By Harry Prabandham · Updated September 28, 2026
Investing & Markets
Hedge Fund Strategies: What They Do, What They Cost, Who Can Invest
Hedge funds are private pools that can short, borrow, and trade derivatives. They're generally limited to accredited investors and charge higher fees.
Hedge Fund Strategies: What They Do, What They Cost, Who Can Invest
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What is a hedge fund?
- A hedge fund is a privately offered investment pool, usually organized as a limited partnership or LLC, run by a professional manager.
- Unlike most mutual funds, hedge funds can use substantial leverage, short selling, and derivatives.
- Because they are sold privately, hedge funds are not registered with the SEC and provide less disclosure than registered funds.
- The name describes a structure, not a promise of hedging; many hedge funds carry significant market risk.
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Full Guide
What is a hedge fund?
- A hedge fund is a privately offered investment pool, usually organized as a limited partnership or LLC, run by a professional manager.
- Unlike most mutual funds, hedge funds can use substantial leverage, short selling, and derivatives.
- Because they are sold privately, hedge funds are not registered with the SEC and provide less disclosure than registered funds.
- The name describes a structure, not a promise of hedging; many hedge funds carry significant market risk.
What are the main hedge fund strategies?
- Long/short equity buys stocks a manager favors and shorts those it expects to lag, often keeping some net market exposure.
- Equity market-neutral funds try to offset long and short exposure so market direction matters less, though residual risks remain.
- Event-driven funds focus on mergers, restructurings, spin-offs, and bankruptcies.
- Global macro funds trade rates, currencies, commodities, and indexes based on economic views, while relative-value funds exploit pricing gaps between related securities.
How do hedge fund fees work?
- The traditional model charges an annual management fee on assets plus a performance fee, often called an incentive allocation, on profits.
- A high-water mark means a manager earns a performance fee only on gains above the fund's prior peak value.
- Fund-level expenses, such as legal, audit, and administration costs, may be charged on top of the stated fees.
- Fee terms are negotiable and vary widely, so compare them in the offering documents rather than assuming an industry norm.
Who can invest in a hedge fund?
- Most hedge funds accept only accredited investors, such as individuals with over $1 million in net worth excluding their home or $200,000 in income ($300,000 joint).
- Holders of certain securities licenses, such as the Series 7, 65, or 82, also qualify as accredited investors.
- Some funds accept only qualified purchasers, which for individuals generally means owning at least $5 million in investments.
- Performance fees charged by registered advisers are generally limited to clients who meet the SEC's qualified-client thresholds.
How liquid are hedge fund investments?
- Many funds impose an initial lock-up, after which redemptions are allowed only at set intervals with advance notice.
- Gates let a manager limit how much capital leaves in a single period, and some funds can suspend redemptions entirely.
- Side pockets can hold hard-to-value assets that investors cannot redeem until they are sold.
- Capital that may be needed on short notice is generally a poor match for these terms.
What should due diligence cover?
- Read the private placement memorandum, limited partnership agreement, and any side letters for fees, liquidity, and conflicts.
- Check the manager's Form ADV on the SEC's Investment Adviser Public Disclosure site for disciplinary history and custody arrangements.
- Confirm an independent administrator, a recognized auditor, and audited financial statements.
- Understand how much leverage the strategy uses and how assets are valued, especially illiquid positions.
Key takeaways
- Hedge funds are private, lightly disclosed pools that can use leverage, shorting, and derivatives.
- Access is generally limited to accredited investors or qualified purchasers.
- Fees, lock-ups, and gates can materially affect what investors keep and when they can exit.
- Results vary widely by manager, so operational and investment due diligence matter as much as strategy.
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