Absolute Returns Summary provides a free book summary, key takeaways, review, best quotes and author biography of Alexander M. Ineichen’s book regarding hedge funds. Engage in hedge fund investing only if you understand the risks entirely. If you don’t, then avoid playing.

Hedge funds first came into news during the early 1990s. It was when George Soros turned into a household name in Europe. People were blaming his hedge fund for destroying the exchange rate system. Likewise, in the U.S. there was a hedge fund named Long Term Capital Management (LTCM). It gave an impression of being unbeatable. However, it failed dramatically. Hedge fund investing is the most high risk and high return. But, not always. Hedge funds were once restricted to a fortunate elite set of investors. However, they’re now opening their gates to the less elite speculators too.

Remember, hedge funds aren’t like other funds. So, all those considering this investment need a definite guide. Just like this book Absolute Returns. Alexander M. Ineichen is the author of this book. He’s neither an alarmist nor a salesman. Also, he doesn’t pull any punches when telling the risks of hedge funds. Instead, he’s very straightforward about the surprising success of few hedge-fund managers. But, he also indicates some popular misconceptions about them. We highly recommend this guide to be a precious addition to an investor’s library.

“Don’t lose money. If you don’t know the facts, don’t play. I just wait until there is money around the corner, and all I have to do is go over there and pick it up.”

This Summary Will Help You

The past and track record of hedge funds;

All basic investment queries about hedge funds; and

Many likely answers to each

Take-Aways

In 1949, Alfred Winslow Jones created the 1 st hedge fund.

hedge fund. Warren Buffett also created a fund which matches today’s view of a hedge fund. It was in the 1950s.

Absolute return fund managers play both the short-and-long side of the market.

Expert hedge fund managers are specialists. Examining their performance and motivation is tough.

Markets are never perfect. Hence, active managers may outdo them sometimes.

Traders assume an offsetting status in related instruments is having predictable performance.

Impartial market strategies are a type of arbitrage. They seek to exploit market imperfections by holding both short and long positions.

Such strategies have proved profitable.

The risk of one investor is the opportunity for another.

Hedge funds may be a significant change or just another bubble.

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Absolute Returns Summary

A Half Century of Hedge Fund History

The beginning

Sociologist Alfred Winslow introduced the first hedge fund in 1949. Winslow began a limited partnership for trading equities. In his trading, Winslow sometimes went long while sometimes sold short. Short sellers are involved in borrowing a share and then selling it. They expect to re-buy it at a lower price. And then, give it back to the lender. Traders “going long” expect prices to increase. Those who sell short predict the prices to decrease. Winslow was remarkable at profiting both ways. Other hedge funds soon followed.

Warren Buffett and His Fund

Warren Buffett set-up a partnership in 1956. It was similar to a hedge fund in many ways. But, the only difference was that Warren wasn’t a short seller. His returns from 1956-1969 were 29.5% compounded. Warren’s compensation was based on how the fund performed. His investors got a return of 6% plus 75% of any revenues above 6%. Warren got 25% of the revenues above 6%. He discarded common beliefs. His expertise was in identifying and buying shares which were undervalued. However, the market swelled during the late 1960s. And, he was unable to find much-undervalued stocks. Hence, he dissolved his partnership rather than changing his practice.

George Soros and His Hedge Fund

George Soros was another famous hedge fund investor. He was even more significant at it compared to Buffett. His compound yearly return was 31.6% from 1969-2001. During the 1970s, very few other, majorly small, hedge funds were present. A few fund managers created hedge-funds in the 1980s. But, these funds spread like mushrooms in the 90s. That time, money managers were starting their shops, leaving big firms. Hedge funds multiplied during this era. Also, a broad variety of investment methods came up.

Absolute Return

Most money managers have some benchmark. For example, many evaluate themselves against the S&P 500. If the index falls, but their funds fall less, then they succeed. Also, if their investments make more than the index, again they succeed.

