Institutional investors, the ultra-rich, and high-end accredited investors often take advantage of hedge funds in search of higher returns than commonly seen in the stock market. Historically, such funds use a long-short equity strategy in which they both buy and short equities at the same time. Thus, the strategy of hedging risk came to be applied to these ventures calling them hedge funds. Putting aside the question of whether or not you can afford to be in one, what do hedge funds really do and are they a better or worse option for investing your money?
Are Hedge Funds Financial Intermediaries?
Hedge funds often work with financial intermediaries but hedge funds are not financial intermediaries. A financial intermediary is an institution like a unit-trust company, building society, or bank which holds funds from lenders and then makes loans to borrowers. A hedge fund is an investment vehicle whose investor may include financial intermediaries. National banks, for example, are regulated by the Office of the Comptroller of the Currency (OCC). Large banks are regulated by the Federal Reserve. Many hedge funds are regulated by the Commodity Futures Trading Commission (CFTC).
Are Hedge Funds Insured?
Hedge funds commonly use risky strategies in search of higher returns than found in the market in general. When a person deposits money in a bank it is insured by the Federal Deposit Insurance Corporation. There is no such agency that insures hedge fund investments. Hedge funds may carry insurance to protect those running the fund from being sued by investors. To protect decision makers in the fund it may take out D&O (Director & Officer) or General Partnership Insurance. This insurance does not protect investors but rather protects fund managers from being sued for their actions when such actions result in monumental losses.
Are Hedge Funds Required to Register With the SEC?
Unlike mutual funds, hedge funds are not regulated by the SEC unless they manage assets in excess of $100 million. Some are registered with the Commodity Futures Trading Commission (CFTC). There is a private fund advisor exemption with the SEC for hedge funds managing less than $150 million. Regulation of hedge funds is less intense than that experienced by financial advisory firms, exchange traded funds or ETFs, and mutual funds.
What License Is Required to Run a Hedge Fund?
The only license that all hedge funds need is an ordinary business license. A fund does not need a Series 7 license unless they trade on behalf of their clients because they are not registered as brokers. Because hedge fund managers can be construed to be an investment advisor, they may need to take a Series 65 exam and get that license. State laws determine licensing requirements and can vary substantially. The Series 65 license is generally required and some states require the Series 7 license in order to apply for a Series 65 license.
How to Name a Hedge Fund
If you are setting up a hedge fund you need to come up with a name. Generally, you do not want to be overly descriptive but want to make your new hedge fund business brandable. Most advisors suggest avoiding popular names. A name that works across all cultures and has a timeless quality is usually a good choice. You want to be memorable more so than catchy. Remember that people are trusting you to provide profits for them so take than into consideration when choosing a name.
Can Hedge Funds Advertise?
Since 2013, with the passage of the JOBS Act, hedge funds can advertise. Cold calling is allowed as well as general solicitation. All advertising must include appropriate disclaimers and disclosures. Because hedge funds in the USA can only take money from accredited investors this generally limits the usefulness of advertising to wealthy individuals or financial institutions. Because accredited investors are aware of the risks involved the sales pitch usually needs to focus on profitability.
Do Hedge Funds Day Trade?
Hedge funds pool money from investors and then use complex trading, portfolio-construction, and risk management strategies in order to maximize performance. They may add day trading to their approach but need not add this to short selling and highly leveraged investments. If you are not a wealthy accredited investor able to use a hedge fund, consider day trading commodities and learn how to make disciplined, profitable trades from DayTradeSafe.