The failure of a small hedge fund doesn't come as a particular surprise to anyone in the 澳洲幸运5官方开奖结果体彩网:financial servicesꦫ in🃏dustry, but the meltdown of a multi-billion fund certainly attracts most people's attention.

When such a 澳洲幸运5官方开奖结果体彩网:fund loses a staggering amount of money, say 20% or more in a matter of months, and sometimes weeks, the event is viewed as a disaster. Sure, the investors may have recovered 80% of their investments, but the issue at hand is simple: Most hedge funds are designed and sold on the premise that they will make a profit regardless꧃ of market conditions. Losses aren't even a consideration—they are simply not supposed to happen.

Losses that are of such magnitude that they trigger a flood of investor redemptions that force the fund to close are truly headline-grabbing 澳洲幸运5官方开奖结果体彩网:anomalies. Here we take a closer look at some high-profile hedge fund ♍meltdowns to help you become a well-informed investor.

Strategies Used by Hedge Funds

Hedge funds have always had a significant failure rate. Some strategies, such as 澳洲幸运5官方开奖结果体彩网:managed futures and short-only funds, typically have higher probabilities of failure given the risky nature of their business operations. High leverage is another facto𒀰r that 🎃can lead to hedge fund failure when the market moves in an unfavorable direction. It cannot be denied that failure is an accepted and understandable part of the process with the launch of speculative investments, but when large, popular funds are forced to close, there is a lesson for investors somewhere in the debacle.

While the following brief summaries won't capture all of the nuances of hedge fund trading strategies, they will give you a simplified overview of the events leading to these spectacular failures and losses. Most of the hedge fund fatalities discussed here occurred at the onset of the 21st century and were related to a strategy that involves the use of leverage and 澳洲幸运5官方开奖结果体彩网:derivatives to trade securities that the trader does not actually own.

Options, futures, margin, and other 澳洲幸运5官方开奖结果体彩网:financial instruments can be used to create leverage. Let's say you have $1,000 to invest. You could use the money to purchase 10 shares of a stock that trades at $100 per share. Or you could increase leverage by investing the $1,000 in five 澳洲幸运5官方开奖结果体彩网:options contracts that would enable you to control, but not own, 500 shares of stock. If the stock's pric💫e m♔oves in the direction that you anticipated, leverage serves to multiply your gains. If the stock moves against you, the losses can be staggering.

Amaranth Advisors

Although the collapse of 澳洲幸运5官方开奖结果体彩网:Long Term Capital Management (discussed below) is the most documented hedge fund failure, the fall of Amaranth Advisors marked the most significant loss of value. After attracting $9 billion worth of 澳洲幸运5官方开奖结果体彩网:assets under management, the hedge fund's energy 澳洲幸运5官方开奖结果体彩网:trading strategy failed as it lost over $6 billion on natural gas futures in 2006.

Faced with faulty risk models and weak natural gas prices due to mild winter conditions and a meek hurricane season, gas prices did not rebound to the required level to generate profits for the firm, and $5 billion dollars were lost within a single week. Following an intensive investigation by the 澳洲幸运5官方开奖结果体彩网:Commodity Futures𝐆 Trading Commission, Amaranth was charged with the attempted manipulation of natural gas futures prices.

Marin Capital

This high-flying California-based hedge fund attracted $1.7 billion in capital and put it to work using credit arbitrage and 澳洲幸运5官方开奖结果体彩网:convertible arbitrage to make a large bet on General Motors. Credit arbitrage managers invest in debt. When a company is concerned that one of its customers may not be able to repay a loan, the company can protect itself against loss by transferring the 澳洲幸运5官方开奖结果体彩网:credit risk to another party. In many cases, the other part🤪y is🦩 a hedge fund.

With convertible arbitrage, the fund manager purchases 澳洲幸运5官方开奖结果体彩网:convertible bonds, which can be redeemed for shares of 澳洲幸运5官方开奖结果体彩网:common stock, and shorts the underlying stock in the ho꧃pe of making a profit on the price difference between the securities. Since the two securities normally trade at similar prices, convertible arbitrage is generally considered a relatively low-risk strategy.

The exception occurs when the 澳洲幸运5官方开奖结果体彩网:share price goes down substantially, which is exactly what happened at Marin Capital. When General Motors' bonds were downgraded to junk status, the fund was crushed. On June 16, 2005, the fund's management sent a letter to 澳洲幸运5官方开奖结果体彩网:shareholders informing them that the fund would close due to a "lack of suitable investment opportunities".

