Lately the media has been frothing over the rocky financial situation in Greece. Banks and stock markets closing, on top of high unemployment and chronic recession – surely these dire circumstances must have important repercussions for investors here, right? How concerned should we be and what should we do?
According to Webster, the word “hedge,” as it relates to investments, originally meant “a means of protection or defense (as against financial loss.)” Hedge funds can be used to diversify a portfolio and reduce risk by providing investments that do not move in the same direction at the same time. If your portfolio consists entirely of U.S. stocks, you might choose to invest in something else that cushions the blow when stocks decline – an alternative investment that would appreciate when stocks decline.
When a friend recently asked me this question, I realized the answer was complicated! In a way, hedge funds are similar to mutual funds – baskets of securities (stocks, bonds, cash) managed by professionals – but there the comparison faltered. A hedge fund is an alternative investment (to stocks and bonds) that can utilize a broad range of strategies and financial tools to reach its objectives. Hedge funds have greater latitude (than mutual funds) to invest in any and all markets across the globe.