Hedge Funds Defined

• Hedge funds are trading funds that typically require a large minimum investment. The fund manager uses the investment to actively trade stocks, bonds, etfs (exchange-traded funds), currencies, swaps, futures, or options. Hedge funds often "sell short," meaning that it is assumed they will be bought back at a lower amount than the price at which they sold. Short sellers make money if the stock goes down in price.
  
  

Private Equity Defined

• Private equity funds are similar to hedge funds in that they are both alternative investment vehicles that require large financial commitments. While hedge funds trade public securities like stocks, private equity funds buy privately owned companies whose stock does not actively trade on an exchange.
  
  

Leverage

• Both hedge funds and private equity funds use leverage, or borrowed funds, to amplify their return on investment. Leverage can just as easily increase positive returns as it can increase losses. Adding more leverage means adding more risk.
  
  

Source of Return

• Hedge funds earn their profits by actively trading--buying low and selling high. Private equity funds earn their profits from the operating profits of the companies in the portfolio, and ultimately from the sale of those companies to other funds or to the public.
  
  

Suitability

• Typically, alternative investments such as hedge funds and private equity funds are only suitable for wealthy investors. Most financial advisers will recommenced that clients place no more than 10 to 20 percent of their total net worth into these assets.