Aman Capital

Aman Capital was set up in 2003 by top derivatives traders at UBS, the largest bank in Europe. It was intended to become Singapore's "flagship" in the hedge fund business, but leveraged trades in 澳洲幸运5官方开奖结果体彩网:credit derivatives resulted in an estimatedꦆ loss of hundreds of millions of𝕴 dollars.

The fund had only $242 million in assets remaining by March 2005. Investors continued to redeem assets, and the fund closed its doors in June 2005, issuing a statement published by London's Financial Times that "the fund is no longer trading." It also stated that whatever capital was left would be distributed to investors.

Tiger Funds

In 2000, 澳洲幸运5官方开奖结果体彩网:Julian Robertson's Tiger Management failed despite raising $6 billion in assets. A 澳洲幸运5官方开奖结果体彩网:value investor, Robertson placed big bets on stocks through a strategy that involved buying what he believed to be the most promising stocks in the markets and short selling what he viewed as the worst stocks.

This strategy hit a brick wall during the 澳洲幸运5官方开奖结果体彩网:bull market in technology. While Robertson shorted overpriced tech stocks that offered nothing but inflated 澳洲幸运5官方开奖结果体彩网:price-to-earnings ratios and no sign of profits on the horizon, the 澳洲幸运5官方开奖结果体彩网:greater fool theory prevailed and tech stocks continued to soar. Tiger Management suffered massive losses and a m𒆙an once viewed as hedge fund royalty was unceremoniously dethroned.

Long-Term Capital Management

The most famous hedge fund collapse involved Long-Term Capital Management (LTCM). The fund was founded in 1994 by John Meriwether (of 澳洲幸运5官方开奖结果体彩网:Salomon Brothers fame) and its principal players included two Nobel Memorial Prize-winning economists and a bevy of renowned financial services wizards. LTCM began trading with more than $1 billion of investor capital, attracting investors with the promise of an 澳洲幸运5官方开奖结果体彩网:arbitrage strategy that could take adva♍𓆏ntage of temporary changes in market behavior and, theoretically, reduce the risk level to zero.

The strategy was quite successful from 1994 to 1998, but when the Russian 澳洲幸运5官方开奖结果体彩网:financial markets entered a period of turmoil, LTCM made a big bet that the situation would quickly revert back to normal. LTCM was so sure this would happen that it used derivatives to take large, unhedged positions in the market, betting with money that it didn't actually have available if the markets moved against it.

When Russia defaulted on its debt in August 1998, LTCM was holding a significant position in Russian 澳洲幸运5官方开奖结果体彩网:government bonds (known by the acronym GKO). Despite the loss of hundreds of millions of dollars per day, LTCM's computer models recommended that it hold its positions. When the losses approached $4 billion, the federal government of the United States feared that the imminent collapse of LTCM would precipitate a larger 澳洲幸运5官方开奖结果体彩网:financial crisis and orchestrated a bailout to calm the markets.

A $3.65-billion loan fund was created, which enabled LTCM to survive the 澳洲幸运5官方开奖结果体彩网:market volatility and 澳洲幸运5官方开奖结果体彩网:liquidate in an orderly manner in early 2000.

The Bottom Line

Despite these well-publicized failures, global hedge fund assets continue to grow as total international assets under management amounts to approximately $2 trillion. These funds continue to lure investors with the prospect of steady returns, even in 澳洲幸运5官方开奖结果体彩网:bear markets. Some of them deliver as promised. Others at least provide 澳洲幸运5官方开奖结果体彩网:diversification by offering an investment that doesn't move in lockstep with the traditional finan𓃲cial markets. And of course, there are some hedge funds that fail.

Hedge funds may have a unique allure and offer a variety of strategies, but wise investors treat hedge funds the same way they treat any other investment - they look before they leap. Careful investors don't put all of their money into a single investment, and they pay attention to risk. If you are considering a hedge fund for your portfolio, conduct some research before you write a check, and don't invest in something you don't understand.

Most of all, be wary of the hype: when an investment promises to deliver something that sounds too good to be true, let common sense prevail and avoid it. If the opportunity looks good and sounds reasonable, don't let greed get the best of you. And finally, never put more into a speculative investment than you can comfortably afford to lose.

Correction-May 1, 2023: A previous version of this article incorrectly listed Bailey Coates Cromwell Fundꦡ as being one of the major hedge fund failures.