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Portfolio > Alternative Investments > Hedge Funds

The Hedge Fund Lady Comes A-Callin'

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A Practical Guide to Hedge Funds: How to profit in any market,” by Renata Neufeld, Toronto, Canada; Doubletree Press (Canada) Inc., 2004, 150 pages, US$14.95 (paperback).

TORONTO (–It is a safe bet that Renata Neufeld’s new book, “A Practical Guide to Hedge Funds: How to Profit in Any Market,” won’t top the New York Times best seller list any time soon.

However, it’s an equally good bet that dog-eared and Post-It Note-covered copies of this book will be turning up on the desks and bookshelves of investors for years to come.

Ms. Neufeld, who calls herself the “Hedge Fund Lady” and maintains a web site of that same name, has written a book that in simple and straightforward terms explains what hedge funds are and how they work in markets that in recent years have shown that big investment gains can be followed quickly by equally big investment losses.

Although Ms. Neufeld clearly thinks hedge funds have a place in almost any portfolio, the book manages to not come across as a sales pitch. Make no mistake: This book has been written from the perspective of a hedge fund advocate. Ms. Neufeld, a Canadian-based certified financial planner and investment adviser, started and later sold a boutique investment firm that offered the first hedge fund-linked notes in Canada. But just as she makes the case that not every hedge fund is a Long-Term Capital Management-in-waiting, Ms. Neufeld also spends time discussing the risks of hedge fund investing and important questions investors should ask.

Chapters 4 and 5 in the book really should be required reading for every journalist ever charged with writing a hedge fund story. Most reporters who do not write about hedge funds as part of their everyday beats usually get their descriptions of hedge funds only half-right. They make sure to play up the risks and the blow-ups and the fact that hedge funds presently are not required to register with the Securities and Exchange Commission as investment advisers. They also take care to note the occasional outsize returns some funds produce using leverage.

But as Ms. Neufeld points out in her book, and as most who work with the industry know well, most hedge funds are more like a scoop of vanilla ice cream than a triple-chocolate sundae. They tend to be less volatile than equity indexes and as a result they perform worse than those indexes when equities are hot and better than the indexes when equities are weak. In other words, most hedge funds produce consistent, if often unspectacular returns.

“That doesn’t mean I’m telling you to go out and sell everything you have right now and put it into hedge funds,” Ms. Neufeld writes in Chapter 3. “What I am saying is that if you want to reduce the overall volatility of your portfolio, but still want to be able to generate a return above T-bills, you can do that with hedge funds.”

Ms. Neufeld’s argument throughout her book essentially is that the long-only investment strategy most people have been taught and which they still follow doesn’t always work– and in fact is too volatile for most people’s risk tolerances.

To make her points, Ms. Neufeld uses straightforward, easy-to-understand examples. For instance, she explains short selling using a book-buying analogy and demystifies leverage using a story about fish bait. Simple? Yes. But also effective.

There are also explanations of the Sharpe ratio and its importance in evaluating hedge fund performance; a list of 18 different kinds of risks hedge fund investors face and what they mean; and a detailed breakdown of different hedge fund strategies with charts showing their historical performance and drawdowns versus the S&P 500 and MSCI World stock indexes.

Chapter 7 is all about due diligence and the kinds of questions to ask hedge fund managers before giving one of them any money. She says institutional investors such as pension funds typically spend between two and six months investigating hedge funds before investing.

“… the amount of time they [institutions] take should give you some indication as to the amount of time and effort involved in due diligence” Ms. Neufeld writes. “This isn’t an area you can skimp on, the risks are just too great.”

The final chapter includes interviews with 14 hedge fund investors in which they discuss their allocations, why they invested in hedge funds, whether they are likely to increase hedge fund allocations in the future and other topics. It’s really the perfect ending for this book because the investors’ experiences with hedge funds are so varied.

For instance, Ms. Neufeld asked each of the investors if their risk/return profile improved with the addition of hedge funds. Eight said yes, two said no and four said they weren’t sure or it was too early to tell. Ms. Neufeld also includes selected comments from each of the investors. They range from being absolutely sure hedge funds have improved the risk/return profile to being disappointed with the returns and lamenting the fact that the funds chosen were too correlated to equity markets.

This goes back to the due diligence discussed in Chapter 7, and the Sharpe ratios described in Chapter 3, and the strategies discussed in Chapter 6 and … well, you can see where this is going.

“A Practical Guide to Hedge Funds” by itself won’t make anyone a savvy hedge fund investor overnight, but it does provide one of the best jumping off points out there, and at US$14.95 it’s a good and inexpensive initial investment in the hedge fund market.

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