Uk Hedge Fund Investment: Getting Started And Strategies

Hedge funds are a type of investment that is well-known for its high minimum buy-in requirements and high returns. They are also characterised by their relative freedom from regulation and reduced exposure to market risk. In the UK, they are regulated by the Alternative Investment Fund Managers Directive (AIFMD) and are more strictly regulated than in the US. To invest in a hedge fund in the UK, you must be a sophisticated investor with a high net worth. Minimum deposit requirements of £500,000 are common, and £5 million is not unheard of.

Hedge fund fees and minimum investment requirements

Hedge funds are expensive collective investments. They often use a 'two and twenty' fee structure, which means a 2% annual management charge on assets, plus 20% of any surplus returns above a benchmark. This incentivises fund managers to follow high-volatility strategies that maximise the chances of large returns. However, these strategies can also result in higher losses.

In the UK, hedge funds usually have a minimum investment requirement of between £100,000 and £500,000, although some require a minimum deposit of £500,000 or even £5 million.

To directly invest in a UK hedge fund, you must be a sophisticated investor with a high net worth. Hedge funds are not always part of large investment groups and don't always have a big team of staff, so it's in their interest to work with a small number of large investors, rather than a large pool of small investors.

If you don't meet the requirements to invest in a hedge fund, you can invest in ordinary mutual funds that attempt to replicate the trading strategies of a hedge fund. These are known as absolute return funds.

Alternatively, you can invest in the shares of publicly owned hedge fund managers, giving you indirect exposure to the financial success of the underlying hedge funds. However, there are no publicly listed 'pure' hedge fund asset managers.

Hedge fund managers and their qualifications

Hedge fund managers are responsible for overseeing their clients' financial and investment strategies. They are investment managers who make daily investment decisions and manage the fund's level of risk. They are usually highly qualified and motivated individuals who are well-versed in the financial industry.

Education and Qualifications

Most hedge fund managers hold at least a bachelor's degree in a numerical discipline, such as finance, economics, accounting, or business administration. Many companies prefer candidates with a master's degree on top of that.

Relevant certifications are also important for standing out in this competitive industry. The Chartered Financial Analyst (CFA) certification is highly regarded and can be obtained by those with a bachelor's degree, four years of relevant work experience, and the passing of three financial exams. Other certifications include the Certificate in Hedge Fund Regulation (CHFR) and the Certified Treasury Professional (CTP).

Skills

In addition to academic qualifications, hedge fund managers need to possess a range of analytical, communication, and mathematical skills. They must be able to gather and analyse large amounts of financial data, make quick and accurate calculations, and have strong attention to detail when creating reports.

Effective communication and negotiation skills are also crucial, as managers need to interact with investors, executives, and other financial professionals.

Experience

While not always a requirement, prior experience in the financial industry is advantageous. Entry-level positions in finance, such as traders, analysts, or junior managers, can provide valuable knowledge and connections. Internships with financial firms or hedge fund companies specifically can offer hands-on experience and help individuals determine if this is the right career path for them.

Application and Interview Process

When applying for hedge fund manager positions, individuals should emphasise their results and achievements, backed by facts and statistics. They should also be prepared to convey their generated returns for prior clients, as this can be a determining factor in the hiring process.

The application and interview process may be lengthy, and candidates should be prepared to demonstrate their knowledge, skills, and ability to handle the challenges of the role.

Hedge fund strategies

Hedge funds are known for their aggressive and risky investment strategies. They are also known as 'absolute return funds' because they aim to produce a positive return during a fall in the overall stock market.

Long and Short Equity Investments

This strategy seeks to make returns in both market upturns and downturns by shorting stocks that are deemed overpriced or taking long positions on stocks that have been underpriced.

Merger Arbitrage

This strategy seeks to exploit company mergers by both buying and selling the stocks of the merging companies simultaneously, while managing the risk of the merger not closing in time or falling through.

Equity Market Neutrality

The equity market neutral strategy involves taking advantage of differences in stock prices, taking on long and short positions on stocks that have a close relationship. For example, the stocks may have similar market caps or may both be from the same industry or sector.

Macro

Hedge fund managers that use macro strategies base their portfolio composition on projections in trends in macroeconomic or political developments in a country. They seek to capitalise on national interest rates, currency exchange rates or politics.

Mixing Strategies and Asset Classes

Mixing strategies and asset classes to generate more stable returns long-term is also a popular strategy among hedge fund managers. Blending approaches with other pooled investment vehicles creates greater stability in returns than those achieved by the individual funds.

How to research hedge funds

Hedge funds are not permitted to promote their funds directly to retail investors in the UK, which makes researching them more difficult. There are no active price comparison websites that provide information and compare the returns of different hedge funds. However, there are still several ways to research and learn more about hedge funds. Here are some steps you can take:

• Consult financial advisors who specialise in high finance, or private banks. They will be well-trained to provide advice on hedge fund investments.
• Refer to lists of the top hedge funds in the UK by assets under management to identify the larger firms.
• Read books about hedge funds to learn about their history, how they work, and what to look for when investing.
• Research the fund managers and their investment goals. You can review a hedge fund manager's disciplinary history, fees, and investment strategy by looking at their Form ADV, which can be found on their website or through the SEC's Investment Adviser Public Disclosure database.
• Understand the level of risk involved in the fund's investment strategies and whether it aligns with your personal investing goals, time horizons, and risk tolerance.
• Evaluate potential conflicts of interest disclosed by hedge fund managers and research their background and reputation.
• Understand how the fund's assets are valued, as hedge funds may invest in illiquid securities, which can affect the fees charged by the manager.
• Consider the fund's track record and longevity, minimum investment required, and redemption terms.
• Utilise analytical software packages such as Morningstar to compare the performance of different hedge funds and identify those using similar strategies.

How to invest in hedge funds as an ordinary investor

Hedge funds are typically exclusive to institutional investors or high-net-worth individuals. In the UK, you need to be an accredited investor with a net worth of £1 million (excluding property) or an annual income of £200,000 to invest in a hedge fund.

However, adventurous investors who understand the risks can gain some exposure to the hedge fund asset class. Here are some ways ordinary investors can gain exposure to hedge funds:

• Invest in absolute return funds: These are ordinary mutual funds that attempt to replicate the trading strategies of a hedge fund. A legally registered mutual fund won't be permitted to use leverage, so it is impossible for it to behave exactly like a hedge fund, but this is the closest approximation available.
• Invest in the shares of publicly-owned hedge fund managers: This provides indirect exposure to the financial success of the underlying hedge funds. For example, you could invest in asset management companies such as BlackRock and UBS. However, there are no publicly listed 'pure' hedge fund asset managers.
• Invest in a fund of funds (FOF): These are mutual funds established to mimic the investment strategy of famous hedge funds. They are inexact replicas because hedge funds have access to a much wider range of investment options.
• Invest in replication equity funds: These funds try to imitate the performance of hedge fund benchmarks, similar to how an exchange-traded fund (ETF) aims to produce the same returns as an underlying index.

It's important to note that hedge funds are high-risk investments due to their complex and aggressive strategies. They employ various financial tools, known as derivatives, and often use large amounts of borrowed money (leverage) to increase their potential returns. Hedge funds also carry hefty fees, typically including an asset management fee of 1-2% and a performance fee of 20% of the fund's profit.

Frequently asked questions