“Absolute return” money managers don’t assess themselves against any benchmark. Their goal is to earn money regardless of how the market is doing. They might use derivative or some other tools for exploiting a downward trend. Plus, they might also go short or long. Opposed to common misconception, such managers aren’t cowboys. They’re very conservative. Often, they use sophisticated financial tools. But, not for speculating. Instead, they use them to hedge. Absolute return managers are very sensitive to risk. Hence, they’re also more suitable to manage it compared to long-only traders.

“Ir­re­spec­tive of the history of hedge funds or whether hedge funds are leading or lagging the es­tab­lish­ment, the pursuit of absolute returns is probably as old as civ­i­liza­tion and trade itself. However, so is lem­ming-like trend following.”

The Hedge Fund Industry

Getting trustworthy information about hedge fund sector is robust. Some say that there’re only 2,500 hedge funds across the world. In contrast, some estimate the number to be 6,000. The figures vary as old ones conclude and new ones form. Collectively, hedge funds manage maybe around $500-$600bn in assets. This is negligible compared to $15.9 trillion in assets of pension funds. Hedge funds in Europe make up for 11% of the industry’s total managed assets.

Hedge Funds attained a crucial landmark in 1999. The California Public Employees’ Retirement System (CalPERS) declared to invest in these funds. Now, pension funds, companies, individual investors all invest in hedge funds.

Criticism of Hedge Funds

The success of hedge funds is quite surprising. Primarily because of their negative publicity. These funds are subject to some just criticism due to:

Magnitude – When hedge funds become huge, they’ve trouble giving positive or superior returns.

– When hedge funds become huge, they’ve trouble giving positive or superior returns. Leverage – Hedge funds with massive leverage threaten the stability of the whole financial system. Long Term Capital Management (LTCM) was the most notable case.

– Hedge funds with massive leverage threaten the stability of the whole financial system. Long Term Capital Management (LTCM) was the most notable case. Transparency – Transparency helps 3 rd parties to check risks. But, hedge funds aren’t transparent. Hence, it’s tough to know what they’re up to.

– Transparency helps 3 parties to check risks. But, hedge funds aren’t transparent. Hence, it’s tough to know what they’re up to. Stability of funding – A “run on the bank” situation may lead to grave market disturbance. Many LTCMs were, in fact, good trades. They may have performed if investors weren’t hasty to take out their money.

– A “run on the bank” situation may lead to grave market disturbance. Many LTCMs were, in fact, good trades. They may have performed if investors weren’t hasty to take out their money. Pride – Hedge fund managers require a lot of self-confidence. It’s because they get paid highly when they’re correct. But, this confidence may soon turn into arrogance. And, this is the start of the disaster.

Top Hedge Fund Investing Styles of 2001

The top 3 hedge fund investing strategies, assessed by their results in 2001, were:

Equity Long/Short – $228bn in assets, accounting for 46% of overall hedge-fund assets.

– $228bn in assets, accounting for 46% of overall hedge-fund assets. Event – $108bn, around 22% of overall.

– $108bn, around 22% of overall. Macro, global – $40bn, 8% of overall.

“Capitalism is the astounding belief that the most wickedest of men will do the most wickedest of things for the greatest good of everyone.”

Myths about Hedge Funds

A hedge fund’s average age has fallen with newer hedge funds arriving. This means that picking great managers is getting tougher. The arena is so crowded that it’s easy to mistake luck for skill. Still, many myths about these funds must be busted.

Hedge funds are high-risk investments – Any investment could be high-risk if not diversified. Naturally, hedge funds aren’t riskier than transportation or technology shares. Diversification is critical in each case.

– Any investment could be high-risk if not diversified. Naturally, hedge funds aren’t riskier than transportation or technology shares. Diversification is critical in each case. Hedge funds are gambles – Though these funds speculate, they aren’t always speculative. All investments are speculation. But, hedge funds could be more defending of the principal than others. Why? Because they hedge.

