Hedge fund strategies: Making sense of it all

(July 2007) The hedge fund world is a universe in itself. There are many different strategies, with different objectives, but too often they are lumped together under the overarching “hedge funds” heading. Let’s make some sense of hedge fund strategies.

First things first — there are three basic hedge fund strategies:

a) Relative value strategies: These are mainly arbitrage-based and are non-directional — they do not depend on market direction to take market positions. Relative value strategies include Convertible Arbitrage, Fixed Income Arbitrage and Equity Market-Neutral strategies.

b) Event-driven strategies: These may be directional or non-directional strategies designed to avail themselves of specific market events. Event-driven strategies include Merger (Risk) Arbitrage and Distressed/High-Yield strategies.

c) Opportunistic strategies: These are directional strategies aiming to “take a view” (often a leveraged one) on market trends, currencies, or other market-based opportunities. Opportunistic strategies include Global Macro, Equity Hedge (Long/Short Equity), Managed Futures (or CTA), and Emerging Markets strategies.

In addition to these individual strategies, some hedge funds combine several strategies within a hedge fund and offer their investors a “combo platter” of strategies, arguably improving diversification and reducing the risk associated with any given strategy.

Moreover, funds of hedge funds (FoHFs) constitute a fund “superstructure,” which itself contains an assortment of independent hedge funds. The FoHF manager’s job is to astutely combine well-researched (through stringent due diligence!) hedge funds to create a diversified, risk-managed hedge fund mix.

The following breakdown will help you understand the relative importance of different hedge fund strategies:

I’ll review strategies in greater depth in future columns. In the meantime, you can get great information from the AIMA Canada Hedge Fund Primer, downloadable free of charge (along with other highly valuable publications) here.

Pierre Saint-Laurent, CFA, CAIA, is president of AssetCounsel Inc., a financial services consultancy with offices in Toronto and Montreal. He can be reached at PSL@AssetCounsel.com.

(07/09/07)