Hedge Funds For Dummies (For Dummies (Business & Personal Finance))

Description

Hedge your stock market bets with funds that can deliver returns in down markets Hedge Funds For Dummies is your introduction to the popular investing strategy that can help you gain positive returns, no matter what direction the market takes. Hedge funds use pooled funds to focus on high-risk, high-return investments, often with a focus on shorting―so you can earn profit even when stocks fall. But there’s a whole lot more to it than that. This book teaches you about the diversity of hedge funds, their pros and cons, and their potentially lucrative role as a part of your portfolio. We also give you tips on finding a broker that is right for you and the investment you wish to make. Let Dummies be your investment advisor as you set up a strategy that will deliver results. Understand the ins and outs of hedge funds and how they fit in your portfolioChoose the funds that make the most sense for your unique situationBuild a hedge fund strategy based on tested techniques and the latest market dataAvoid common mistakes and identify solid funds to ensure success This Dummies guide is for traders and investors looking to learn more about hedge funds and how they can become lucrative investments in a down market. Title Page Copyright Page Table of Contents Introduction About This Book Conventions Used in This Book What You’re Not to Read Foolish Assumptions How This Book Is Organized Part 1: What Is a Hedge Fund, Anyway? Part 2: Looking at Alternative Investment Strategies Part 3: Determining Whether Alternative Investments Are Right For You Part 4: Special Considerations Regarding Hedge Funds Part 5: The Part of Tens Icons Used in This Book Beyond the Book Where to Go from Here A Final Note Part 1 What Is a Hedge Fund, Anyway? Chapter 1 Hedge Funds: Alternative Assets and Alternative Strategies Defining Hedge Funds Defining Alternative Strategies Absolute-return strategies Directional strategies Introducing Some Basic Concepts Alternative, to what? Generating alpha Hedging is at the heart of it Identifying hedge funds: The long explanation Little to no regulatory oversight Aggressive investment strategies Manager bonuses for performance Biased performance data Pledging the secret society: Getting hedge fund information Meeting the People in Your Hedge Fund Neighborhood Managers: Hedging for you Lawyers: Following the rules Consultants: Studying funds and advising investors Advising investors Monitoring performance Marketing fund managers Paying Fees in a Hedge Fund Managing management fees Shelling out your percentage of performance fees Chapter 2 Not Just a Sleeping Aid: Analyzing SEC Registration Looking at Securities Laws Reviewing Regulation D Accredited investors Financial criteria Professional criteria What’s in it for the funds? Having fun with 40 act funds Exchange-traded funds make alternative mainstream Traditional mutual funds take up alternative lifestyles Getting to Know the SEC’s Stance on Hedge Fund Regulation Realizing that “registered” doesn’t mean “approved” Addressing registration at the state level Going Coastal: Avoiding the Registration Debate through Offshore Funds Investing in a Fund without Registration Contracting the manager’s terms Covering yourself with due diligence Chapter 3 How to Buy into a Hedge Fund Using Consultants and Brokers Marketing to and for Hedge Fund Managers Investor, Come on Down: Pricing Funds Calculating net asset value Valuing illiquid securities Managing side pockets Purchasing Your Stake in the Fund Fulfilling paperwork requirements Working with brokers Reporting to the taxman Signing Your Name on the Bottom Line Drawing up the contract Addressing typical contract provisions Finding room for negotiation Chapter 4 Using Hedge-Fund Strategies without the Hedge Funds A Diversified Portfolio Is a Hedged Portfolio A slow-and-steady strategy works over the long run . . . . . . But some investors want to hit a home run NOW Reducing your diversification Diversification into riskier assets Exploring Your Expanding Asset Universe Rounding up the usual asset alternatives International stock Foreign currencies Commodities Other assets you may not have considered