Ultimate Guide to Hedge Funds in India

Not many people are aware of what hedge funds are. But it is not complicated to understand it either. Learn everything important about hedge funds and their differences with mutual funds and private equity funds, in this comprehensive guide.

Hedge funds in india

Introduction 

An amateur investor will assume hedge funds are similar to mutual funds. But in reality, they are not. There has been an exponential increase in the use of hedge funds in India since the advent of the 21st century. Similar to mutual funds, hedge funds use a pool of money from investors but unlike mutual funds, hedge funds have more freedom to aggressively invest to gain higher returns. The higher returns may be measured against a specific benchmark in the market, or by itself in an absolute sense. Therefore, the goal of hedge funds is to provide higher returns by leveraging the power of derivatives both in the domestic and international markets. 

In the beginning, at least, not every investor will be able to access hedge funds in India. It is because, unlike mutual funds, these are less regulated by the government authorities. Overall the hedge funds have lesser regulations than most other forms of investment. 

The strategies that hedge funds use are quite unconventional since the goal is to get higher returns than normal. Some of the strategies of hedge funds in India include market neutral, long-short equity, merger arbitrage, and volatility arbitrage. 

The portfolio of hedge funds typically consists of bonds, equities, currencies, derivatives, and other convertible securities. Hence, more often, hedge funds in India are known as alternate investments. The concept of hedge funds is to ‘hedge’ (A hedge is an investment that is made with the intention of reducing the risk of adverse price movements in an asset) the money of the investor against the volatility of the market, and thus they need quite unconventional and aggressive management. 

What are Hedge Funds in India?

Just remember this as a rule of thumb – hedge funds are mutual funds that are managed by private experts in India. They are costlier to invest in, the charges are on the higher side too. The biggest factor to consider is that SEBI does not protect hedge fund investments in India. Hedge funds in India are more suitable for seasoned investors and those who are well-off financially. If you are an investor in hedge funds, you need to have a lot of funds and a great appetite for risk because the hedge fund manager is going to buy and sell stakes at a very high frequency compared to stocks and mutual funds. 

To understand hedge funds in India in more detail, it is important to know what does SEBI consider as alternative investments: 

The Category 1:

This category consists of alternative investment funds that provide early-stage ventures, startups, SMEs, social ventures, or other areas which the government deems as desirable economically or socially. 

The Category 2:

These are alternative investment funds that include debt funds or private equity funds that have no form of concessions or specific incentives by the Government or any other recognized regulator. 

The Category 3: 

These are alternative investment funds that use complex strategies and formulas for trading and investment. They may use the leverage of both listed and unlisted derivatives. This category includes hedge funds, which are used for short-term and/or higher gains, and those that have no form of concessions or specific incentives by the Government or any other recognized regulator. 

Note that, as far as securities laws are concerned, there is no specific definition for hedge funds in India. However, you can recognize if an investment instrument is a hedge fund if they fulfill some basic criteria. 

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How Do Hedge Funds Work in India?

Identifying and differentiating hedge funds in India is no big task. Watch out for the following characteristics: 

  • Hedge funds usually have higher investment requirements. Recall that the hedge funds are only available for seasoned investors and established organizations. Typically, the minimum investment for a hedge fund is 1 crore. There is also a cap on the maximum investors for a particular hedge fund and this is typically capped at 1000. If you want to start a hedge fund yourself, you will need to have a minimum of 20 crores in the pool of funds. 
  • Like some mutual funds, even hedge funds in India have a lock-in period. Typically, they are for a 1 year period. Even after the lock-in period, the hedge funds in India can only be withdrawn in installments. These installments maybe twice a month, quarterly through the year. The specific frequency depends on the hedge fund scheme. 
  • Since the amount involved in hedge funds in India is high – the fees for the fund manager are high too. They are usually entitled to a 1% fee of the total asset that they manage along with 10% to 15% investment generated through the year. If you are investing in any hedge fund in India, it is advisable to check the fee structure in detail as they can be slightly more complex than stocks or mutual funds. 
  • Like stocks or mutual funds, there is no specific benchmark against which the performance of hedge funds in India can be measured. As a result, hedge funds are known as absolute returns, and you need to view the fund by the return in value it offers. 
  • In India, SEBI is responsible for laying down the specific guidelines for hedge funds in India. 

