By Stefano Sciandra
Your commercial awareness dose
The COVID-19 pandemics and the possibility to work from home, hence saving much time in commuting, has prompted people to learn new things, such as languages, cooking, and a lot of DIY techniques. Something that has really become popular, however, is day-trading; compared to 2019, day-traders had surged dramatically in 2020, especially in the first quarter, when the lockdowns were introduced globally. This can be explained if we keep in mind that workers have seen their wages reduced and day-trading is usually advertised to be easy, fun, and to generate much money quickly.
In fact, one can find overwhelming information on day-trading, especially for beginners. However, it’s not that simple as it seems: trading is actually a tough activity, which requires much patience, willingness to fail and learn, and acute emotional intelligence. For instance, Robinhood, an online trading platform, is facing legal action over the “gamification” of trading. Let’s suppose you are now a trader who understands how the market works and how to interpret graphics. You have indeed developed your strategies to invest in stocks, bonds, commodities, or indexes.
While doing your studies and researches, you may have come across the term “hedge funds”, and probably you have wondered whether you can invest in them or not. The answer is no. Hedge funds are pooled investment vehicles (pooled or mutual funds) that admit only a small number of very wealthy individuals or institutions, whose money is put together for investment purposes.
The minimum amount of money requested to participate goes from $100,00 to $1 million, while specifically for the UK, you must have at least a net worth of £600,000. What is the difference between hedge funds and other mutual funds? Hedge funds are, in general, very little regulated, both in case of offshore hedge funds (located in tax havens) or onshore hedge funds (private investment partnerships). They are set up to protect demanding investors from market volatility, in fact, they present a lack of correlation with stock market activities, or better, they seem to have a negative correlation with stock markets. This means returns go down the opposite way; for instance, if domestic equities of a given stock market are down, hedge funds’ returns are usually up.
In origin, the word “hedge” meant that fund managers would try to maximise returns with as less risk as possible (hedging risk). Today, this is not the case; in fact, managers of poorly regulated hedge funds, are known to be quite reckless and to invest aggressively. Another consequence of the lack of regulation is the fact that managers are allowed to borrow ten times the size of the fund, to have more liquidity to maximise returns for their clients. Of course, this is a stressful and potentially risky profession, so it does not come as a surprise that their salaries are very high.
For all of these reasons, hedge funds are off-limits to ordinary investors and day-traders. However, some equity partnerships that engage in hedge fund-like activities are listed on common stock exchanges and can be traded by market participants at large. However, if you can’t join them… you can imitate them! Hedge fund managers are trained and able to generate incredible returns. For day-to-day investors, it’s impossible to understand each of their strategies, though we can outline some of their common investment styles.
They use derivatives, which are financial securities with a value that derives from underlying assets agreed upon by two parties. They implement long-short trading strategies, which consist of buying and holding underpriced stocks whose value is expected to grow and in selling short overpriced stocks. Hedge fund managers also extensively analyse each one of their trades and show incredible emotional intelligence, a key element that every investor, no matter how small, should acquire. Lastly, they perfectly know when to cut their losses short and let their profits run.
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