What Is A Hedge Fund?

(By Greg)

Since my interview last week and the potential opportunity it might bring, several of you have asked, "What is a hedge fund?"

Short answer: (assuming you know what a mutual fund is) a hedge fund is a mutual fund for the super rich!

Long answer: a hedge fund is a private investment open to a limited number of "accredited" investors which is permitted to undertake a wider range of investing activity. A standard mutual fund is generally only allowed to buy (go "long") stocks, bonds, and maybe some derivatives. A hedge fund, on the other hand, is also allowed to short securities (sell securities not held in the account in anticipation that the security will drop and can then be bought back at a lower price, the "buy-low/sell-high" philosophy, just in reverse), buy commodities (gold, silver, corn, wheat, etc.), buy derivatives, and buy futures (a derivative to buy/sell a certain commodity or financial instrument at a set price and at a set date [expiration date] in the future)!

In a down market, most mutual funds will lose money. On the other hand, hedge funds "hedge" risk and should be increasing in value if not preserving capital. In a down market, hedge funds have more investment opportunities to make money than a standard mutual fund.

I hope this short lesson made sense...