– Though these funds speculate, they aren’t always speculative. All investments are speculation. But, hedge funds could be more defending of the principal than others. Why? Because they hedge. Hedge funds do great regardless of market moves – Hedge funds, like other investments, have their good and bad years.

– Hedge funds, like other investments, have their good and bad years. Hedge funds always hedge – Their managers decide when and when not to hedge. They take risks when they feel it be a significant investment.

– Their managers decide when and when not to hedge. They take risks when they feel it be a significant investment. Short and long are opposites – Regarding investing, long and short aren’t each other’s reflection. Short positions carry distinct risk profile compared to long positions. Plus, short positions need more caution in handling. But, most short/long investors see a pure long tactic to be speculative.

Hedge funds often, but not always, beat mutual funds. This rings a bell because most MFs can’t exploit a downturn or save against one. Hedge funds don’t have any benchmark. The only measure of their success is the cash won. A good hedge fund performance benchmark is not likely to be developed. Because such a standard should:

Reflect the series of hedge fund approaches and styles,

Be transparent and open to measurement, and

Be able to be replicated passively

Hedge fund styles are very diverse to suit a standard. The best funds outperform because great managers run them. Investing in these funds have its demerits. The lack of transparency is the most notable one. But, hedge funds are not expensive than other investments. Especially regarding performance. To some degree, the success of hedge funds rubs in the face of the efficient market premise. But, this theory often itself flies in the face of clearly observable things.

Styles

Some of the common hedge fund styles are:

Convertible arbitrage – In this area, most managers buy warrants, bonds or convertible bonds. This way they hedge away the market risk. There’s a formula to compute the fair value relation between the share and convertible. If the convertible is less priced than stock, they buy.

– In this area, most managers buy warrants, bonds or convertible bonds. This way they hedge away the market risk. There’s a formula to compute the fair value relation between the share and convertible. If the convertible is less priced than stock, they buy. Fixed income arbitrage – This group uses a similar method to bond and fixed income investments.

– This group uses a similar method to bond and fixed income investments. Market-neutral equity – The goal is to exploit market imperfections by holding equal short-and-long positions. Managers use a statistical method to analyze historical price. They then find great potential trades.

– The goal is to exploit market imperfections by holding equal short-and-long positions. Managers use a statistical method to analyze historical price. They then find great potential trades. Risk arbitrage – This school bets on a merger, spin-off or acquisition. They buy the shares of the target. Thus, they short the buyer to seize the spread. Robert Rubin, former American Treasury Secretary, was a famous risk arbitrator.

– This school bets on a merger, spin-off or acquisition. They buy the shares of the target. Thus, they short the buyer to seize the spread. Robert Rubin, former American Treasury Secretary, was a famous risk arbitrator. Distress – Managers in this business assume positions in bankrupt or troubled firms. Such securities trade at a price below their core value. It’s because most investors avoid them. This creates opportunities. Why? Because the many groups of securities which these firms issue don’t have reasonable pricing.

– Managers in this business assume positions in bankrupt or troubled firms. Such securities trade at a price below their core value. It’s because most investors avoid them. This creates opportunities. Why? Because the many groups of securities which these firms issue don’t have reasonable pricing. Equity long/short – This style has several variations. In general, managers assume a directional stance on securities. They buy those which they think will rise. And, they sell short those which they believe will fall. This isn’t the same as market neutral. Market neutral managers don’t have a general view of the market. Instead, they want to remove any hint of such view from their portfolio.

– This style has several variations. In general, managers assume a directional stance on securities. They buy those which they think will rise. And, they sell short those which they believe will fall. This isn’t the same as market neutral. Market neutral managers don’t have a general view of the market. Instead, they want to remove any hint of such view from their portfolio. Sector specialization – Players use a short/long method to a specific sub-group of securities. For example, healthcare shares or technology shares.

– Players use a short/long method to a specific sub-group of securities. For example, healthcare shares or technology shares. Macro – Such funds are flexible and unrestricted.