Your human capital Residential real estate Structuring a Hedge-Filled Portfolio Recognizing natural hedges Doing the math Matching cash flows Portfolio optimization Utilizing Margin and Leverage in Your Accounts Derivatives for leverage and hedging Options Futures Short-selling as a hedging and leverage strategy More leverage! Other sources of borrowed funds Hedge Fund Strategies in Mutual Funds and ETFs Bear funds Inverse Funds Leveraged Funds Long-short mutual funds Mutual fund of funds Chapter 5 Hedging through Research and Asset Selection First Things First: Examining Your Asset Options Sticking to basics: Traditional asset classes Taking stock in stocks Any bonds today? Surveying cash and equivalents Going for some flavor: Alternative assets Real estate Commodities Venture capital Derivatives Opting for an option play Warrants and convertible bonds Betting your future on futures Forward (not backward!) Swaps Custom products and private deals Mezzanine financing Payment-in-kind bonds Tranches Viaticals and Payments Kicking the Tires: Fundamental Research Top-down analysis A microeconomic approach A macroeconomic approach Secular versus cyclical trends Demographics Bottom-up analysis Focusing on finances: Accounting research Gnawing on the numbers: Quantitative research Reading the charts: Technical analysis How a Hedge Fund Puts Research Findings to Work The long story: Buying appreciating assets Buying low, selling high Trading for the short term Holding for the long term The short story: Selling depreciating assets Protecting long positions Investment shorts (unlike the shorts you can’t get rid of) Fraud shorts (nope, not Capri pants) Naked shorts (excuse the oxymoron) Part 2 Looking at Alternative Strategies Chapter 6 Calculating Investment Risk and Return Market Efficiency and You, the Hedge Fund Investor Why efficiency matters Perusing profitable inefficiencies Efficiency and the random walk Using the Modern (Markowitz) Portfolio Theory (MPT) So what’s risky? Reviewing risk types in the MPT Distributing risk Hunting long-tail risk Focusing on fat-tail risk Determining the market rate of return Beta: Ranking market return Doing the beta math Math’s great, but what does beta mean? A different approach with alternative beta Alpha: Return beyond standard deviation The Arbitrage Pricing Theory (APT): Expanding the MPT Discovering How Interest Rates Affect the Investment Climate Seeing what goes into an interest rate Compensation for the use of the money Risk of repayment Inflation Deflation Relating interest rates and hedge funds Witnessing the power of compound interest Investing Irrationally: Behavioral Finance Examining the principles of behavioral finance Using quick and easy rules: Heuristics Harnessing the power of presentation: Framing Battling inefficiency: Pricing anomalies Applying behavioral finance to hedge funds Chapter 7 Buying Low, Selling High: Using Arbitrage in Hedge Funds Putting Arbitrage to Good Use Understanding arbitrage and market efficiency Factoring transaction costs into arbitrage Pitting true arbitrage versus risk arbitrage Cracking Open the Arbitrageur’s Toolbox Drawing upon derivatives Using leverage Short-selling Synthetic securities Flipping through the Rolodex of Arbitrage Types Capital structure arbitrage Convertible arbitrage Fixed-income arbitrage Index arbitrage Liquidation arbitrage Merger arbitrage Option arbitrage Pairs trading Scalping Statistical arbitrage Warrant arbitrage Chapter 8 Short-Selling, Leveraging, and Other Equity Strategies Short-Selling versus Leveraging: A Brief Overview Strutting in the Equity Style Show Trying on a large cap Fitting for a small cap Investing according to growth and GARP Swooping in on lowly equities with value investing Keeping options open for special-style situations Market Neutrality: Taking the Market out of Hedge Fund Performance Being beta neutral Establishing dollar neutrality Staying sector neutral Rebalancing a Portfolio Long-Short Funds Making Market Calls Investing with event-driven bets Taking advantage of market timing Putting the Power of Leverage to Use Buying on margin Gaining return with other forms of borrowing Chapter 9 Observing How Hedge Funds Profit from the Corporate