Accredited Investors in Hedge Funds

The Securities and Exchange Commission originally coined the term “Accredited Investor” which falls under Regular D and it refers to investors who are financially-secure in the sense that they have no need for the protection which is typically provided by various government filings, acting as a sort of safety net against suffering losses. There are certain things that you will need to do in order to qualify as an accredited investor, including earning an individual income of at least $200,000 or more each year. You can also qualify for this title if you have a joint income that is at least $300,000 or more and you expect to be able to maintain this same level of income on a regular basis.

Those who have a net worth of more than $1 million will also be able to qualify as an accredited investor, whether it is by yourself or a joint party such as a spouse. If you are either an executive officer or director of the issuer of a security which is offered to investors you will also be to qualify for the prestigious financial title. Investors who are said to be “accredited” can function without SEC restrictions which are placed on those who do not have this title. Although it is commonly believed that in order to invest in a hedge fund you need to be an accredited investor, although that is not always the case.

The original misconception comes from the requirements from both Regulation D as well as the Investment Company Act which both state that all people involved in a hedge fund must be considered accredited investors and are therefore exempt from many of the normal regulations. The reason that most people who are in hedge funds are accredited is because they are either closely associated with the securities being issued (in either a director or general partner position) or they are of considerable wealth with a high net worth or annual income.

Anyone who is interested in getting involved with a hedge fund will want to know about all of the risks that are associated with these, because there is a significant chance that you could end up losing quite a bit of money in one of these. Most of the time people who invest in hedge funds that experience loss are not affected in a major way because of their considerable wealth, but if you do not have millions of dollars to throw around it is important to know about all of the risks involved in hedge funds. One of the reasons that hedge funds can pose so much of a risk to investors is because it is standard practice to borrow money or even trade on margin.

Hedge funds use short selling in a very unique way in the sense that losses in this type of fund can be limitless in the event of a losing bet. There is a lot of risk associated with hedge funds, especially considering the likelihood of taking on underlying investments which come with very high degrees of risk. High-yield bonds as well as distressed securities are one of the prime examples of this type of risk which only the super wealthy are usually willing to take. You will find that hedge funds are private and have very few requirements which demand public transparency. This can make it extremely difficult for investors to come up with trading strategies as well as portfolio diversification. Put options are very often an integral aspect of these funds and if they expire the fund can experience major financial difficulties. There are also multiple issues regarding conflict of interest with advisors taking performance fees which can be used to create a portfolio of higher risk than investors would like to take, potentially resulting in massive losses.

Those who invest in hedge funds are usually required to be “sophisticated investors”, meaning they meet certain criteria, which earns them the title of “accredited”. Even though there are quite a few risks associated with hedge funds, there are a number of benefits as well, such as leverage which can significantly amplify profits but also losses. Short-selling can open up a variety of investment opportunities which people who are involved with these funds to make even more money and increase overall profits. Even though the investments are usually considered to be riskier, they can also yield higher returns. It is important to do research on how hedge funds are structured and run before you make a decision as to whether or not you want to get involved with one.

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