Hedge Funds as Alternative Investments Today
~ Friday, November 1, 2024 Blog Post ~
I was on vacation in Tokyo, Japan when the CFA Institute’s “Private Markets Webinar Series: Hedge Fund” webinar happened last Thursday, October 17, 2024. Fortunately, the international not-for-profit organization offering finance education for investment professionals sends their webinars’ online links to interested participants who would like to watch or rewatch their informative online conferences.
On Wednesday, October 23, 2024, I had the time to watch the “Private Markets Webinar Series: Hedge Fund” webinar. Its moderator is Mr. Wisely Ngai, Chartered Financial Analyst (CFA), and executive director at the CFA Society Hong Kong.
The webinar speakers are Mr. Frank Huang, CFA, who serves as New Harvest Wealth Securities Company Limited’s fund research head; Mr. Azmi Özünlü, CFA, the CFA Institute’s content development senior director; Ms. Violet Xu, chief operating officer at Spathiphy Capital Management; and Ms. Lisa Tsui, partner at PwC.
My Initial Encounter and Understanding of Hedge Funds
Sometime in 2013, when my passion and interest in international finance began, I came across a publication about hedge funds by Steven Drobny titled, “Inside the House of Money: Top Hedge Fund Traders on Profiting in the Global Markets.” I saved this book which was in PDF format on my iPad2 and browsed it from time to time. This relevant experience made me realize how interesting international finance and global investing certainly are.
My encounter with Mr. Drobny’s book made me curious about hedge funds more. Based on my research, hedge funds are private investors’ limited partnerships. These capitalists’ money is pooled, with professional hedge fund managers being in charge of these funds.
Furthermore, hedge fund managers utilize a vast array of strategies like non-traditional assets trading and leveraging borrowed money. In this way, private investors earn above-average investment returns.
I gathered from reading “Inside the House of Money: Top Hedge Fund Traders on Profiting in the Global Markets” that hedge funds usually target wealthy investors. Moreover, a hedge fund investment typically requires a high net worth or high minimum investment. This alternative investment selection is often considered risky.
My Learnings from the CFA Institute Webinar
I have participated in several CFA Institute webinars about popular asset classes like real estate, private equity, private credit, and venture capital. I must remark that all of them are fascinating and worth it for interested investors like myself.
The hedge funds webinar’s speakers affirmed that the alternative investment option is an industry popular for its innovative and dynamic approaches. Although a volatile asset class, this reality makes hedge funds exciting. I also gathered from the hedge fund practitioners that their firms have to meet the dynamic needs of investment professionals and their clients’ demands.
What are the significant differences between hedge funds and mutual funds?
The resource persons differentiated hedge funds from mutual funds in the retail space. The former are alternative investments while the latter are a traditional asset class. I also understood from one of the webinar speakers that one of the key disparities between hedge funds and mutual funds that need to be said is regulation, which depends on which jurisdiction investors are looking at.
Hedge funds are subject to a lot less regulation than mutual funds. These private investors’ limited partnerships can also shift strategies more quickly based on market conditions, as compared to mutual funds.
I learned that the lack of regulation’s disadvantage is that hedge funds can market themselves to retail investors, depending on the jurisdiction. Nonetheless, some hedge funds, which are typically open to institutional investors, are becoming fully regulated and coming under fully regulated scrutiny.
Additionally, I learned that both hedge funds and mutual funds are under asset management’s larger umbrella, with considerable transferrable skills and knowledge. Finance professionals intending to make a career change can apply what they learned from their education and work and appropriately make the connection. Thus, I can truly enjoy my interest and passion for international finance if I join a hedge fund.
How is today’s hedge fund landscape?
Mr. Frank Huang, CFA, head of fund research at New Harvest Wealth Securities Company Limited, served as a senior analyst and portfolio manager. His team managed together about US$2 billion of hedge fund portfolio. Mr. Huang was also responsible for about US$400 million worth of investment funds.
I find him quite interesting as one of the webinar’s speakers as we similarly find the public market very interesting. Mr. Huang described the public market as to be changing every day. There is price movement and a lot of things are going on every day in that sphere.
Like Mr. Huang, I have always been very interested in hedge funds, to see how they make money, manage risk, and how they react to different market environments. I also find it interesting to know how hedge funds develop talents, how they run hedge funds as a business, and so forth. All of the aspects of hedge funds and investing in them are very fascinating and very intellectually challenging.
