Hedge fund vs. Private Equity
6 min read

Hedge fund vs. Private Equity

The ordinary investor can make money only one way—an upmarket—while the larger investor can make it coming or going, up or down. Hedge funds are those structured to make money even when the market is going down!
Hedge fund vs. Private Equity

Wall Street's inaccessible and nearly completely segregated business has long been cut off from the average investor. Regardless, the field has been glorified and exaggerated in Hollywood movies like Wolf of Wallstreet for decades.

To make terminology more understandable for non-finance professionals, the world of finance may be divided into two categories: buy-side and sell-side.

Buy-side businesses manage and invest money on behalf of customers and/or partners.

Firms that provide brokerage and other services to the buy-side are referred to as sell-side. These are usually investment banks that offer sales and trading, equities research, and investment banking services.

Buy-side

An investment fund collects money from several different investors and puts it into assets such as bonds, stocks, real estate, or even diamonds.

The majority of investments are straightforward. You purchase stocks, bonds, real estate, and other assets. Then you have to wait. Because the market appreciates over time, your assets will most likely be worth more than you bought for shortly.

There are three major types of Investment Funds.

1.Hedge funds.    2.Private Equity.   3.Venture Capital.

In this article, we will look at Hedge funds and private equity

Private equity and hedge funds typically have similar investor bases since they are all over the place depending on the fund.

Hedge funds are unregulated pooled investment vehicles that use various methods and financial instruments to generate high returns even while the market is dropping.

They make money by taking advantage of investment opportunities created by financial asset mispricings, projected market trends, mergers and acquisitions, and other macroeconomic events.

Hedge funds use Long-Short strategies, which entails taking long positions, such as purchasing stocks, and taking short positions, such as selling stocks with borrowed money and repurchasing them at a lower price.

Most hedge funds are renowned for active investing with redemption periods of less than a year; thus, they tend to concentrate on public assets that they can swiftly shift in and out of if needed.

Private equity investments are often made in the private market, and it isn't easy to sell their holdings at any moment. They seek out companies that have the ability to rapidly increase their top line, regardless of cash flow (at least in the early stages).

In most cases, these companies must wait for a monetization event, such as a sale or an IPO, to gain value. As a result of this dynamic, their funds are structured so that the money is locked up for eight to ten years. The average investment horizon is four years, followed by a four-year harvesting period before investors in these funds get any of their money back.

The degree of risk that hedge funds and private equity firms take differs substantially. Both hedge funds and mutual funds balance their high-risk assets with safer ones, but hedge funds are riskier since they have a shorter timeframe.

Fee Structure

Hedge funds and Private Equity Firms adhere to the 2/20 rule.

The fees in a hedge fund are calculated using the idea of a high watermark. They impose a management fee of 1% to 2% and a 20% incentive fee. If Net Asset Value falls below the watermark in the year, then the hedge fund will not be entitled to any incentive.

Private equity companies charge management fees of 2% and an incentive fee of 20% to their investors. A hurdle rate applies to private equity funds. In addition, private equity funds are only rewarded when they exceed the hurdle rate.

Let's take a look at a handful of the most formidable hedge funds and private equity firms.

Hedge funds

BlackRock (BLK)

A New York-based financial company with billions of dollars in assets under management. The company's largest subsidiary, BlackRock Fund Advisors, has been in business since 1984 and manages $1.9 trillion in assets.

BlackRock Financial Management was established in 1994 and currently manages $2.25 trillion in assets. BlackRock Advisors, the company's internal hedge fund, was founded in 1994 and now manages $789.57 billion in assets.

Bridgewater Associates

A financial organization located in Westport, Connecticut, works with pension funds, foreign governments, central banks, university endowments, charitable organizations, and other institutional investors.
Ray Dalio, the firm's co-chair and co-chief investment officer, started it in 1975 from his two-bedroom New York apartment.

They claim to utilize "innovative tools" to figure out and implement their investing concepts. Transparency and inclusiveness are important parts of their culture, and the desire to learn more about management and business life.

