This section aims to look at hedge fund indices, what they are and why they are important. Whenever we are discussing hedge funds, it becomes essential to discuss this, as they are an integral part of the system. Without a thorough understanding of the concept, it simply would not be possible to enter the hedge fund market or even to understand it while viewing it from the sidelines.
History Of Hedge Fund Index
Lets begin by taking a look at the history behind hedge fund indices so that we can understand why they originated in the first place. Hedge fund indices start appearing on the scene back in the early 1990s. This was a period of rapid growth for the industry as it was in a phase of expansion. More and more people were getting interested in the concept of alternative investment and many of them saw hedge funds as the next best opportunity. Due to this sharp increase in the demand for investing in hedge funds, indices came into being.
How does it Work?
Just like any other index used by any other industry, hedge fund indices do more or less the same thing. They are meant to represent changes in the industry and show how much a certain something has been affected in the recent past. Indices are an important indicator of how things are and are reflective of how the industry has been doing recently. What makes them so useful is the fact that they do not only hold importance in the present, but also have strong influences and implications for the future.
Indices can help people gauge current conditions, which can in turn help them to make important decisions, which will affect their future. They were one of the first tools that came to the forefront, which could be used to see how well a fund, strategy, or fund manager was performing in a business that until then was so exclusive and preferred to keep things under wraps.
Determining the Hedge Fund Index
The process of calculating and determining these indices is a complex and difficult task, which is why only selected people with the necessary skills and knowledge are trusted with the job. What they do is they take into account a large amount of data, which has been provided to them by fund managers or by trusted third parties. They then assimilate this data and organize it so that it can be used efficiently. For the calculation of these indices complex mathematical formulae are used which make employ concepts such as weighted averages and summations.
Even though these indices do offer insight into the field, they do not always portray the exact situation. They may be overstating or understating the significance of certain things depending upon the data that was used as well as the formula that was chosen. This is because at times, the records from which the sample data is drawn may be skewed. For instance, if too many funds that are soaring have been acting as the source of this data, while those funds that have not been doing so well have chosen to stay quiet, then naturally the outcome will not be a balanced representation.
Types of Hedge Fund Index
There are several different kinds of indices and they depict the performance of various hedging strategies and methodologies that have been taken up in order to effectively track the market and all of its happenings. Some of the indices that are widely used include:
- Convertible arbitrage index
- Distressed securities index
- Technology index
- Event driven index
- Emerging markets index.
There are plenty more, each of which have a specific role to play. They all shed light on different areas within the industry and point out how that particular area is doing. This gives clues as to how they might do in the future and what effect they could have on the hedge fund industry as a whole.