Hedge funds in India are typically a product of the skill of the manager. It all depends on how aggressively and smartly they put their money. Their aim will always be to reduce the exposure to the volatility of the market and generate as good returns as possible. They diversify the funds and mostly distribute the funds in small market sectors. Some of the activities which hedge fund managers use are: 

  • The manager might sell some shares at the current price hoping to acquire them in the future at a lower price. 
  • Hedge fund managers in India typically use the inefficient pricing of different securities to their advantage. 
  • They might invest the funds in a major upcoming event such as mergers, spin-offs, acquisitions. 
  • The hedge fund manager in India may find some companies who might sell their securities at a discounted price to solve the financial stress the company is in. After weighing the proposition, the manager may decide to invest the funds there. 

Differences Between Mutual Fund and Hedge Fund

Both are instruments for investments, but there are some fundamental differences between the two. It is important to understand the differences between mutual funds and hedge funds in India if you want to progress in your investment journey: 

Sr. No.Hedge Funds Mutual Funds 
1The hedge fund manager almost always actively manages the funds. Active management of investments involves a constant effort to beat the highs of the lows of the market by specifically picking certain pathways to investments. The mutual fund manager may actively or passively manage the pool of funds. Passive management of investments involves mimicking the return of a particular index by purchasing some or all the holdings of the index.
2Hedge funds in India are not accessible to the mainstream, common investors. There are certain limitations for investors to be eligible to be a part of hedge funds. For instance, a minimum net-worth of crores may be necessary for an individual to invest in hedge funds. Mutual funds are one of the easiest forms of investments for the common public. In India, the public can invest in mutual funds for as low as INR 100. Even the sign-up for mutual funds can happen with a set of basic identity proving documents. 
3The expenses of hedge funds are much higher than mutual funds. To put in context, the expenses of a hedge fund is more than 2%. Hedge funds also may take a certain percentage of the profits made by the investors through the fund.Mutual funds have lower expenses, most of the time, less than 1%. They do not take any percentage of the profits made by the investors through the fund. 
4The design of hedge funds is such that they can provide gains and returns even during an economic decline or a recession. Even during a bear market, a hedge fund might return around 4% – 5%. In this same scenario, a stock fund might reduce by 10%. On the other hand, the performance of mutual funds strongly reflects the performance of the market. If the economy is going through a recession, typically mutual funds also give little or negative returns.
5If you are a high-net worth individual and are eligible for hedge funds, it could be a good option for you if you can afford the expenses and profit sharing.If you are the common public, mutual funds are a great way to get exposure to the stock market, by investing as little as INR 100.

Differences Between Hedge Fund and Private Equity 

Both hedge funds and private equity funds are aggressive modes of investments. The private equity funds invest in private companies or start-ups in return for an equity share in the company. The investment provided to the private company may be used to enhance the business of the company, expand it or make the business process more efficient. Private equity requires large funds, that’s why the majority of private equity investors are big corporations or accredited investors. 