Life Cycle Examining the Corporate Structure (And How Hedge Funds Enter the Picture) Observing the relationship between owners and managers Pitting business skills versus investment skills Management decisions versus investment decisions Hedge funds as business managers From to Ventures to Vultures: Participating in Corporate Life Cycles Identifying venture capital and private equity as hedge fund investments Project finance: Are hedge funds replacing banks? Borrowing Lending Gaining return from company mergers and acquisitions Leveraged (management) buyouts Buyout funds Bridge lending Merger arbitrage Investing in troubled and dying companies with vulture funds Hostile takeovers Liquidation arbitrage Activist investing Proxy battles Chapter 10 Macro Funds: Looking for Global Trends Fathoming Macroeconomics Focusing on fiscal policy Making moves with monetary policy Governments with too much money Governments with too little money Money is more than currency Non-currency money and interest rates Taking Special Issues for Macro Funds into Consideration Diversified, yes. Riskless, no. Global financial expertise Subadvisers The multinational conundrum Widening or Narrowing Your Macro Scope Coming to terms with currencies Trading currencies Exchange rate regimes Determining exchange rates Interest-rate parity Purchasing-power parity The International Fisher Effect Contemplating commodities Financing Speculating Part 3 Determining Whether Alternative Investments Are Right for You Chapter 11 Fitting Alternatives into a Portfolio Assaying Asset Allocations Matching goals to money Chasing return versus allocating assets Using Hedge Funds as an Asset Class How hedge funds are assets Absolute return funds Directional funds Diversification, risk, and return: How the asset pros and cons play out Viewing a Hedge Fund as an Overlay Considering the overlay pros and cons Investment reporting: An overlay example Mixing and Matching Your Funds Looking for excess capital under the couch cushions Taking different funds to the dressing room Absolute return funds or directional funds? What type of investment strategy? Working without transparency How much disclosure do you need? How much disclosure can you demand? Chapter 12 Examining How Hedge Funds Are Structured Exploring the Uneven Relationships between Fund Partners General partners: Controlling the fund Limited partners: Investing in the fund Only Accredited or Qualified Investors Need Apply Which kind of investor are you? Accredited investor Why do hedge fund investors need to be accredited? Do funds really check up on you? Do I have alternatives if I don’t qualify? Using hedge fund strategies within a small portfolio Finding ETFs and mutual funds that use hedge fund strategies Following the Cash Flow within a Hedge Fund Waiting for withdrawals and distributions Regular payment distributions Extraordinary distributions A liquidation with no sale: Closing the fund Fee, Fi, Fo, Cha-Ching! Paying the Fees Associated with Hedge Funds Management fees Sales charges Performance fees Redemption fees Commissions Dealing with the Hedge Fund Manager Making time for meetings Communicating with the written word Seeking Alternatives to Hedge Funds Making mutual funds and ETFs work for you Profiting from pooled accounts Entering individually managed accounts Individual money manager Brokerage discretionary account Family offices Chapter 13 But Will You Make Money? Evaluating Hedge Fund Performance Measuring a Hedge Fund’s Risk and Return Reviewing the return Time-weighted returns Dollar-weighted returns Gross of fees Net of fees Sizing up the risk Standard deviation Beta Peak-to-trough ranges Stress tests Value at risk Benchmarks for Evaluating a Fund’s Risk and Return Looking into indexes Market-capitalization-weighted index Price-weighted index Differing results for different indexes Picking over peer rankings Standardizing performance calculation: Global Investment Performance Standards Putting Risk and Return into Context with Academic Measures Sharpe measure Treynor measure Jensen’s alpha The appraisal ratio Serving Yourself with a Reality Check on Hedge Fund Returns Risk and return tradeoff Survivor bias Performance persistence Style persistence