Introduction to hedge vs mutual funds

 Hedge vs mutual funds are 2 general pooled investment means, wherein several investors trust their money to a fund manager, who invest the same in various classes of publicly traded securities. A mutual fund is an investment, that allows the investor to invest in a diversified and professionally handled basket of securities, at relatively low cost.

On the other hand, the hedge fund is nothing but unregistered personal investments. That manages a diverse array of trading procedures and invest money in securities including diverse risk.

The main contrast between the two investment avenues is that while mutual fund asks relative returns, absolute returns are pursued by hedge funds.

Who should Invest in Mutual Funds?

Mutual fund schemes are outlined to match the investment goals of almost every kind of investors. Thus, it is an ideal option for everyone. Younger investors who are ready to take risks for strong capital growth must find growth schemes a proper option. Retired individuals seeming for regular income can place their money into income schemes. Middle-aged investors can share their funds among income funds and growth funds to win both income and capital growth. To sum it up, those falling into any of the classes below can invest in mutual funds:

  • Retired people looking for regular income.
  • People trying to invest a lump sum amount for the long term to get profits later.
  • Salaried people looking to preserve some amount regularly.
  • Individuals trying to make a short-term investment to buy a car, a house or go on a vacation, etc.
  • People proposing to save tax and enhance investment returns.

Must read : Criteria of selecting mutual funds

Who should Invest in Hedge Funds?

Holding that hedge funds are personally managed by experts, they can be a little costly. They are usually a reasonable option for those with a stable financial standing. The investor not only require surplus funds, but he or she also needs to be an aggressive risk-seeker. The purpose behind this is that the manager will trade assets very quickly to remain up with the market changes. The expense ratio for hedge funds is extremely higher than mutual funds. It can be wherever from 15- 20% of the investor’s returns. It is suggested that first-time depositors avoid this until the time they get enough experience in the field.

Comparison Chart- Hedge vs Mutual Funds

BasisHedge  FundsMutual Funds
MeaningA portfolio of investments whereby some established investors invest money to buy assets.These funds pool in savings from investors to make a basket of securities from the market at engaging costs.
Ownership of fund managerSubstantialNot-substantial
ReturnsAbsoluteRelative
Type of InvestorBig Net worth people and firms with huge risk appetiteRetail investors with restricted disposable income
 FlexibilityManager can make significant changes in strategies as he can trade short, use arbitrage, deviates leverage etc.The manager has to adhere to the strategy selected at the beginning.
Buyers or the owners – Mutual Fund vs Hedge FundFew but elite people invest in hedge funds with huge amounts.There are multiple investors of mutual funds.
 Management style Highly aggressive involving updated strategiesLess aggressive management, as returns and risk are in comparison very less.
Fees of PerformancePerformance-basedBased on the assets managed and charged as a Percentage (AUM)
TransparencyInformation is given to investors onlyAnnual reports are issued and semi-annual declaration of the performance of assets
Regulatory bodies for Mutual Fund vs Hedge FundConfined regulationManaged SEBI in India

Points of differentiation- Hedge vs Mutual Funds

  1. A mutual fund is an investment medium whereby the funds are combined from several investors headed by a professional fund manager for buying basket securities from the stock market. On the other hand, hedge funds are a portfolio of investments whereby only some established investors are allowed to contribute to buying of assets.
  2. The purpose of mutual funds is to give returns in excess of the risk-free rate of return which is being given by the market whereas hedge funds intend to give the highest possible returns from the investment made.
  3. The investors of mutual funds are retail investors who turn their short disposable income in these funds with the goal of improving their money whereas those making investments in hedge funds are usually HNI’s or authorised individuals with a huge appetite of risk. These investors make very huge investments and want very huge returns in a fast time.
  4. Though both types of funds are handled by a professional fund manager, a mutual fund manager does not take a strong interest in the working of the fund. Hedge fund managers have an order to operate a high share in the respective fund to create a level-playing area on the part of the manager and check any choices that can be harmful to the overall interest of the fund.
  5. Mutual funds are tightly controlled by the SEBI of the particular country which is not necessary in the case of Hedge funds.
  6. In terms of clarity, mutual funds have to fully adhere in the form of yearly publishing of yearly reports and balance sheet in addition to the regular performance of assets. These declarations have to be made public with the account being sent to all the investors saying the overall performance. Hedge funds give the information only to the investors without any public exposure of information.
  7. The Management fees for mutual funds depend on the percentage of assets managed whereas, for hedge funds, the fees are based on the performance of the assets.
  8. Numerically, mutual funds have a large number of investors with each having a limited investment as low as Rs.500 whereas hedge funds have a small number of very large investments by each investor investing in lakhs or crores
  9. The redemption of a mutual fund is relatively easier (open-ended funds) to execute since the amount of funds is relatively less and whereas in hedge funds, the lock-in period is a long time (generally 3 years) due to which redemption is not possible. Subsequently, redemptions are made in blocks and 100% amount cannot be redeemed.
  10. There is a huge variation in how the fees are imposed in both these funds. For example, a mutual fund is permitted to charge a fixed portion of the Asset under management (AUM) as the fee. Hedge funds, on the other hand, not only impose a fixed fee but also impose a performance fee on top of that.

Conclusion

Both Mutual funds and Hedge funds are identified investment vehicles whose objective is to enhance the principal amount given by outsiders with the aim of growing money. It is the step and strategies used by these funds which make the contrast in collecting the returns.
Mutual funds are targeted towards the retail investors who are risk-averse but will favour their money increasing at a steady speed over a long period of time whereas hedge funds consider in securing the maximum possible profit from the very large investments made by authorised investors. These investors want to make the highest possible profits and therefore are available to absorb similar risk.
Though the regulation and disclosures for both these buildings differ, it all depends on the investment goal of the investor and the number of risk people are ready to absorb. The investor will accordingly have to structure their decision planning.

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