Basically the title. Hedge funds underperform every year as compared to broader ETFs like S&P500 by more than 10%! Given this, who invests in hedge funds? Are they stupid or am I stupid?
[https://www.aei.org/carpe-diem/the-sp-500-index-out-performed-hedge-funds-over-the-last-10-years-and-it-wasnt-even-close/](https://www.aei.org/carpe-diem/the-sp-500-index-out-performed-hedge-funds-over-the-last-10-years-and-it-wasnt-even-close/)
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Hedge funds, as the name indicates, are intended to hedge the market exposure. They use strategies that (should) produce returns uncorrelated with the overall market.
This is a massive benefit from the standpoint of diversification. You can greatly reduce the volatility (i.e., risk) of your overall portfolio by holding uncorrelated investment vehicles – e.g., hedge funds and market index. When the market goes down, the hedge fund investment may offset your losses by going up, and vice versa. (Notice that this does *not* reduce your expected returns, only the risk!)
These sort of market-risk-free instruments tend not to appear “naturally” on the market, but have to be produced synthetically with sophisticated methods. Hence, investors are willing to pay a big price for them.
Though, if the constant underperformance does continue, it is bound to have an effect on investors willingness to invest in hedge funds, as you mentioned yourself.
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