Money
Making money
Hedge funds - investing for the 21st century
Hedge funds polarise people's opinions: some think they're the saviour of our pensions, others believe they're the investment version of the Four Horsemen of the Apocalypse. They make their money doing things that conventional investments, such as unit trusts, don't. While they can be quite complicated, it doesn't mean that they're necessarily more risky, although some of them are quite specialised and do involve higher risk. It's like driving - it's not the car itself, but how you drive it, that determines the risk.
Occasionally, one of them fails in spectacular fashion, giving ammunition to those in the doom-and-gloom camp. Much has been made of the recent demise of Amaranth, an American hedge fund that lost a lot of money in attention-grabbing fashion.
In an article in the Daily Telegraph, Max King put forward the case that all hedge funds were somewhat dodgy, based on the example of Amaranth and a couple of others. This is like saying you should never go to Florida, because occasionally they have a hurricane there. Nobody's daft enough to believe that - but we all know we should take precautions. As with holiday destinations, it's true for investing.
At the moment, the regulatory authorities in the UK don't let the general public invest freely in all types of hedge funds, but certain types, such as absolute return funds, have been authorised and are proving very popular. A number of respectable companies are now offering these products to retail investors.
Apart from the fact that hedge funds often produce very good returns, there's another very important reason why they're attracting so much attention, and why pension funds in particular are increasing the amount of money invested in them.
It goes back to my comment earlier about the difference between traditional funds and these new vehicles. Hedge funds are non-traditional in two ways: firstly, in the techniques they use, and secondly, in the many different markets that they invest in. The effect of this is that, in theory at least, they can make money when traditional investments are losing it.
There are also times when the opposite is true, because there's no Holy Grail in investing - the perfect investment doesn't exist, as we all know. So the smart investor should have a balanced portfolio of different types of investments, including traditional and non-traditional. This can produce a much more smoothly-performing investment as a whole. It's a bit like having a stall on the beach in summer: if you sell ice-cream and umbrellas, you're likely to have a better income overall than if you sell just one.
The message, then, is this. There are new, non-traditional investments coming onto the market, unlike anything we've seen before. They're worth a serious look, using a good investment adviser to explain the pros and cons. Most importantly of all, don't put all your eggs in one basket, and spread your money across different investments.
