Comparison between Mutual Fund and Hedge Fund

Mutual Fund

Every individual aims to increase their wealth at a rapid speed by making smart investment choices. Mutual Funds and Hedge Funds are the most well-known investment alternatives in the market. Let’s discuss each of the above mentioned investment options in details with their points of difference.

Mutual Fund

Mutual Fund is a very popular investment vehicle which pools money from the investors with similar investment objective and invests in financial securities like- bonds, stocks etc. It is professionally managed by fund manager who decides where to invest and how much to invest. A small amount of money is charged by the fund house to manage the money. The minimum amount that you can invest in mutual fund is quite low and so individuals belonging to any income class can easily invest in it.

Hedge Fund

Hedge Fund is an investment option which collect funds privately from accredited investors. It uses diverse and aggressive risk management strategies to generate a good amount of return for the investors. This fund is managed by fund manager and charges a sum of money to manage the fund’s portfolio. The fund manager invests in a variety of assets to yield return. The minimum amount to invest in hedge fund is quite high. So, a very less number of individuals invest in this fund and they usually belong from a affluent sections of the society. Those who have high risk appetite and can afford the loss of the whole capital investment should invest in the hedge fund.

Now, lets explain the point of difference between mutual fund and hedge fund.

  • Return – Mutual Fund yields relative return depending on the benchmark. While the hedge fund aims to provide absolute return.   
  • Flexibility – The mutual fund manager cannot be flexible with his strategy. If he changes strategy, he will divert from the investment style. On the other hand, hedge fund manager can change his strategy whenever it’s needed.    
  • Liquidity – Mutual fund offers high liquidity, i.e you can redeem your money any time from open ended mutual fund. But hedge fund do not provide such liquidity. There is a lock-up provision and you can periodically get your money.   
  • Paperwork – Mutual fund is proposed through prospectus while a hedge fund is proposed via private employment memorandum.  
  • Investment – Usually, mutual fund invests in publicly traded financial securities like- bonds, stocks etc. On the other hand, hedge fund has no restriction and can trade in derivatives, real estates, public securities or stocks to generate return.
  • Type of Investor – The investment in mutual fund is usually through retail investors while hedge fund has accredited investors like -endowment fund, pension fund or high net worth people.
  • Management – The mutual funds are labeled as safer investment option and is not aggressively managed. But the hedge funds are generally managed aggressively.
  • Regulation – Mutual funds are regulated strictly under the legislation of SEBI,while hedge funds are not so strictly regulated.
  • Owners – The owner of mutual fund are generally very high. But only few invests in hedge fund.    
  • Fees – A mutual fund house charges a management fee depending on the percentage of assets managed. On the other hand, hedge fund charges a management fee based on the performance of the assets.
  • Leverage – Usually mutual funds do not use leverage. While use of leverage is one of the distinctive strategy of hedge funds.    
  • Transparency – Annual reports for the assets performance of mutual fund needs to be publicly disclosed making it fully transparent for the investors. While the investors only are provided with information. There is no need of any public disclosure.
  • Contribution of Fund Manager – There is no hard and fast rule that the fund manager of mutual fund will put his own money in the fund. But fund manager of hedge fund substantially invests his money in this fund.

Now let’s put this key difference of mutual fund and hedge fund in a nutshell.                                                                                                                  

Point of Difference Mutual Fund Hedge Fund         
  Return     Relative Return            Absolute Return         
             Flexibility                       Not so flexible                       Highly flexible         
             Liquidity                       High  liquidity (for open ended fund)                       Not liquid         
             Paperwork                       Proposed through prospectus                       Proposed through private employment memorandum         
             Investment                       Public traded instruments                       Derivative, stocks, public securities(no restriction)         
             Type of Investor                       Retail investors                                   High net worth investors with high degree of risk appetite         
             Management                       Less aggressively managed                       Aggressively managed         
             Regulation                       Strictly regulated under SEBI                       Very  limited regulation         
             Owners                       High(thousands)                       Few         
             Fees                       Based on assets’ performance                       Based on % of assets managed         
             Leverage                       Do not use                       Do use         
             Transparency                       Investors are given the information                       Annual reports of assets’ performance is disclosed         
             Contribution of Fund Manager                       Not mandatory                       Substantial involvement         

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