The vision of numerous investors is constructing enough net worth in order to put money into hedge funds. Nevertheless, hedge funds frequently underperform index funds. These mysterious funds are able to invest in just about anything, including derivatives that are complicated.
You will find many reasons to stick to index funds:
- Hedge funds have fees that are high. The sole people that consistently earn money from a hedge fund will be the fund managers. The conventional fee structure is 2% plus 20% of the profits. The managers continue to be paid in the event the fund loses money. In addition they take a huge chunk of any gains.
- Now you understand, why hedge fund managers tend to be billionaires.
- These fees are extremely difficult to beat. You are already 2% behind with the 2% fee structure regardless if you are in profit or loss. Losing 20% of your profits creates added burden when you do profit.
- Index funds, on the other hand, have many that have fees under 0.2% and they do not touch your profits.
- Hedge funds are now overly large. While index funds are not small either, this really is not a problem. Many hedge funds are now too large to take complete advantage of rewarding financial opportunities. The hedge fund can not put enough money into that opportunity to get the greatest yield, when a great chance presents itself.
- A significant portion of the funds in hedge funds must be invested in lower quality investments. The magnitude of a fund may be quite difficult to handle. Warren Buffett has frequently said he could bring in 100% per year in earnings on a million dollars. Investing several billion dollars is very restricting.
- The market is quite efficient. This merely means that the information available to investors has recently been incorporated into price of stocks. In theory, it really is impossible to conquer the market.
- Since there are investors that consistently outperform the market, the market is clearly not 100% efficient. Nonetheless, beating the market consistently is extremely ambitious. Plus, to make up for that additional 2% fee, hedge funds must beat the market by more than 2%. Remember there is also a 20% fee on profits.
- Hedge funds must overcome the market by a significant amount to offer an investor with a competitive return.
- When money is lost by hedge funds, a great deal can be lost by them. Hedge funds take on a high degree of risk. Hedge fund managers love risk. They are already guaranteed 2%. Any gains greatly raise their income. The higher level of risk is, in addition, essential to offer investors with high yields and to overcome the fee structure.
- The ratio of risk to returns is quite high.
- Hedge funds have a lot of exposure with short selling and margin accounts.
- Low liquidity makes it hard for the investor to get out immediately. If the future isn't looking bright, it can take time to get your investment out of the fund.
- Index funds have very many advantages. Index funds are able to supply comparable market yields with little of the danger found within hedge funds. The ability to guarantee market-matching yields with low fees can not be consistently matched by hedge funds.
Hedge funds are not able to consistently beat the market and defeat the fee structure that is oppressive. The index fund which is lowly is a great investment for the majority of investors. You do not need a million dollars of net worth to invest in an index fund.