Hedge funds that use computers to trade equities are expected to start selling to $20 billion to $30 billion in the next two weeks, given retreating stock markets, a UBS (UBSG.S) note seen by Reuters shows. The UBS note said that hedge fund managers using algorithms to follow market trends have turned neutral from bullish on stocks. The bank anticipates as much as $30 billion of outflows will soon hit markets, potentially exacerbating the downward move in shares, as these hedge funds start selling to cut exposures to stock markets that have underperformed recently.
A hedge fund is a pool of capital, often from wealthy individuals and institutions, that invests in various financial assets like stocks, bonds, and short-term securities. It uses advanced trading, portfolio construction, and risk management techniques to improve returns. Hedge funds charge fees for their services, including a management fee, which covers daily operations and pays the fund manager a portion of profits. They may also charge a performance fee, a percentage of gains. These fees reduce overall returns.
Many hedge funds focus on taking long and short positions in individual stocks, a strategy that allows them to profit when a company’s share price is higher than its value or lower than its book value. Some hedge funds take longer-term positions in sectors or industries. Others, such as commodity trend advisers (CTAs), follow the price of a commodity or a basket of commodities and aim to profit when prices rise or fall.
Most hedge funds leverage their investment capital by buying securities on margin and using collateralized borrowing. More sophisticated funds, such as relative value funds, can negotiate credit lines that allow them to buy and sell securities without putting up the initial capital. This helps to minimize volatility in their portfolios and makes them more useful for investors during choppy market conditions.
Hedge funds can be controversial, particularly in times of crisis. Critics say that they can influence the direction of markets and, in some cases, manipulate prices. Some of these concerns are justified. In 2008, for example, hedge funds heavily invested in stocks performed poorly during the equity bear market that followed Lehman Brothers’ collapse.
Some hedge funds are regulated, which means they must report their transactions to regulators. Others are not regulated, and some hedge fund industry participants believe that unregulated funds have more freedom to manipulate and distort market movements. This has led to concerns about whether hedge funds can unfairly affect the market and calls for better sector regulations. The regulatory landscape is complex and varied worldwide. Some countries have significant trade and position reporting systems used to monitor hedge fund activities. Other countries have only a few dozen or fewer, and there is a widespread concern that hedge funds need to be thoroughly monitored. Various attempts have been made to develop a standard set of global regulations and requirements for hedge funds.
