So, what is a hedge fund?
Essentially, a hedge fund is a legal structure.
If it has a certain type of structure, then it is a hedge fund.
We can see this general structure here, and as we can see it's a reasonably complicated legal structure that allows for ....well....lower rates of tax!
Structure of Hedge Fund
The Investors put money into the Fund, which holds the investors money and is often offshore in a tax haven.
The management company is Onshore, and invoices the Fund offshore for the annual management fee. This management fee is usually around 1-2% of Assets Under Management (AUM) and is used to cover operations (so the infrastructure, rent, salaries, etc)
The Performance fee is invoiced off-shore (for tax reasons).
The performance fee is pretty simple - it just means that when a profit is made, 80% of the profit goes to the Investors, and 20% of the profit goes to General Partners of the Hedge Fund (i.e. the people or person managing the Hedge Fund). There are exceptions to the performance side - some hedge funds charge more on the performance fee (i.e. RenTec) and actually charge a HIGHER management fee as well, although this is pretty rare.
Generally, the investors will require that the General Partners will invest at least 50% of the performance fee earned in any year back into the fund - this shows that they are confident in their strategy! This depends on the specifics of the term sheet of that particular fund.
There are a variety of different so-called strategies employed by hedge funds.
There are some legendary hedge funds: Renaissance Technologies for example, started by former NSA code-breaker James Simons, has averaged around a 40% return AFTER FEES over two decades. Their fees were higher than usual as well (~5% management fee, 36% performance fee), demonstrating how crazy the returns have been.
Investors in hedge funds have to be so called "accredited investors" - which basically means that they have a certain net worth/ income.
In the US, this generally means one must have a net worth of at least $1,000,000, excluding the value of one's primary residence, OR have income at least $200,000 each year for the last two years (or $300,000 combined income if married) and have the expectation to make the same amount this year.
So, in conclusion, a Hedge Fund is just a legal structure in many ways - and often forms a part of a wealthy investors' portfolio in order to hedge risk.
https://www.youtube.com/watch?v=KxDoPtNFmKo
BRAVE BROWSER: https://brave.com/fin894
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