Trading Strategies

Hedge Fund: Four characteristics

1. Avoid attention Stay under the radar Maintain flexibility in investment style Not entangled into regulation 2. Performance fee Incentive to hustle hard and beat competition 3. Hedging Long and short Hedge out market risk 4. Leverage Borrow money to expand bets

Categorizing Hedge Fund Investment Strategies

In this section we define the key issues in defining hedge fund strategies and some of the broader strategy groupings that have been suggested. We will focus on specific, more narrowly defined strategies in later sections. Fung and Hsieh (1997) classify according to style and location Common approach is to classify according to whether they are directional or market neutral Amenc, Martellini and Vaissie (2002) distinguish between return enhancers and risk reducer strategies Another binary system classifies whether systematic or discretionary investment approach Segmented according to the asset class

It should be noted that any attempt to establish a formal system of classification for hedge fund strategies is limited by the fact that these strategies are continually changing. There is no consensus on a formal system of classifying hedge funds. Hedge Fund Research (HRF), one of the main hedge fund databases, lists 30 separate strategies (with some overlap between them). Another widely used database, TASS Research, seperates hedge funds into 17 strategy types. Table 1 below compares the strategy classifications used by the four largest index providers.

Index Provider

CSFB/ Tremont SPECIFIC STRATEGY Event Driven Event Driven Multi-Strategy Merger/Risk Arbitrage Distressed Special Situation Arbitrage Statistical Arbitrage Specialist Credit Convertible Arbitrage Fixed Income Arbitrage Relative Value Arbitrage

MSCI

Standard Hedge & Poors Fund Research

STRATEGY CLASS Event Driven

Relative Value

Long/Short Long/Short equity Dedicated Short-sellers Equity Market Neutral Equity Hedge Long bias No bias Short bias Variable bias Tactical Global Macro Managed Futures Equity/Long Location Developed Markets Emerging Markets Global

Multiple Strategy Table 1: An introduction to Hedge Fund Strategies (Gregory Connor and Teo Lasarte).

Definition 1.1 Arbitrage. Arbitrage opportunity is the ability to make a profit in a financial market without risk and without net investment of capital. Definition 1.2 Relative Value. Eases the strict definition of arbitrage (i.e. hedge out only market risk).

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