If you love the idea of investing your money and getting say a 20 per cent to 50 per cent return in a year, then you should learn about hedge funds.
But a word of warning: high return funds are also very high risk funds.
My whole money education life has been trying to show novices to the world of stocks, in particular, that investing can be done without having to take too many risks.
Notice I say “too many” because all investing involves risk.
But if you invest in quality assets, you can lose money in the short term, but their price and true value can return, if you allow time.
I’m biased, but my fund has done well
For me, the best recent case was my own listed Switzer Dividend Growth Fund.
This was created to be a low risk and therefore a relatively low return fund, but it is meant to be a good income-paying fund, at a time when bank interest rates are unbelievably low.
Since we kicked it off in 2016, it has averaged a 6.25 per cent annual return after fees.
My fund has about 35 historically reliable companies that pay good dividends or are good for a bit of growth, but look what happened in the coronavirus crash of the market.
It totally nosedived the same way that risky stocks and funds do. But see how it has rebounded. And this week it hit its all-time high of $2.77. This is what quality assets can and should do. That’s why I advise newcomers to investing in stocks to be patient. As long as you’re in good quality assets, they will reward you.
But what about hedge funds?
Hedge funds are different. They can be smashed and they can go through the roof. In the worst of circumstances, they can disappear, taking your money with them!
How do you define a hedge fund?
A hedge fund is defined as a pooled investment fund that trades in relatively liquid assets and is able to make extensive use of more complex trading, portfolio-construction and risk management techniques in an attempt to improve performance, such as short selling, leverage, and derivatives.
Can you explain this with an example?
My fund SWTZ simply buys good quality stocks and holds them as long as my fund manager thinks the companies are good and will return nice dividends and their share prices will rise over time.
A hedge fund manager will do what we do and a whole lot more. And with a whole lot more risk, a lot more risk.
So how do hedge funds operate?
A hedge fund will use complex derivatives that can give you mega returns but also mega losses.
The fund manager can borrow a lot of money to make more money for the fund, but it can also lose more money for the fund.
What does a hedge fund invest in?
A hedge fund manager can invest in property, currency, other funds, bonds and anything that can potentially deliver ‘alpha’ or bigger-than-market average returns to the people who have pooled their money into the fund.
What makes them so risky?
Adding to the risk is that they have less regulation, which is kind of surprising, given the word “hedge” is often linked to safety.
If you invest in a US fund, if our dollar rises compared to the US dollar, the overall value of your investment falls.
The best way to see it is to imagine you received a $US1 dividend, when our currency is equal to when $US1 = $A2.
Now imagine our dollar rises in value so $US1 = $A1, your $US1 dividend drops from $2 to $1!
While hedging itself can add safety to overseas investing, a hedge fund is usually a vehicle for high risk and high returns.
Can you give me an example?
One of the most famous ones in Australia was Blue Sky Alternative Investments, which had the ticker code on the Aussie stock market of BLA!
It lived for 7.5 years but ended up in receivership.
Why did it fail?
At its peak, the Brisbane-based investment firm was worth almost $1.2 billion, but in 2019 its share price fell from $14.70 to 18 cents, after a US hedge fund manager, Glaucus, put out a report saying Blue Sky had “wildly exaggerated” the value of its investments in the fund.
You could say that it was a fund filled with “bla, bla, bla!”
Are all hedge funds risky?
There are less risky hedge funds out there that have stood the test of time, but make sure you know what you’re investing in.
If they promise big returns, then they’re taking bigger risks than bank deposits, which are really safe but so unrewarding nowadays.