Hedge funds are nothing new in the financial markets in general. Hedge funds emerged in the 1940s as a strategy to curb risk in the financial markets. Even the term ‘hedging’ refers to the practice of reducing the risk of unfavorable price movements through a futures contract. However, in modern days, their primary purpose seems to be maximizing profit. It is important to mention that hedge funds are quite diverse when it comes to assets and markets and very few focus exclusively on forex markets, especially after 2008. However, hedge funds in forex markets have been making a comeback for quite some time now.
Forex hedge funds use pooled resources of a large number of investors as well as a number of financial strategies to earn them their return and stay on top. Hedge funds are open to a certain number of investors and the initial investment is relatively large; their standard lock-up period is one year, with limited options for subsequent withdrawal at regular intervals that can be up to two years apart, so this is definitely a long-term investment. They are controlled by professional managers who get a percentage of the proceeds in addition to their fee to incentivize their good performance and innovative approach to strategies.
Market-neutral strategies are the preferred strategies for most hedge funds, as they are perceived as being able to profit under any circumstances. The ability to exploit the momentum on any market cannot be overestimated. Being able to acquire undervalued currency or get rid of overvalued one quickly is certainly an advantage, while the combination of long and short positions helps manage the risk and keeping the ‘beta’ as close to 0 as possible. It should be said that it is generally harder to get rid of overvalued currency than to acquire undervalued one, due to the nature of the market.
Global macro strategies take advantage of large scale changes in the financial markets. The main characteristic of global macro strategies is their reliance on major trends as well as their heavy usage of futures and options. Forex hedge funds employing a global macro strategy hold their short and long term positions based on macroeconomic principles, including the state of economy and economic views of entire countries – and base their actions accordingly. For instance, if a hedge fund manager believes British economy will enter a recession, he or she will do what they can to sell off their positions on British pounds. Or if they believe Swiss economy will flourish in the foreseeable future, they might take long positions on Swiss francs.
When it comes to investments, hedge funds have become a category of their own. In any case, those who aim to invest in a hedge fund should get familiar with all its risks, aspects and strategies before committing to it. Always keep in mind that a hedge fund’s potential for profit is only matched by the risk it involves.