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India offers various types of investment funds. Some funds directly depend on the equity market, while others are based on debt instruments and commodities. All these funds depend on their benchmark index, and when the market rises, these funds typically benefit.
But did you know that there is a unique type of mutual fund that makes money not only when the market goes up but also when it goes down? This special investment vehicle is called a Hedge Fund.

In this article, we will explore:

• What is a Hedge Fund?

• How do Hedge Funds work?

• What are the benefits of investing in Hedge Funds?

• Who can invest in Hedge Funds? 

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What is the Hedge Fund in India?  

A Hedge Fund is a type of investment fund where money is pooled from High Net Worth Individuals (HNI), banks, pension funds, and other financial institutions for private investments. Unlike traditional mutual funds, hedge funds are not fully regulated by SEBI and fall under Alternative Investment Funds (AIF) - Category III.

Key Characteristics of Hedge Funds:

Not Fully Regulated: Since hedge funds do not have the same level of regulatory oversight as mutual funds, they do not disclose their Net Asset Value (NAV) publicly.

Advanced Trading Strategies: Hedge funds use high-risk strategies like:

Short Selling:  Profiting from declining stocks.

Leverage: Borrowing money to increase investment potential.

Derivative Trading:  Using options and futures to hedge risks.

Arbitrage Trading: Exploiting price differences across markets.

High-Risk Investment: Since hedge funds use the most aggressive and volatile market strategies, they carry higher risks compared to other investment funds. And most of the time they invest in high risk options. 

How do hedge funds work?

Hedge funds invest in various sectors like Equity, Debt, currency, Real estate, securities. Also, hedge funds invest in short term or long term, along with that they also do trading.

Different strategies used by hedge funds:

1. Long/Short Equity:

Through this strategy, hedge funds buy undervalued stocks and sell overvalued stocks. This reduces the risk in their overall portfolio.

2. Macroeconomic based:
Often, hedge funds invest based on economic news, and geographical developments.

3. Event based investments:

Hedge funds look for opportunities in the market by looking at mergers and results of companies in various companies.

4. Arbitrage trading:

In arbitrage trading, hedge funds look for differences in prices on various exchanges and trade in them.
 

Benefits of Hedge Funds:

1. Higher Return Potential:

Hedge funds use strategies like Derivative Trading, Leverage Trading, and Short Selling to maximize returns. These funds take advantage of market opportunities and risk management, often delivering higher returns compared to traditional mutual funds.

 2. Experienced and Skilled Fund Managers:

Hedge funds are managed by highly experienced professionals with deep market knowledge.These fund managers actively manage investments to maximize profits and minimize risks.

3.  Hedging for Risk Management:

One of the key advantages of hedge funds is hedging, which helps reduce risk and protect investments from market volatility.

4. Diversified Investments:

Unlike traditional mutual funds, hedge funds invest in a wide range of asset classes, including: Equity (stocks), Commodities (gold, oil, etc.), Currency, Real Estate, Startups & Private Equity
These diverse investment strategies allow hedge funds to generate returns even in uncertain market conditions.

Disadvantages of hedge funds:

1. Hedge funds charge higher fees than other funds. Most hedge funds use a concept for charging fees, which is the 2 and 20 concept. In this, hedge funds charge 2% management fee and a 10 to 20% profit fee. Due to this, the cost of hedge funds increases compared to mutual funds.

2. A minimum amount of Rs 1 crore is required to invest in hedge funds. Therefore, only people with high income, i.e. HNIs or other institutional investors, can take advantage of hedge funds.

3. Hedge funds are less regulated compared to mutual funds. Hedge funds do not show their NAV at the end of each market day, as mutual funds have to show their NAV. Due to this investors have less faith in hedge funds compared to mutual funds.

Who should invest in hedge funds?

1. The most important thing to invest in hedge funds is funds. Those who have the ability to invest at least 1 crore can invest in hedge funds.

2. Institutions like HNI, Banks, Insurance Companies, and Pension Funds invest in hedge funds.

3. Investors who have a high risk-taking capacity invest in these funds.

 Conclusion:

 Among all the mutual funds or ETFs, hedge funds are the riskiest funds. But often the returns of these funds can also be very high, due to which hedge funds are considered High Risk High Return Funds. Institutional investors invest in these funds as per their risk management plan, which is a certain portion of their total investment. Therefore, it can be beneficial for retail investors to invest in other mutual funds instead of hedge funds.

Download the Finshak APP for more information, and start investing today!

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FAQ:

1. Can a common person invest in hedge funds?

Ans: A person who can invest more than Rs 1 crore can invest in hedge funds.

2. What is the difference between mutual funds and hedge funds?

Ans: While you can start investing in mutual funds from as little as Rs 100 or 500, to invest in hedge funds, you need to have at least Rs 1 crore. Also, the risk in mutual funds is less than that of hedge funds.

3. Do hedge funds earn returns every time?

Ans: Hedge funds are a High-Risk High Return Fund. They do not earn returns every time. Hedge funds can also incur losses due to sudden developments in the market or wrong strategies.

4. How do hedge funds earn money in a falling market?

Ans: When the market is falling, hedge funds use strategies like Short Selling and derivative trading.

5. Are hedge funds legal in India?

Ans: All mutual funds in India fall under the category 3 Alternative Investment Funds (AIFs) created by SEBI, due to which hedge funds are completely legal in India.