Hedge fund

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A hedge fund is a private investment vehicle typically open to only a very limited range of qualified investors. In the United States, hedge funds are open to accredited investors only. Because of this restriction, they are usually exempt from any direct regulation by the SEC, NASD and other regulatory bodies.

A hedge fund manager receives a significant portion of its compensation from incentive fees tied to the fund's performance -- typically 20% of annual gains over a certain hurdle rate, along with a management fee equal to 1% of assets. The funds, often organized as limited partnerships, typically invest on behalf of high-net-worth individuals and institutions.

Their primary objective is often to preserve investors' capital by taking positions whose returns are not closely correlated to those of the broader financial markets. Such vehicles may employ leverage, short sales, a variety of derivatives and other hedging techniques to reduce risk and increase returns.

The classic hedge-fund concept, a long/short investment strategy sometimes referred to as the Jones Model, was developed by Alfred Winslow Jones in 1949.^[1]

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Background

According to a Financial Times of London story in late November 2007, U.S. dominance of a fast-growing part of the computer-driven, or quantitative, hedge fund industry is under threat from the rising influence of managed futures funds based in London and continental Europe. North American managed futures programmes - hedge funds which attempt to profit from computerised trading in futures markets - have seen their share of the $185bn market drop from 74 per cent in 2001 to 54 per cent at the end of the third quarter, according to calculations by data provider Barclay Hedge."^[2]

However, the articles does note that, "...the shift in power from the US, where the industry was created three decades ago, has come amid booming demand for the funds, also known as commodity trading advisers. Total assets have soared from $37.9bn in 2001 to almost $185bn, allowing American assets to jump more than threefold even as it lost market share."

In addition, Britain's market regulator, the FSA, will set rules opening hedge-fund investing to individuals by the end of the 2008, allowing the general public to participate in an industry previously reserved for the wealthy. The FSA, which has been considering the changes for more than two years, said it will consult with companies further before finishing its plans. The new rules cover funds of hedge funds and won't allow individuals to invest in so-called single-strategy funds.^[3]

The Financial Services Authority plans to allow consumers to put money into funds that invest in hedge funds, which take bigger bets than mutual funds.

2007 Investments in Hedge Funds

Investors poured a record $194.5 billion into hedge funds last year, pushing the industry's assets to $1.87 trillion, according to data compiled by Chicago-based Hedge Fund Research Inc. The average hedge fund returned 10.2 percent in 2007, almost double the 5.5 percent gain by the Standard & Poor's 500 Index including dividends, according to Hedge Fund Research. ^[4]