Chapter 12.5 Flashcards
Hedge Funds
A form of investment vehicle established for affluent and semi-affluent investors. Hedge funds are not considered investment companies and are not as heavily regulated as other investment products such as investment companies.
Formation of Hedge Funds
Normally established in the form of a limited partnership. These private investment partnerships take on long and short positions, use leverage and derivatives as well as private equities and currencies, but in allowing these forms of investment, hedge funds subject investors to a larger degree of risk
Liquidity in hedge funds
Not normally as liquid as other securities. Most hedge funds allow for the sale or redemption of hedge fund shares monthly, quarterly, or annually.
**Daily trading/pricing is generally not offered.
Suitability and regulation of hedge funds
Hedge funds are not suitable for the average investor. Hedge fund investment is limited to Accredited Investors, qualified investors, and semi-affluence investors. Suitability is often less of a concern than it would be for other investors.
Accredited Investors
- Net worth of $1,000,000 or
- Income of $200,000 or more in each of the last 2 years with the expectation of income exceeding $200,000 in the current year
Qualified Investors
- Net worth of $1,500,000 or
- $750,000 in assets invested under the specific investment manager
Semi-affluent Investors
Do not meet the criteria of being accredited or qualified, but do meet minimum investment requirements.
- Investors may be required to deposit a minimum investment of $25,000, for example
- Semi-Affluent investors are able to invest in certain types of hedge funds that are established as fund of funds or open-end funds.
Hedge fund Comparisons
Performance figures are not always standardized from hedge fund to hedge fund. Comparisons to other types of investments or hedge funds can be difficult/misleading and should not be permitted.
Exchange Traded Funds(ETFs)
These are funds that are similar to normal index mutual funds with a portfolio that mirrors a specific index or industry sector basket of securities. The primary difference between an ETF and an index fund is that ETFs have shares that trade like common stock shares.
ETF Characteristics
- ETFs trade like a stock and can be bought and sold anytime during normal market hours.
- ETFs can be purchased on margin and can be sold short
- Annual expenses on ETFs are generally low
- Commissions are charged on transactions just like common stock and ETFs have no sales load which generally lowers costs to investors.
- Dividend payments are possible, but not usual
- Settlement is T+2 business days
- Options are available on most ETFs
- An industry sector ETF would be less affected by overall changes in the market and offers less diversification when compared to a broad-based ETF, but would provide diversification within a particular sector.
- ETFs are required to deliver a prospectus with the “new issue” but are not required to deliver a prospectus with secondary market trades. All ETFs must deliver a prospectus upon request
Examples of ETFs
- SPDR
- Diamonds
- QQQ
- Holders
ETF’s are marginable
ETF’s are margined just like common stock, 50% Reg T and are subject to the same minimum maintenance as common stock, 25% on a long ETF and 30% on a short ETF.
Fixed income(Bond) ETFs Characteristics:
- They give an investor the opportunity to invest in “bonds” without investing directly in one particular bond
- Many bond ETFs are more liquid than the bonds themselves
- Bond ETFs are a low cost way to invest in bonds
- The market price of shares in a Bond ETF is based on supply and demand and can be different than the NAV per share of the fund.
Leveraged ETFs
Track an index fund or a benchmark. In addition to the money already received by investors, these funds borrow capital with the goal of generating a greater percentage return. These funds also use derivatives such as futures and options
-Because of leverage, percentage gains and losses in the fund would be magnified
Maintenance requirement for Leveraged ETF’s
Long ETF: 25% of the market value
Short ETF: 30% of the market value
If the ETF is more highly leveraged, the maintenance margin levels would:
- Double for an ETF offering 200% leverage
- Triple for an ETF offering 300% leverage