Modern Hedge Fund Trading Styles

Hedge Fund Trading

Hedge fund trading has been growing in popularity in recent years, fuelled by investor enthusiasm, media attention and the allure associated with large volumes of money, sophisticated strategies and high paying jobs. Unlike more conservative funds, hedge funds employ a diverse range of hedge fund strategies. The mandates followed by hedge funds can be based on any number of criteria. Some of the popular approaches are discussed below.

Market long: Hedge Funds buy companies they feel are going up in price. This can be based on fundamental criteria related to valuation, growth prospects or any dynamics that research indicates will lead to an increase in the price of the security. Market opinion and belief varies in the investment community. Some traders and companies use a pure technical approach based on technical analysis and chart reading.

Hedge Fund Trading

Market Short: This is where technical analysis or fundamentals indicate the stock is likely to decrease in value. Whether it is a long term trade or short term trade, securities are sold short and a profit is derived when the security decreases in value. An example of a short trade is where a company believes the US dollar is going down in value. A positioned is opened short to take advantage of the anticipated decline in the currency.

Market Neutral: This is where companies employ a sophisticated combination of long and short strategies that seeks to capitalize on the movement in prices. Derivatives can be used in combination with physical products for this style of trading. Pairs trading and merger arbitrage are some examples of hedge fund strategies to take advantage of market neutral movements. Long oil and short the stock market is an example of combining a sector based approach with the broad market.

Arbitrage: Quantative trading that takes advantage of the mispricing of securities or market anomalies has grown immensely over the last few years. Sophisticated program trading and computer algorithm trading is replacing manual traders. It is estimated that over 75% of the trading that takes place on the New York Stock Exchange is computer related. Recent research indicates that this trend is set to continue. The modern day hedge fund trader is becoming increasingly computer oriented with company hiring diverting a large amount of attention to mathematics and physic PhD candidates.

Hedge fund trading will continue to increase as world wide capital flows seek investment vehicles and managers to invest pools of capital. The above article merely introduces some basic approaches used by funds. Many more approaches are widely used but are subject to a great deal of secrecy due to their inherent intellectual value.

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