Hiring a Reporting Service to Track Hedge Fund Performance Backstop BarclayHedge eVestment Hedge Fund Research Morningstar Refinitiv Van Chapter 14 You Want Your Money When? Balancing Time and Liquidity Considering Your Cash Needs Like Dollars through the Hourglass: Determining Your Time Horizon Taking stock of temporary funds Fathoming matched assets and liability Peeking into permanent funds Poring Over Your Principal Needs Handling Liquidity After You Make Your Initial Investment Taking advantage of additional investments Knowing when (and how) you can withdraw funds Receiving distributions Income Returns of capital Moving on after disbandment Chapter 15 Taxes, Responsibilities, Transparency, and Other Investment Considerations Taxing You, the Hedge Fund Investor (Hey, It’s Better than Death!) Making sense of capital-gains taxes Taxing ordinary income Exercising your right to be exempt Identifying qualified plans Getting the gist of foundations and endowments Figuring Out Your Fiduciary Responsibility Coming to terms with common law Tackling trust law Uniform Management of Institutional Funds Act (UMIFA) Employee Retirement Income Security Act (ERISA) of 1972 Transparency in Hedge Funds: Rare but There Appraising positions Interpreting risk Avoiding window dressing Considering the Environment, Society, and Governance Part 4 Special Considerations Regarding Hedge Funds Chapter 16 Hooking onto Other Types of Hedge Funds Multi-Strategy Funds: Pursuing a Range of Investment Strategies Determining the strategies Dividing in-house responsibilities Scoping the pitfalls of working with a broad portfolio Funds of Funds: Investing in a Variety of Hedge Funds Surveying fund of funds types Multi-strategy funds of funds Multi-manager funds of funds Highlighting the advantages of funds of funds Acknowledging the problems with funds of funds Multiple funds, multiple fees Graduated performance fees Negotiating with the hedge fund manager Advancing to funds of funds of funds (I’m not making this up!) Hedge Funds by Any Other Name Entering Mutual Funds That Hedge Chapter 17 Hiring a Consultant to Help You with Hedge Funds Who Consultants Work For What Do Consultants Do (Besides Consult)? Analyzing performance Determining your investment objectives Putting a hedge fund manger under the microscope Optimizing your portfolio Managing a Request for Proposal (RFP) Consultants and funds of funds Hunting for the Hedge Fund Grail: A Qualified Consultant Following recommendations and referrals Performing another round of due diligence Managing Conflicts of Interest Compensating Consultants for Their Services Hard-dollar consultants A la carte consulting Retainers Soft-dollar consultants Hedge Funds Pay the Consultants, Too Chapter 18 Doing Due Diligence on a Hedge Fund Why Do Due Diligence? Becoming Your Own Magnum, I.I.: Investment Investigator First things first: Knowing what to ask Interviewing the hedge fund manager Poring over fund literature Picking up the phone Searching Internet databases Seeking help from service providers More assistance with due diligence What Are You Gonna Do When the Hedge Fund Does Due Diligence on YOU! Knowing the Limits of Due Diligence Part 5 The Part of Tens Chapter 19 Ten (Plus One) Big Myths about Hedge Funds A Hedge Fund Is Like a Mutual Fund with Better Returns Hedge Funds Are Asset Classes That Should Be in Diversified Portfolios Alpha Is Real and Easy to Find A Fund That Identifies an Exotic and Effective Strategy Is Set Forever Hedge Funds Are Risky Hedge Funds Hedge Risk The Hedge Fund Industry Is Secretive and Mysterious The Hedge Fund Industry Loves Exotic Securities Hedge Funds Are Sure-Fire Ways to Make Money Hedge Funds Are Only for the “Big Guys” All Hedge Fund Managers Are Brilliant Chapter 20 Ten Good Reasons to Invest in a Hedge Fund Helping You Reduce Risk Helping You Weather Market Conditions Increasing Your Total Diversification Increasing Your Absolute Return Increasing Returns for Tax-Exempt Investors Helping Smooth Out Returns Giving You Access to Broad Asset Categories Exploiting Market Inefficiencies Quickly Fund Managers Tend to Be the Savviest Investors on the Street Incentives for Hedge Fund Managers Are Aligned with Your Needs Index EULA