– Such funds are flexible and unrestricted. Short – Short players intend to find overvalued stocks. They then borrow them only to sell for their worth in the market. Then they re-purchase them when the market finds their real worth.

– Short players intend to find overvalued stocks. They then borrow them only to sell for their worth in the market. Then they re-purchase them when the market finds their real worth. Emerging markets – These players trade the stocks of less developed markets. For example, Eastern Europe, Africa, South America, and Southeast Asia.

– These players trade the stocks of less developed markets. For example, Eastern Europe, Africa, South America, and Southeast Asia. Fund of funds – This isn’t an investment style exactly. Instead, it’s a way to invest in hedge funds. A fund of funds puts money in funds which many managers manage. They mix and match to get a specific overall balance of return and risk.

“Risk control and capital preser­va­tion are among the main areas where the best hedge funds con­sis­tently excel.”

Hedge Funds – A Paradigm Shift or a Bubble?

According to some, hedge funds could be a significant shift in investing. In contrast, others say that they are just another bubble that may pop anytime. But, the truth lies somewhere in between. Hedge funds are neither sure things nor highly risky. So, investors must know what risk they’re taking before they take it. And, if they are not sure, then they should not invest. This is the best advice for prospective investors.

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Absolute Returns Review

“Hedge funds” is the main theme and topic under discussion in this book. Alexander M. Ineichen has tried to explain few core concepts and issues associated with hedge funds. He described that there are various investment types, but the hedge fund is quite different from any other investment type. It is not a usual kind of investment fund. So, the author believes that if someone is trying to find how to make a mark in hedge funds or looking to understand the concepts, then the most viable thing is to read this book. It explains all the relevant ideas are distinguishing them from any other ideas for investments. The author started from scratch by stating the record of hedge funds. The first hedge fund was developed in 19949 by Alfred Winslow. In financial investment, the name of Warren Buffet is a credible one. In the 1950s, a fund was developed by Warren, which was more like the hedge fund.

The good thing about hedge funds is that they can provide a lot of absolute returns. The role of fund managers is also crucial in this regard. They are the ones, which deal with short as well as the long aspect of a given market. The book talked about markets in more considerable manner. The most important thing to keep in mind is markets, which can never be perfect in any given situation. So, people cannot wait for an ideal investment situation, where they can show their cards and make viable investments. The other great idea in the books says that when one investor is facing difficulty in making investments decisions, the other one has some benefits. The hedge funds are different, and their unique changes can help to accommodate stakeholders. A person looking at several questions in mind can be able to get an answer for all those hedge funds questions so that if anyone wants investment in parking.

Absolute Returns Quotes

“Don’t lose money. If you don’t know the facts, don’t play. I just wait until there is money around the corner, and all I have to do is go over there and pick it up.”

“Ir­re­spec­tive of the history of hedge funds or whether hedge funds are leading or lagging the es­tab­lish­ment, the pursuit of absolute returns is probably as old as civ­i­liza­tion and trade itself. However, so is lem­ming-like trend following.”

“Capitalism is the astounding belief that the most wickedest of men will do the most wickedest of things for the greatest good of everyone.”

“Risk control and capital preser­va­tion are among the main areas where the best hedge funds con­sis­tently excel.”

“Either the convertible was too cheap or equity was too expensively valued by the market. To exploit this in­ef­fi­ciency, convertible ar­bi­trageurs sold expensive equity and bought the comparably cheap convertible bonds.”

“Buy and sell decisions are based on ex­pec­ta­tions about future prices, and future prices, in turn, are contingent on present buy and sell decisions.”

“Hedge fund managers, especially in the rel­a­tive-value arena, make money by exploiting objective market in­ef­fi­cien­cies.”

“A small, well-per­form­ing fund attracts assets. Unlike mutual funds, many absolute return strategies have limited capacity.”

“Active funds un­der­per­form passive funds because active money management is more costly than passive money management.”

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About the Author

Alexander M. Ineichen is a CFA by qualification. He is the Head of Equity Derivatives Research besides being the Managing Director at UBS Warburg.

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