Why Choose Hedge Funds as Investment

There are a variety of reasons to include hedge funds in a portfolio of otherwise traditional investments. The most cited reason to include them in any portfolio is their ability to reduce risk and add diversification.

We have mentioned before how many hedge funds claim absolute return mandates whereby returns are minimally correlated with the equity market. In such a case, hedge funds provide a great diversifier, particularly in times of increased market volatility and/or an outright bear market.

Risk Reduction
In any case, a hedge fund that provides consistent returns increases the level of portfolio stability when traditional investments are under-performing or, at most, are highly unpredictable. There are many hedge fund strategies that generate attractive returns with fixed-income-like volatility. The difference between a hedge fund and traditional fixed income, however, is that during times of low interest rates, fixed income may provide stable returns, but those are typically very low and may not even keep up with inflation.

Hedge funds, on the other hand, can use their more flexible mandates and creativity to generate bond-like returns that outpace inflation on a more consistent basis. The drawback, as previously mentioned, is that hedge funds have certain terms that limit liquidity and are highly opaque. That said, a carefully analyzed hedge fund can be a good way to reduce the risk of a portfolio, but we stress again the importance of proper due diligence. Read more