Hedge Fund

An aggressively managed portfolio of investments that uses advanced investment strategies such as leverage, long, short and derivative positions in both domestic and international markets with the goal of generating high returns (either in an absolute sense or over a specified market benchmark).

Legally, hedge funds are most often set up as private investment partnerships that are open to a limited number of investors and require a very large initial minimum investment. Investments in hedge funds are illiquid as they often require investors keep their money in the fund for at least one year.

For the most part, hedge funds (unlike mutual funds) are unregulated because they cater to sophisticated investors. In the U.S., laws require that the majority of investors in the fund be accredited. That is, they must earn a minimum amount of money annually and have a net worth of more than $1 million, along with a significant amount of investment knowledge. You can think of hedge funds as mutual funds for the super rich. They are similar to mutual funds in that investments are pooled and professionally managed, but differ in that the fund has far more flexibility in its investment strategies.

It is important to note that hedging is actually the practice of attempting to reduce risk, but the goal of most hedge funds is to maximize return on investment. The name is mostly historical, as the first hedge funds tried to hedge against the downside risk of a bear market by shorting the market (mutual funds generally can't enter into short positions as one of their primary goals). Nowadays, hedge funds use dozens of different strategies, so it isn't accurate to say that hedge funds just "hedge risk". In fact, because hedge fund managers make speculative investments, these funds can carry more risk than the overall market.

Feeder Fund

A fund that conducts virtually all of its investing through another fund (called the master fund).

This is similar to a fund-of-funds arrangement, except that the master fund manager is responsible for managing the underlying investments.

Often, an onshore feeder fund will invest in an offshore master fund. This is done so that the foreign master fund can gain a tax advantage for the domestic investors.

Master Fund

In general, an investment vehicle that enables individual investors to invest money into one or more underlying investments that are operated by professional managers.

Master funds can generally be categorized into three types: discretionary funds, fund of funds, or feeder funds. With this last type, shares would be sold to the public only by the feeder fund, but invested through the corresponding master fund.

Mutual Fund Cash Level

The percentage of a mutual fund's total assets that are currently held in cash or cash equivalents. While mutual fund cash level can refer to the cash level of an individual fund, it most often refers to the aggregate level of cash held across a wide demographic of mutual funds, which is used as a barometer of institutional buying power and market sentiment.

Most mutual funds need to keep around 5% cash available at all times in order to handle the day-to-day redemptions of shares. Cash levels outside of this range can signal a collective sense of fear or optimism about the broad markets.

For instance, if aggregate mutual fund cash levels are above 10%, this would signal that fund managers are generally bearish about the market and holding back on making new purchases. On the other hand, cash levels in the range of 5-8% would signal a generally bullish stance, as most available cash is being put to work in the market. Some investors view mutual fund cash levels as a contrarian indicator, as cash levels generally reach their peak at market bottoms.

Mutual Funds

Overview

There are dozens of magazines cluttering the shelves of your local book megastore with covers proclaiming "The Best Mutual Funds You'll Ever Find for This Year!", "Mutual Funds That Really Work in Crazy Markets Like This One!" and other equally over-capitalized headlines. Don't pay any attention to them. Almost everything that you'll ever need to know about mutual funds is contained in these four simple words: "Buy an index fund." If that seems too simple and not sufficiently attention grabbing, try it this way: "BUY AN INDEX FUND!"

Introduction to Mutual Funds

A mutual fund is simply a collection of stocks and/or bonds. Most mutual funds are "actively managed," meaning the mutual fund shareholders, through a yearly fee, pay a mutual fund manager to actively buy and sell stocks or bonds within the fund. Though you would think that mutual funds provide benefits to shareholders by hiring alleged "expert" stock pickers, the sad truth of the matter is that the vast majority of mutual funds underperform the average return of the stock market. Over time, because of their costs, approximately 80% of mutual funds will underperform the stock market's returns. Currently, most mutual funds do not make their fees very easy for shareholders to understand. (Founding Fool David Gardner testified in September 1998 before Congress on this very topic.

On the whole, the average mutual fund returns approximately 2% less per year to its shareholders than does the stock market in general. The stock market's historical returns are roughly 11% per year, but managed mutual fund shareholders as a group can expect to see any return reduced by the approximate costs imposed by the funds.