Hedge funds are an investment alternative that have become increasingly popular in recent years. These vehicles stand out for their flexibility and ability to generate substantial returns, yet they entail risks and complexities that set them apart from traditional investment funds. They are an option for diversifying portfolios, always taking into account the investor’s risk profile.
Firstly, these funds are not bound by the investment restrictions that apply to most others. They can invest in any type of asset, pursue the investment strategy deemed most suitable and use more leverage than other funds, sometimes multiplying their capital several times over. Generally speaking, they are less liquid than traditional funds, as they may only allow redemptions on a monthly basis or every three to six months.
The main difference between hedge funds and traditional investment funds lies in the concentration of investments and the degree of leverage. The former can concentrate more on certain investments. This means they can allocate a greater portion of their capital to a few select investment opportunities they deem to be promising. On the other hand, traditional funds tend to diversify their investments more in order to reduce risk, distributing the capital across a greater number of assets and sectors.
When it comes to leverage, in hedge funds it can reach up to five times their capital, enabling them to borrow large amounts of money or use derivatives to increase the size of their investment positions. As a result, they can significantly boost both gains and losses, offering greater exposure to the market and, therefore, higher risks and potential rewards. Traditional funds, however, tend to restrict their leverage at two times their capital, so they have a more limited risk profile. Moreover, hedge funds can invest in a broader range of assets, including unlisted assets and commodities. This gives them access to markets and opportunities not initially considered by traditional funds, also letting them diversify the portfolio in a non-conventional manner and exploit specific niches in the market.
One important aspect to bear in mind when it comes to understanding how hedge funds work is their lower liquidity. Redemptions are typically allowed on a monthly or quarterly basis, whereas traditional funds often allow investors to withdraw their money daily. This aspect could be seen as a disadvantage for investors needing quick access to their investments. Conversely, however, it may present an opportunity for hedge fund managers to implement longer-term investment strategies. It is also the case that in bear markets, hedge funds can quickly reduce their exposure and take advantage of price falls to invest with additional liquidity. This is a strategy that maximises returns without significantly increasing the fund’s volatility. One thing the two types of funds do have in common is that they are transferable.
It is worth mentioning the minimum investment requirement in this type of funds. Historically, they required high minimum investments, generally of at least EUR 100,000. This limited access to large investors and excluded small investors. However, with the recent approval of Royal Decree 1180/2023, of 27 December, the minimum investment for non-professional investors has been significantly reduced to EUR 10,000, provided that it does not exceed 10% of the investor’s financial assets. This regulatory change is aimed at democratising access to this type of vehicles, allowing a greater number of investors to benefit from this investment strategy. It represents a major step towards financial inclusion, opening the door to a vast number of investors who previously were not able to meet the minimum investment requirements.
Despite being more difficult to market than other traditional funds, hedge funds have experienced significant growth in recent years, both in terms of the number of vehicles and the volume of capital under management, due to the increasing quality of hedge fund managers and advisers. From the end of 2019 to March 2024, assets under management have grown from 1 billion to over 4.2 billion euros (a four-fold increase). The number of investment vehicles of this type have also doubled, from 96 to 192, thus resulting in an increase in hedge funds and funds of hedge funds, according to data from Inverco. A good example of the strong performance and growing interest in this type of vehicle is the Alternative Cinvest, FIL, launched in March 2022 and advised by JM Kapital EAF. It aims to obtain high returns, with a similar risk to the S&P 500 and the ability to decouple from market direction by generating profits during downturns. Since inception, up to May 2024, its return (*) reached 20.80%, outperforming the 16.49% of the S&P 500 over the same period.
The recent democratisation of this type of funds opens up new opportunities for non-professional investors, expanding access to alternative investment strategies. In a dynamic and often volatile market environment, hedge funds offer an attractive option for those willing to explore beyond traditional investments.
(*) Past performance is no guarantee of future returns.
RankiaPro 15.07.2024