From the CFA Institute’s webinar, I learned that interested private investors can pour their investment funds into various hedge fund types. They may be looking into different strategies and allocation purposes. On the scale and asset side, internationally, there are more than 8,000 hedge funds. I understood from the webinar that their total assets have exceeded US$4 trillion at the time of writing this blog post.
Mr. Huang affirmed that hedge funds have two broad categories. One of them is the multiple portfolio manager (PM) platform hedge funds which run different strategies and hire tens of thousands of employees. On the other hand, the single PM platform hedge funds usually feature an investor and a few analysts starting their own shop. They can be as small as merely two people focused on the investment and are responsible for making money and generating returns for an investor.
Being an asset class and investment vehicle for investors, hedge funds also entail major fund strategies. The CFA Institute webinar’s speakers cited that there are fundamental analysts who may be bullish on the stocks, buying them long or shorting if they are bearish on the stocks. Mergers and acquisitions may involve buying the stock of the target. Hedge funds’ purpose is to make money in risk management.
Indeed, hedge fund by hedge fund can vary widely, which is similar to the scale. The chief operating officer or COO of the limited partnership covers all the non-investment functions, which means one person to hundreds of people. Meanwhile, the hedge fund’s operations team makes sure the portfolio is booked correctly.
Like any retail firm, I learned that hedge funds’ primary goal is to ensure investors are happy. These limited partnerships’ staff have to understand the product and company they are representing well and the different types of investors they are looking for.
A top hedge fund also has representatives who sell effectively. It completely understands the different hedge fund types and cohorts of investors with varying risk profiles and seeking very diverse returns.
Mr. Huang shared that his job entails looking for a good hedge fund to invest in, which is very challenging. He elaborated on his four major criteria. First, the hedge fund’s return has to be good. Mr. Huang explained that a limited partnership is considered successful if it can generate positive returns for the investors. The hedge fund professional cited that a limited partnership does not have to be the best in the world, generating 50 percent in a single year, but that it has to be sufficient, making it good enough for the investors.
The second criterion Mr. Huang explained as a part of his job is that a hedge fund manager should be able to manage the drawdown of their performance. With risk management, a fund professional has to manage risks well, with annualized returns being 20 percent. On the business side, Mr. Huang remarked that he has to run the fund well as a business while dealing with various stakeholders. Furthermore, the limited partnership should not have less than US$2 million in assets.
I gathered from Mr. Huang that a hedge fund’s clients have to be institutional and that it has to be open to new investors. He affirmed that a lot of very good limited partnerships nowadays are fully closed and do not accept new money, and he pointed out that such a scenario does not help him.
Mr. Huang relayed that a combination of these elements he mentioned should be present in a hedge fund to make it a recommended and smooth-running one. Moreover, I learned from the webinar speakers that it is a challenge for all hedge fund investors and allocators to try balancing. No investment is perfect and tradeoffs, therefore, have to be considered.
What constitutes a hedge fund?
In the CFA Institute’s recent hedge funds webinar, I learned about the seven important service providers who are key in setting up and operating a hedge fund from Ms. Lisa Tsui, partner at PwC. They are:
1. PRIME BROKER
A prime brokerage is the first firm that investors contact in terms of the chief investment officer or CIO and where portfolio managers conduct their day-to-day trading. As a custodian, a prime broker takes the role of housing all the hedge funds’ assets. He usually talks about the different hedge fund investment strategies. Additionally, a prime broker engages in short-selling, securities spending, as well as any cash management and treasury-related trading and portfolio activities.
I also gathered from Ms. Tsui that, in the hedge fund world, prime brokers tackle long and short, covering shorts, borrowing, lending, and so on, all of which do not happen in a mutual fund. She confirmed that larger hedge funds will have more than one prime broker, depending on what inventory or stocks are available.
2. FUND ADMINISTRATOR
The ecosystem of professional service providers in the hedge fund world also includes the fund administrator. This personnel takes on the role of performing bookkeeping, accounting, and dealing with the hedge fund’s books and records. The fund administrator also keeps the limited partnership’s net asset value (NAV) on a daily, monthly, and yearly basis. A hedge fund does not have employees and the fund administrator is the outsourced bookkeeper.
3. TRANSFER AGENT
In a hedge fund, a transfer agent is responsible for keeping investors’ records, all the share capital activities, subscriptions, and redemptions throughout the months and years of the fund. Additionally, this independent party handles all the investor subscription redemption activities and money. A transfer agent has an important independent role and often goes hand-in-hand with investor relations and investor-related activities and functions.
