Pippa Middleton -- younger sister of Kate Middleton, aka the Duchess of Cambridge -- is sporting an engagement ring with a ginormous central stone surrounded by an array of smaller diamonds. One London jeweler says the rock could be 3 carats, another says the bling could be worth as much as $263,000.
The ring's buyer is Pippa's fiancé, James Matthews, CEO of Eden Rock Management, which he co-founded. It's a hedge fund.
What's a hedge fund, you ask? It's a way to invest money, and it's run by a hedge fund manager. And those people make a LOT of money, which you've probably guessed from his taste in jewelry.
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With the potential to rake in some of the biggest salaries in the financial industry, some at the absolute top of the hedge fund game can make nearly $4 billion.
Hedge funds are specifically a way for those with very deep pockets -- usually a small group of wealthy individuals or large institutions -- to invest. People who have more at stake generally go for mutual funds, investment vehicles that hold the stocks of many companies, as a way of smoothing out some of the risk.
Hedge funds are not as heavily regulated by the Securities and Exchange Commission (SEC) as mutual funds. They're allowed to seek profit in lots of markets by borrowing to increase their investment (which also increases risk) and speculate in ways that mutual funds do not.
Hedge fund investors allow the fund manager to decide how the money is going to be invested, and the managers rely on a number of hard-to-understand strategies.
In a long/short, for example, the manager can purchase stocks she feels are undervalued, or short-sell stocks she believes are overvalued.
Why this is confusing: In short-selling, the seller doesn't, in fact, own the security being sold. The seller has only "borrowed" the security. When sellers believe the price of a security is going to drop, they short-sell so they can buy the asset back at a better price.
How this could work in your world: Say you have the right to sell a house you don't own, and you think gentrification is a long way off. Short-sell the house, and buy it back at a price that factors in the lack of a Starbucks in the area.
Some hedge funds invest in distressed securities. Those are shares of companies that are bankrupt or about to declare bankruptcy. Often, the hedge fund is heavily involved in helping the company to work out its loans or restructure the debt. The hedge fund staffers may take positions on a company's board of directors.
Why this is confusing: Why invest money in something that's failing? As so often happens, the answer can be found in the movies.
Remember the old holiday movie "It's a Wonderful Life," when Uncle Billy loses the Building & Loan's $8,000? If Mr. Potter had been a hedge fund manager instead of a small-town banker and real estate developer, he could have taken over the Building & Loan at a bargain-basement price, knowing the value would soar once the small matter of the missing funds was taken care of.
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Whole lot of leeway
Hedge funds generally try to minimize taxes for their investors and for hedge fund managers.
The SEC is much stricter with other types of investment managers, and the reason is to protect investors. One mutual fund rule, for example, says a mutual fund investment manager must maintain a certain level of liquidity. That way, if investors want to get their money out of the fund, they can.
In contrast, some hedge fund managers may not have to register or file public reports with the SEC. When hedge funds, for example, invest in the operations or debt of a company, but not directly in securities, there's nothing to regulate.