Sr. No.Private Equity Funds Hedge Funds 
1Since private equity funds invest in private companies, they have more influence in how these assets are managed Although hedge funds invest high capitals, the influence on how the assets are managed are less
2The private equity funds are more long-term investments. They invest in companies and start-ups with the aim of getting returns in the long-run through the progress of the companyHedge funds in India are held for short or medium spans of time. Hedge fund companies are involved in portfolios that provide quick returns. 
3Compared to hedge funds, private equity funds are not that risky. There is a comprehensive due diligence done before any investing for equitySince hedge funds aim to provide greater returns on short span of time, the hedge funds in India are considered riskier
4The amount you get from private equity funds is free from tax The amount you earn from hedge funds in India is taxed
5Investors actively participate in the company functioning, in private equity funds Investors in hedge funds are only passively involved 
6The management takes around 1% or 2% of the financial assets that they manage activelyThe management takes around 1% or 2% of the financial assets that they manage, and they may even take a share of the investors’ profits
7The private equity funds exit from an investment by selling their stakes in the company The hedge fund management companies exit by selling the owned securities in a public exchange for stocks 
8The private equity funds can invest 100% in another company Hedge funds in India holders are typically minor shareholders and they can make a 50% investment maximum, in a company

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How To Become a Hedge Fund Manager?

Being a hedge fund manager is a highly responsible job because you will be actively managing the hard-earned money of investors. A hedge fund manager needs to have essential skills and experience in financial analysis and management. They must ensure that they stick to the terms and conditions of the fund and give good returns to the clients. 

You can begin with a Bachelor’s degree in any field, but it is always advantageous to pursue one in the financial field. This enables you to develop the skills early. Some of the initial Bachelor’s degrees you can consider are B.Com and BBA.

You can consider pursuing a Chartered Financial Analyst course. This is one of the most useful courses for upcoming hedge fund managers. You can also consider pursuing Chartered Alternative Investment Analyst or Chartered Hedge Fund Associate. This can help you in your journey to becoming a hedge fund manager. 

If you plan to go for a Master’s degree, the best option you have is to do the MBA. Consider specializations of Finance, Investment Banking, etc. 

All the education does not guarantee you to become a hedge fund manager. To begin with, you need to equip yourself with the necessary skills and knowledge through online and offline resources, from an early age. Another very important step to becoming a hedge fund manager is to intern at a hedge fund management company where you can learn the skills and functions of hedge funds in India. This vital learning is important for you to professionally practice as a hedge fund manager. 

How To Start A Hedge Fund in India?

SEBI has laid down detailed regulations for registering a hedge fund in India if you are a trust, a company, a limited liability company, or a private limited company. Before going ahead, check out the eligibility criteria under each of these categories you belong to. 

If you are a company, for instance, you need to provide a write-up on the activities of the applicant. You need to share the profile of all the directors and their shareholding patterns. This information must be enclosed with address proof and identity proof of the directors. 

You need to prove that the company is permitted to carry the activity of an alternative investment fund. This can be done through the Memorandum of Association and more specifically attaching the clause that allows this form of an alternative investment fund. 

You must show whether the company applicant is prohibited or not by the Memorandum of Association or any of its articles to ask the public to subscribe to the company’s securities. 

Check out SEBI’s website and other trusted legal resources to understand the exact documents, terms, and conditions concerning setting up a hedge fund in India. 

At the time of writing(June, 2021), these are the following hedge funds in India:

Sr. No.Company Name
1India Capital Fund
2Indea Capital
India Deep Value Fund
4Naissance Jaipur (India) Fund 
Absolute India Fund 
Passport India Fund 
HGF India Continuum Fund 
Fair Value 
Avatar India Management
10 Monsoon Value Capital Equity Fund 
11Atyant Capital
12Vashishta South Asia Fund Limited
13 Karma Capital Management
14Atlantis India Opportunities Fund

How To Invest in Hedge Funds in India?

Before you approach a hedge fund company in India, be aware of the complexity of understanding this financial product as a whole. Also, hedge funds are risky since they aim to gather more returns in a short period. The hedge fund is expensive with a minimum value in the order of crores. Lastly, you need to be prepared for the hedge funds to face the sips and highs because the markets associated with hedge funds are quite volatile. 

Final Thoughts 

If you are eligible to invest in hedge funds in India, make sure to do a thorough research of how hedge funds work, the different hedge funds operating in India, and their terms and conditions. If possible, speak to existing hedge fund investors about their experience. It is a big decision in your financial journey to invest in hedge funds, so do it with due diligence.