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XIV. HEDGE FUNDS

XIV. HEDGE FUNDS. A. DEFINITIONS.

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XIV. HEDGE FUNDS

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  1. XIV. HEDGE FUNDS

  2. A. DEFINITIONS • Hedge fund – an investment vehicle, designed for wealthy individuals and for institutions, that is established to use aggressive strategies to obtain above market returns, such as leveraged purchases and/or sales, selling short, program trading, swaps, arbitrage, and derivatives

  3. A. DEFINITIONS • Accredited Investor (from the SEC internet site: http://www.smallbusinessnotes.com/financing/secexemptions.html) - An "accredited investor" includes: • banks, insurance companies, business development companies, registered investment companies, or small business investment companies; or • an employee benefit plan, within the meaning of the Employee Retirement Income Security Act, if a bank, insurance company, or registered investment adviser makes the investment decisions, or if the plan has total assets in excess of $5 million; • a charitable organization, corporation or partnership with assets exceeding $5 million;

  4. A. DEFINITIONS • a director, executive officer, or general partner of the company selling the securities; • a business in which all the equity owners are accredited investors; • a natural person with a net worth of at least $1 million; • a natural person with income exceeding $200,000 in each of the two most recent years or joint income with a spouse exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year; or • a trust with assets of at least $5 million, not formed to acquire the securities offered, and whose purchases are directed by a sophisticated person.

  5. A. DEFINITIONS • Fund of Funds – Hedge funds that collect pools of money from a number of investors to invest in a number of other hedge funds • Feeder Fund – A hedge fund that collects pools of money from a number of investors to invest in a specific hedge fund • Private Partnership – A group of investors pooling money to invest, includes a limited number of qualified individuals or pension and insurance funds

  6. A. DEFINITIONS • Black Box – An investment that is not fully understood by the investors; an investment that has stated objectives, but which does not provide enough information to investors to allow full understanding of the “black boxes’” investment strategy • Due Diligence – The duty of an investment advisor to learn the details of an investment’s operations and potential risks and rewards

  7. B. HEDGE FUND OPERATIONS • Hedge funds were originally designed to protect against potential market losses through a number of approaches such as program trading, options, and short selling • Hedge funds are restricted by law to no more than 100 investors, this rule is fulfilled by requiring high initial investment amounts • Hedge funds can operate without any disclosure – does not have to comply with SEC rules detailing operations

  8. B. HEDGE FUND OPERATIONS • Hedge funds have expanded in investment strategy as the pool of money seeking to invest in them has increased • Hedge funds generally charge very high management fees – 2.0% of assets plus 20% of all profits (ex. – there is 100 million under management, which returns 10% in a year – the fund manager receives a $2 million base fee plus $2 million as a performance fee, for an effective fee of 4.0% on returns of 10%). See

  9. B. HEDGE FUND OPERATIONS • The investment management fees are compounded in a “fund of funds” – each layer of management extracts their own investment management fees • If a hedge fund acquires more than 5% of the equity of a single company, it is required to report this holding to the SEC, making the fund’s investment public • Under Rule 13-F, hedge funds and investment managers with assets under management in excess of $100 million are required to report to the SEC every quarter their long holdings from the previous quarter – however, they are not required to disclose their short or option positions

  10. B. HEDGE FUND OPERATIONS • Withdrawing money from hedge funds can be difficult – as private investments, there are no requirements for immediate release of funds for withdrawal, resulting in longer redemption times in unfavorable markets • Plans under consideration by the Treasury Department would require some regulation of hedge funds

  11. C. HEDGE FUND EXAMPLES • Long Term Capital Management: Messy RIP in 1998 • Bear Sterns Funds Collapse • HFR Asset Management • Renaissance Technologies • John Paulson • There are Some Institutions that Track Hedge Fund Performance, and

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