Hedge fund manager - written by Kristen Golmes

Have you ever dreamed of owning your own bank? Well now with the changes in New Zealand banking laws and the modern software applications available, what was once an impossible dream for everyone but the most powerful and rich, can now be a reality for the majority of us. And for much less money than you might think. And it can be very profitable as well.

Investment banking is a cut throat business, after all. If everything goes right and investors make money, no one is interested to know how the funds actually operate, or how good an investment bank's internal control is. The same can't be said when the market turns sour. When trillions of dollars vanished in the Asian financial crisis in 1997 and the dotcom bust in 1999, regulatory authorities, angry investors, financial reporters, bitter unemployed professionals and academics all came out to witch hunt and point fingers, several high profile investment bankers and traders were arrested for fraud or inside trading. After a year or two of low market activity, investors and bankers move on to the next big hype, completely forgetting the lessons learned.

If you are a large institutional investor or family office you see more hedge funds approaching you every quarter. How do any of the hedge funds stand out? I think the four ways are past relationships, pedigree of the team, competitive advantages realized through the investment process (could include manager expertise - see pedigree) and performance

Transparency is an issue with any investment. Most investors want to know exactly what their money is doing at all times. Giving money to someone who claims to have returns of X without knowing what the manager is actually doing is generally a bad idea. Transparency is becoming more and more of an issue as the universe of investable products grows exponentially. The recent hedge fund "blow-ups" are a case in point.

Hedge funds are mostly unregulated which means that there are no set rules that the fund has to follow, unlike mutual funds. The reason for this is because in order to invest in hedge funds, you have to be accredited or qualified in certain ways. US law requires that most investors in the hedge fund have a large amount of investment knowledge, a net worth of at least $1 million and a certain amount of income per year.

A hedge fund though is not limited to just buying stocks and bonds. It can basically do what it wants. It can sell stocks or options (called "going short") and invest in futures and commodities and debt. It can go long or short. Every fund though does have a very specific investment strategy that determines the type of investments and risks it undertakes. It is not the case you invest the money and the hedge fund managers can do what they want with it. You are told before hand what type of investments the fund will make.

Hedge funds are lightly regulated private funds that are usually characterized by unconventional investment strategies. These funds are generally more aggressively managed and use advanced investment strategies such as leverage, long, short and derivative positions in both domestic and international markets with the goal of generating high returns. Regular investment funds are usually limited to 'going long" and buying bonds, equities or money market instruments. Hedge funds also have the ability to "short" those instruments they believe will fall in price. Hedge funds are thus able to create more complex investment structures which can profit in times of market volatility, or even in a falling market.

Why is the statement of cash flows preferred by the hedge fund managers over the EPS? Hedge fund managers know that EPS can be 'doctored up,' manipulated, disguised, and shaped to look good, when the underlying reality may be different-even grim. Cash flows on the other hand can be double checked with the banks that hold the cash accounts. The pieces that go into the preparation of the cash flows statement must fit perfectly and harmonize with the balance sheet and the income statement.

The hedge fund managers use advanced strategies to maximize the return on investment to the fund. The strategies employ highly leveraged positions in long and short derivative positions in both domestic and international markets. Derivatives include options (puts and calls), futures (contracts), and swaps, which they combine to protect the bulk of the portfolio. Most hedge funds (but not all) use sophisticated mathematical models to design protective "collars."