Inside Hedge Funds

So, it is 1949. A former Marxist journalist named Alfred Winslow Jones is sitting in a small New York office, scribbling an idea that would soon reshape how the wealthiest people and institutions on Earth invest their fortunes. Jones had no formal training in finance, yet he quietly invented the hedge fund, a tool that now manages over $4.5 trillion globally.

Jones’s big idea was radical for the time. Back then, most investors played a simple game. They bought stocks or commodities, hoped they would rise, and sold when they needed cash. If the market crashed, they lost big. Jones wondered, what if you could make money whether the market went up or down? So he tested a strategy that sounds common now: he bought stocks he believed would climb but also “shorted” stocks he thought would fall. His small $100,000 experiment opened a door that Wall Street has been sprinting through ever since.

Hedge funds are not your average mutual fund. Sure, they also pool money from investors, but that is where the similarities stop. Hedge funds invest in almost anything: stocks, corporate debt, cattle futures, bankrupt businesses, or complicated derivatives. If there is a way to squeeze profit out of an asset, a hedge fund is probably doing it.

Unlike mutual funds, hedge funds are exclusive. Only accredited investors are allowed in. We are talking wealthy families, large pension funds like CalPERS, and university endowments like Harvard’s or Yale’s. Minimum investments can start at $100,000 but often run into the millions. The payoff is access to aggressive, complex strategies meant to grow wealth faster than traditional funds can.

Hedge funds famously charge steep fees. The standard “2 and 20” means managers take 2 percent of assets every year just to manage the money, plus 20 percent of any profits. For the best-performing funds, investors gladly pay because the returns can be huge.

For all their secrecy, hedge funds have real-world effects on regular people’s lives. When a massive pension fund puts billions into hedge funds, retirees stand to benefit if those risky bets pay off. The California Public Employees’ Retirement System, or CalPERS, for example, manages about $500 billion. Even a small boost in returns can add billions to the pot that pays out retirees’ monthly checks.

University endowments do the same. When a hedge fund makes strong gains, it can mean more scholarships for students and better research funding. In this way, even though most people will never invest directly in a hedge fund, many indirectly rely on them.

Some hedge funds are so large they could swallow entire companies. Citadel, the world’s biggest as of August 2024, manages nearly $400 billion. Founded by Ken Griffin, Citadel became famous for its high-speed trades and massive bets on market swings. Then there is AQR with over $130 billion, known for turning academic theories into real trades. D.E. Shaw, Two Sigma, Elliot, Farallon, Man, Ruffer — each of these names represents billions under management and armies of mathematicians, economists, and traders looking for an edge. “The Man Who Solved the Market” by Gregory Zuckerman, one of the better books I read this year, was all about Renaissance Technologies, arguably the Hedge Fund with the best returns in the world.

Their strategies are diverse. Some funds bet on bonds and interest rates. Others chase distressed companies on the brink of collapse, hoping to flip them for profit. Some use powerful algorithms to hunt tiny price differences in milliseconds.

Hedge funds are powerful but risky. Some become legends. Others crash spectacularly. Long-Term Capital Management in the 1990s used brilliant models but needed a Federal Reserve bailout when it collapsed. More recently, the GameStop frenzy in 2021 exposed how even sophisticated hedge funds can get blindsided by retail traders on Reddit.

These funds can amplify market swings and make or break entire companies. This is partly why the SEC still bars average investors from putting their savings into hedge funds. The complexity and stakes are just too high.

In 1949, Alfred Winslow Jones had no idea his scribbled idea would build an industry worth trillions. Hedge funds today sit at the intersection of wealth and risk. They shape markets and reward risk-takers. For every retiree who gets a bigger pension check or student who lands a scholarship, there is a hedge fund somewhere in the background, hunting for the next win.