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Hedge Funds – Investors' Academy


What is a hedge fund?

Hedge funds are investment funds. Unlike 'normal' investment funds, however, hedge funds use more and riskier strategies to achieve returns. Ordinary investment funds invest based on a comparative index, the benchmark. The aim of these fund managers is to achieve a return that is better than that of the benchmark. They can therefore only achieve a return in a rising market. This is also known as taking a long position. Ordinary investment funds are therefore also known as long-only funds.

Hedge funds have a broader investment policy that gives fund managers more freedom to seek returns, with the emphasis on achieving an absolute positive return rather than outperforming an index. They can, for example, also go short. In a short sale, an investor sells an investment product that they do not own at that time. Alternatively, they can use derivatives (derivative products such as options, futures, swaps and forwards) to protect capital. Hedge funds also often exploit leverage (see below), which allows the fund to borrow funds to finance investments that it believes are interesting. In short, hedge funds ensure greater diversification of your investment portfolio and can therefore usually have a positive effect on the risk-return ratio.

What you need to know about hedge funds

Hedge funds fall within the category of complex investment products. It's therefore important that you are well informed before investing in a hedge fund.

  1. Read the information about investment funds first

    There are a number of things that are the same for hedge funds as for 'normal' investment funds, such as having a KIID and a prospectus. They can also be open-ended or closed-ended.

  2. Watch the beta

    The price of a hedge fund is more sensitive to market movements than the price of an ordinary investment fund. This sensitivity is reflected in the beta. A hedge fund's beta shows how the price of that hedge fund moves compared to a benchmark. Let's take an example where the benchmark's beta is 1. If the hedge fund's beta is higher than 1, the hedge fund does better in rising markets. But the reverse is also true: it does extremely badly in falling markets. The higher the hedge fund's beta, the more sensitive the hedge fund is to market movements.

  3. Absolute return is the aim of most hedge funds

    Many hedge funds aim to achieve absolute returns, regardless of market conditions. Most long-only funds focus on relative return, and want to beat their benchmark. An absolute-return fund wants to limit large losses. To achieve this, it uses derivatives to provide a certain level of protection for the underlying investments. As a result, the fund manager accepts that they cannot fully exploit a rising market.

    Absolute return
  4. Short-selling is an important strategy for hedge funds

    Hedge funds have the option of short-selling. Ordinary investment funds do not have this option – they invest long-only. By going short, a hedge fund can also achieve returns in falling markets.

    How does short-selling work? If the fund manager of a hedge fund does not expect a particular share to perform well, they may decide to go short on that share. They then borrow shares for a fixed period and sell them again immediately. They therefore sell shares that they do not actually own (short). If, during the period they are short, the price of the share falls, the fund manager can buy the shares at a lower price than they sold them for. This enables them to return the borrowed shares, and make a profit. However, if what they expected to happen does not materialise and the price of the share rises, they make a loss. They must then buy the shares at a higher price than they previously sold them for. The fund manager does not have to take out actual short positions; they can also simulate them using derivatives (options and futures).

  5. Hedge fund costs

    The ability to apply different strategies means that the costs of a hedge fund will often exceed the costs of an ordinary investment fund. Management fees are usually a fixed percentage of the hedge fund's assets under management. In addition, a hedge fund's fund manager can charge a performance-related fee, allowing the manager to share in the success alongside the investors. They will then do their utmost to achieve the highest possible return. In exchange for this effort, the investor hands over part of the return. Performance-related returns on hedge funds are usually between 5% and 20% of the positive return on an annual basis.


Advantages of investing in hedge funds

Hedge funds offer a number of advantages compared to ordinary investment funds:

  • Greater diversification of your entire investment portfolio. This form of diversification can reduce the negative impact of a bear market on your entire investment portfolio.
  • Returns are less dependent on market conditions due to the use of absolute-return strategies.
  • It is possible to benefit from both a bull and bear market thanks to the use of long and short positions.

Disadvantages of investing in hedge funds

In addition to the general investment risks, investing in hedge funds entails the following risks:

  • Hedge funds can use leveraged products (options and futures) and short-selling. They can also borrow money to increase an investment in a certain position (leverage). This so-called 'leverage effect' allows them to respond to small price differences between investment products. The risks taken by some hedge funds may therefore be greater than those of ordinary investment funds.

  • Hedge funds often are less liquid; they cannot always be traded on a daily basis. The fund manager may even close the hedge fund in certain situations. You will then not be able to sell your investment in the hedge fund.

  • The costs of hedge funds are not always clear due to the use of a performance-related fee, often with varying conditions. The management fees are also often higher than the management fees for ordinary investment funds.

  • Investments in hedge funds can be complex and unclear, as the portfolio is not based on a benchmark. As a private investor, it is difficult to work out what hedge funds invest in.

  • You may lose (part of) your investment.

  • Make sure you know as much as possible about a hedge fund before investing in it.


The risks of hedge funds:

  • Liquidity risk:
    Investments in hedge funds are generally not very liquid. The time lapse between the sale of your holdings in the hedge fund and the proceeds of the sale being credited can vary between a number of weeks to several months, depending on the product selected.

  • Credit risk:
    The risk that arises if the company in which the investment is made goes bankrupt or if the credit risk premiums increase. This is especially true for hedge funds using equity hedge long, short and event-driven strategies.

  • Transparency:
    An important risk factor is the lack of transparency about the investment policy. Hedge funds are generally established in countries where there is little or no supervision by any authority, which means that they are much more susceptible to risks such as fraud, deviation from the investment strategy and threatening the financial structure.

  • Market risk:
    The risk that a hedge fund will fall in value due to a falling trend in the market.

  • Volatility risk:
    Hedge funds that actively work with derivatives can be severely affected by an increase in volatility (fluctuations in prices). This increases the risk premiums, resulting in increased costs for implementing the investment strategy.

  • Counterparty risk:
    This is the risk that the counterparty will not be able to meet their commitment. Hedge funds that use over-the-counter derivatives (customised derivatives) must be selective about which counterparty they do business with. A profitable investment position can turn into a loss if the counterparty is unable to meet their commitment. In addition, it has been confirmed that the risks are greater with hedge funds in countries where there is little supervision.

Costs and taxes on hedge funds:

  • Tax on stock exchange transactions (TST):
    Most funds are subject to stock market tax when shares are sold.

  • Withholding tax on dividends:
    This applies to dividends from distribution shares. You have to pay withholding tax on dividends received in Belgium.

  • Custody fee:
    The fee for holding an instrument in a custody account.

  • Entry and exit fees:
    One-time, and expressed as a percentage of the capital you invest (not applicable when units are resold).

  • Hedge fund manager's salary:
    The cost of applying their expertise to generate an absolute return (management fee + performance fee) can be high. In exchange for applying their expertise, hedge funds require both a management fee and a performance fee in most cases. The management fee is a fixed percentage of the amount invested. The performance fee is a percentage of the annual profits that you allow the hedge fund to retain. In most cases, the performance fee is only collected after a certain level of profit has been reached.

  • Ongoing charges:
    Ongoing charges include the management fee and performance fee. You therefore do not have to pay these fees when you buy the fund; instead they are deducted (annually) from its net asset value.

  • Capital gains tax:
    If more than 10% (25% for purchases before 1 January 2018) of a fund is invested in receivables, the capital gain is taxed at the withholding tax rate (also known as the Reynders tax).
For a recent overview of our standard costs and taxes, please consult our list of charges.

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