The company offers four main funds:

  1. Pure Alpha, which focuses on active investment strategy
  2. Pure Alpha Major Markets, which targets a subset of opportunities that the Pure Alpha fund invests in
  3. All-Weather, which uses an asset allocation strategy
  4. Optimal Portfolio, which combines aspects of the All-Weather fund with active management

As of March 27, 2021, the fund had $154 billion under management.

Renaissance Technologies  (Medallion fund)


It isn't easy to be the greatest on Wall Street's ultra-competitive, dog-eat-dog environment. It's even more difficult to stay on top. One fund has quietly destroyed the market for decades, with margins that would make even  John Templeton blush!

Renaissance Technologies is a quantitative investment management firm that trades in global financial markets and is committed to providing extraordinary returns for its investors via the use of rigorous mathematical and statistical methodologies, with 66 percent average annual returns since 1988 - 39 percent after fees.

Those figures, which were good through the end of 2019, only got better in 2020, when the fund allegedly increased by 76 percent before fees.

Pershing Square Capital Management

Another of the world's most prestigious hedge fund firms. Pershing's return in 2020 was 70.2 percent, one of its greatest years ever. The fund's top position is the home improvement company Lowe's, which Bill Ackman runs. It's a small-cap fund with only seven companies, five of which are in the consumer discretionary sector.

Tiger Global Management

A global investment business specializing in public and private firms in the Internet, software, consumer, and financial technology sectors.

Chase Coleman, the company's founder, is a student of hedge fund icon Julian Robertson, whose Tiger Management, which began with $8 million in 1980 and grew to $22 billion in assets by the late 1990s, was famous on Wall Street.

Tiger Global was the top performer among major hedge funds in terms of declared long positions between 2016 and mid-2019, returning 22.4 percent annually.

Tiger Global had made numerous excellent investments over the years, including when Facebook (FB), Alibaba Group Holding (BABA), Uber (UBER), Airbnb, Stripe, Linked In, Juul, Flipkart, and Square (SQ) were still privately held.

Private equity

The Blackstone Group Inc

Private equity, real estate, public debt and equity, life sciences, growth equity, opportunistic, non-investment grade credit, real assets, and secondary funds are among Blackstone's $649 billion in assets under management, which is spread throughout the globe.

While private equity is its main investment category ($103 billion), financial data provider Refinitiv, electric power transmission systems firm Gates Corp., and theme park operator Merlin Entertainments are among its 95 portfolio companies.

The Carlyle Group Inc.

With $260 billion in assets under management across three business sectors and 437 investment vehicles, Carlyle is one of the world's largest and most diverse global investment organizations. The worldwide team, founded in 1987 in Washington, DC, now has over 1,800 experts working in 29 offices on five continents.

KKR & Co. Inc.

A leading global investment firm manages multiple alternative asset classes, including private equity, credit, and real assets, with strategic partners that manage hedge funds.

As of March 31, 2021, there were $367 billion in assets under management. The total gross IRR earned by KKR's private equity funds having at least 24 months of operation before March 31, 2021 (net IRR of 18.9%), compared to just 6.9% for the S&P 500 index during the same time.

Neuberger Berman Group LLC

Neuberger Berman was formed in 1939 with one goal in mind: to provide its clients with long-term investment outcomes. Long term impact is still their only goal today, fueled by a culture founded on deep foundational research, the pursuit of investing insight, and constant innovation on behalf of customers, and aided by the open flow of ideas across the business, with $433 billion in assets under management ($353 billion in public markets and $80 billion in private markets), and aided by the open flow of ideas across the business.

Warburg Pincus LLC

Warburg Pincus is a major worldwide growth-oriented private equity business. Private equity assets under management at the business total more than $64 billion. The firm's active portfolio, which includes more than 205 businesses, is very diverse in stage, industry, and region. It is a seasoned advisor to management teams looking to develop long-term businesses with long-term value.

Conclusion

Due to high costs and unimpressive returns for the category as a whole, these types of investments can be diversifiers for big sophisticated investors. Still, they are typically not acceptable or essential investments for smaller retail investors. Access remains a big barrier for most investors when investing in hedge funds and private equity firms. Investing in publicly listed private asset firms may be the best option for investors prepared to take on public market risk.