4. AUDITOR
Hedge fund auditors take an important role in the auditing space. Ms. Tsui described an auditor in a hedge fund being the independent external auditor that comes in at the end of the year. This important professional in the fund’s ecosystem audits the funds, books and records, and NAV, and ensures that he himself delivers a fair opinion. I learned from Ms. Tsui that users of the financial statements auditors release would be all the hedge fund’s key stakeholders, investors, management, and board of directors.
5. TAX ADVISOR
6. LAWYER
7. COMPLIANCE CONSULTANT
Ms.Tsui grouped a hedge fund’s tax advisor, lawyer, and compliance consultant altogether. She described these personnel as providing the initial advice during a fund’s setup stage from tax, legal, and compliance perspectives. Meanwhile, the hedge fund manager considers the rules and regulations, different jurisdictions, and how to structure the fund in a tax-efficient manner while complying with the legal and compliance regulations.
I also learned from Ms. Tsui that besides providing advice during the beginning stage of the startup, a hedge fund’s tax advisor, lawyer, and compliance consultant usually give the fund and the fund manager’s ongoing needs if they require fulfilling certain tax, legal, and compliance-related regulations. This ecosystem of service providers that advise to aid fund managers in setting up and operating the hedge fund is a part of the research investors would look into comprehensively.
What elements can make today’s hedge funds a success?
I learned from the CFA Institute’s “Private Markets Webinar Series: Hedge Fund” webinar that there are plenty of factors that can transform today’s hedge funds into well-functioning limited partnerships. Hedge funds should have more tolerance for vulnerability. In risk management, which depends on the investment strategy, the risk has to be lower when measured to volatility.
Moreover, I gathered that transparency is important in today’s hedge funds. More disclosures, funds documents, and financial statements should be available for investors, regulators, and all the other stakeholders. The latter should know about their hedge fund portfolio’s performance, fees and expenses, and all types of transactions that interest investors. Fund managers have done away with releasing minimum disclosures and have put a lot of emphasis on satisfying the investors and different stakeholders’ needs.
In today’s high-interest and high-inflation environment, how should I as a hedge fund investor use my funds in my investment portfolio?
The “Private Markets Webinar Series: Hedge Fund” webinar speakers elaborated on how investors should use their investment portfolio funds nowadays when there are high interest and inflation rates. They also explained the strategy type that would perform better in this situation.
According to one of the resource persons, a high-inflation and high-interest rate environment would mean more volatility in the market, which is better for trading. Well-performing hedge funds can still run very well and borrow cheaply to run their companies.
Nevertheless, underperforming limited partnerships will typically have a huge interest rate expense burden. The webinar’s speaker cited that it is better for long and short strategies because there would be more opportunities for the hedge fund. Indeed, I learned that high interest rates and volatility are good for hedge funds.
What skillsets and attributes should I have if I become interested in working for a hedge fund?
Resource persons from the CFA Institute’s “Private Markets Webinar Series: Hedge Fund” webinar discussed their professional lives and the key challenges in their roles that they face day-to-day. They explained the typical qualifications and traits that potential hedge fund professionals must have to thrive in the industry, which include the following:
1. Accounting and finance background
I gathered from the webinar speakers that, in the hedge fund investments industry, solid auditing and accounting skills are significant. Hedge fund workers mostly have bachelor’s degrees in accounting and finance. Additionally, they usually pursue certified public accountant or CPA exams.
2. Client-oriented
I learned that, as a “people business,” people are hedge funds’ most important assets. Thus, workers should be capable of working across many clients in the hedge fund space and, on the elevated level, should know what kind of problems they can resolve. Upskilling is also rampant these days in the hedge fund industry.
If I become interested in being a part of the hedge fund business, I gathered from the resource persons that excellent client service delivery is a must, like in any business organization. With the increasing client and investor demands, I will have to uphold audit and other service’s quality, while keeping in mind my hedge fund’s commitment to investors.
Furthermore, people who use hedge funds as one of their building blocks and investments always expect and look for high returns. Hence, I need to be able to address and accommodate the various stakeholders in the different ecosystems of the hedge fund chain to ensure I and my team are all delivering a robust service.
