now own hedge funds. And they were free to create new types of “derivatives.”
One of the investments that occurred was called a Tranche. It is really a slice of many loans. Groups of loans were packaged and sold in slices to investors. Many of these loans were what is called “adjustable rate mortgages.”
One investor might buy a group of these relatively safe loans at a low rate. In the first three years of these loans, they were considered safe. They were considered safe because the mortgage rates were very low. Very few homeowners would likely default during this time.
Still another investor might prefer the higher risk mortgages that promised a higher return rate. And of course, there was more of a chance of a default by the homeowners.
The Big Fall
Risk Assessment and High Return
The big incentive for this type of loan was the fact that the value of property had always increased. That was a safe assumption until 2006 when values suddenly plummeted.
Mortgage-backed securities had become very specialized and complicated. Computer programs were written to assist banks in determining the value of the new securities (or tranches.)
Experts tell us that “When housing prices plummeted, no one knew the value of the tranches. It meant no one could price the mortgage-backed security.”
In the time that followed “sub-prime mortgages were bundled up and resold as part of a high-interest tranche. Investors who wanted more return snapped them up. In the drive to make a high profit, they didn’t realize there was a good chance the loan wouldn’t be repaid.”
Surprise. Times Have Changed
Today, we see quite a different picture in our recovering economy.
The hedge fund industry “is beating the S&P 500 index. We know this “thanks to industry tracker HFR and as reported by CNBC.”
Reasons for the Recent Victory By Hedge Funds
This type of fund is up about 0.4 percent this year through April. Ironically, the S&P 500, declined about 0.4 percent. Those basic statistics make it the “first time the $3.2 trillion industry has beaten stocks since the financial crisis.”
To put it briefly, there are multiple reasons for the upsurge.
1. One factor is that energy prices have risen.
2. Secondly, the market has been increasingly volatile.
3. And thirdly, bond markets have registered some success. Thus, these factors combined to set the stage for this type of Funds to perform.
Hedge Funds and Equities
In the final analysis, the equities and the Hedge Funds were very close so that the margin was narrow. Still, it is Victory.
Hedge Funds Are the Champions of the Year—So Far
Given this level of excitement, A. P. Accounting and Tax Services predict it is going to be an interesting summer. And we’ll keep you posted.
Investing In Hedge Funds
Some larger investors sink money into hedge funds due to their promises of higher returns than found on the market. Historically, actual fund returns do not necessarily achieve better than the average market rate of return. That’s where strategy comes in. Investors use Hedge fund investment strategies like these.
Lively Leverage… They might utilize a considerable quantity of leverage. This means the investment of “borrowed funds to achieve outsized returns on a relatively small capital base.”
The Risky Business of Short Sales… Hedge funds might borrow shares and turn around and sell them. They expect or hope the price of a security will drop. Then they can nab the securities on the open market and “return the borrowed securities.” As you might imagine, this is a very risky strategy. On the one hand, the share price increase might net a profit. On the other hand, the share price increase could introduce unlimited, cringe-worthy losses.
Derivatives… Wealthy investors can make investments in many derivatives. They can make money “based on a vast number of possible underlying indices or other measures.”
Strategies and a Probability of Loss
Be aware that the substantial use of leverage, has a greater probability of loss than more traditional investments.
Add to that risk, the requirement that, in a hedge fund, the rules do not permit you to withdraw your money for at least a year. Now you have a formula that is not really for a faint-hearted investor.
This rule is based on the fact that it is very difficult to liquidate an investment in order to provide cash to an investor. Hedge fund managers are also allowed to use longer-term investment strategies.
Securities and Exchange Commission (SEC)
The SEC only allows large institutions and accredited investors (with large net worth) to invest in hedge funds. A minimum investment might require as much as one million dollars.
Likewise, “Hedge fund managers are compensated with a percentage of the total assets in the investment pool. And this will include a percentage of all profits generated.
For example, a fund manager could take 2% of all capital under management, as well as 20% of all profits earned.”
The Hedge Fund Name
Hedge Funds: 2018, A Winning Year.
“Hedge fund.” To the novice, it sounds like it’s a fund that might lessen risk. However, that is not the case. “This term comes from the early days when funds attempted to reduce the risk of
securities price declines in a bear market by shorting securities.” Nowadays, the pursuit of outsized returns is the primary goal. And that cannot usually be achieved “while risk is also being hedged.”
Finally, the success of this year’s Hedge fund “Super Stars” cannot be denied.
Thank you for reading the Blog at A. P. Accounting and Tax Services. And we hope you enjoyed learning the big news about hedge funds.
