During the stock market decline (or "crash") of October 2008, various media outlets have loudly identified the impact of massive hedge fund liquidations as a key ingredient to the huge equity sell-off.
However, as an "average" individual investor, how well do you really understand how or why these mysterious investment funds have acted in such a brazen manner?
So as a follow-up to "
Hedge Funds and You: What Individual Investors Need to Know," let's explore five things that you need to understand about hedge fund liquidations.
1. Meeting Redemptions
A hedge fund does not have to continually invest, as a mutual fund does. Rather, a hedge fund will allow its investors (typically "limited partners") to redeem all or part of their investments on a periodic basis. These redemptions usually follow very strict guidelines in accordance with the hedge fund operating agreement.Typically, limited partners can only withdraw funds on a quarterly or annual basis. Furthermore, advanced notice (30 or more days) for redemption to the hedge fund manager is often required. Just as there may be a "run on a bank" there can also be a run on a hedge fund -- especially when performance is poor. Thus when redemptions occur they tend to be clustered across the entire hedge fund industry in a small window of time.