3. Curious, self-driven, and emotionally stable
Aside from the CPA qualifications, I learned that, even if I am merely exploring a career in the hedge fund industry or finance, I can be successful by being curious, self-driven, a strong self-starter, and emotionally stable. Curiosity is among the most important skills necessary in investment management.
Feeding it, whether through formal programs or reading a lot of high-quality and relevant articles, is crucial for success in the hedge fund business. These skillsets and mindsets are necessary for myself being a non-finance graduate looking to begin a career in this financial sector. Moreover, I gathered from the resource persons that my interest in what I will be doing and my willingness to take on challenges will be the key drivers for me to pick up a steep learning curve.
4. Excellent time management skills
Working for a hedge fund is certainly demanding, with time being a challenge. I got a better sense of what one of the speakers was saying when she cited that they have very limited control in terms of how they want to spend their time. By being disciplined and organized, I can help myself in my hedge fund career.
5. Adaptable, resilient, and can work under pressure
Hedge funds can come as much smaller outfits. By being quite adaptable, I gathered from the webinar speakers that I would be able to put together a spreadsheet one day and attend a client meeting the next day. They pointed out that my presentation skills, like myself being a Microsoft Excel jockey, could surely come in handy.
Alternatively, if I work for a bigger hedge fund outfit, I will find my role to be much more strictly defined. Making myself adaptable would do great things for my career’s future to do well in the hedge fund industry.
Additionally, I gathered that, in hedge funds, a lot is beyond my control when doing secondary market-related strategies. For instance, when war suddenly happens somewhere or the market moves significantly, these events may have an implication on my portfolio or my risk control, which is a non-investment function. With different things happening at the same time, I also have to know how I would prioritize them and then make plans accordingly and as quickly as possible.
I find it interesting and considerate of the speakers to speak to me as a person, informing me that a lot of hedge funds have fast-paced and cutthroat environments. My professional life would then be like, if I do not deliver the returns, investors will lose their patience very quickly. Then, once investors pull out their money from the fund, there is not much I can do to stop closing it.
Indeed, one of the webinar’s resource persons confirmed that a lot of front office personnel, such as a hedge fund investment manager and an analyst, are always in a very tense state. Therefore, if I work with them, I should be emotionally stable throughout my work life, especially on tough market days.
6. Being an independent worker
While mutual funds tend to be a bigger organization and things are more established and more chilled, professional life is different in hedge funds. The latter can be a very small and tightly-knit organization. I learned that each person in a hedge fund will have a lot of things on his plate and may not have enough time or patience to teach me all the basics. Hence, I gathered that all the learning will be mostly done by myself.
I learned from the webinar speakers that being a very challenging world and learning experience, I need to know how I can get the task done by myself in the hedge fund. Moreover, I should also know the resources I need to achieve the specific goal.
7. Adaptive to changes
Being adaptive to changes can also assist me if I join the hedge fund industry. One of the webinar’s speakers explained that things and market environments shift. I may find some investors and analysts who were successful in the past and that there are always better investors.
Furthermore, I should understand that there are different sector and factor rotations as well as different themes in the market. I will win the game if I am not stubborn as this attribute is the most important thing to be a good investor in the long-term, according to one of the webinar’s resource persons.
8. Competitive and hardworking
Possessing a very competitive personality and professional experiences can aid me in the cutthroat hedge fund industry, per one of the webinar’s speakers. With my capabilities and strong skillsets, I can manage to face the dynamic business with passion, while excelling well and surviving.
Indeed, hedge funds are very rewarding in terms of experience and potentially in terms of returns. By being knowledgeable and hardworking in the hedge fund industry, I can deep-dive into my area and be able to run the business well, manage risk, and above all, generate good returns.
I consider participating in the CFA Institute’s “Private Markets Webinar Series: Hedge Fund” webinar as time well-invested. The global organization has many interesting and enterprising investment management online presentations and articles. I learn about investors and industry practitioners’ fascinating journeys in the world of finance.
The hedge funds webinar enabled me to understand this alternative investment option, how new startups can start their own fund or shop, what to be outsourced and done in-house, and how stakeholders can facilitate the hedge fund’s establishment.
Since staying ahead in the investment management industry means constantly expanding my knowledge and skills, I will definitely carry on with my participation in the CFA Institute and other investment management platforms’ webinars.
References:
https://www.arx.cfa/research/2024/10/soc211024-webinar-private-markets-webinar-series-hedge-fund
https://download.e-bookshelf.de/download/0000/5680/95/L-G-0000568095-0002381781.pdf
