The two most attractive perks of becoming a part of a hedge fund are definitely the salary and the lifestyle. Hedge fund traders definitely enjoy a comfortable paycheck, and there is really no limit as to how much you can earn. A collateral perk here is that since hedge fund clients belong to the extremely wealthy, you can expect to take part in life’s greater luxuries.
These are definitely some eye-catching figures that entice many young and ambitious students to become hedge fund traders. However, a factor to reaching this salary is knowing how hedge funds are actually able to make money, and how it is divided among their employees.
What are hedge funds?
Essentially, hedge funds are pools of capital coming from various investors. These funds are utilised by hedge fund traders or otherwise known as portfolio managers in order to create profit in different financial markets. They trade various types of instruments, such as derivatives, equity, debt, and many others. These traders are able to make money in both rising and falling markets, and they pretty much have the same job as those proprietary traders in investment banks. The key difference, however, is that hedge funds trade investors’ money rather than making use of the investment bank’s money.
What do hedge fund traders do, and how do you become one?
Hedge fund traders are the masters of the finance world. They are expected to know the market inside and out, as well as know the various ways one can play with them in order to bring in the biggest revenue. Their function is incredibly important since one right move can bring in millions, and one wrong one can straight-up spell a financial disaster for the hedge fund.
Hedge fund traders are in charge of monitoring the stock market and determining which assets are worth buying. While there may be a misconception that this is just all about figuring out which assets are likely to flourish over time, that is not the end-all, be-all of hedge fund trading. There are various investment techniques that are involved in order to make money for the hedge fund! These are leverage, hedging, short-selling, etc.
This is a high-risk, high-reward type of job that requires traders to keep constant and consistent tabs on their investments. It also requires that the trader is quick-witted and able to make sound, rational decisions in a snap. Teamwork and being able to communicate well also have an impact since the hedge fund managers need to be able to work well with their team of analysts that are in charge of research, and traders that actually do the leg work of trading.
In order to become a successful hedge fund trader or manager, it is important that you start as early as you can in order to get your foot in the door. We recommend that you get as many internships as you can, and gain valuable work experience. These do not necessarily have to be in hedge fund management companies, but anything that familiarises you with the stock market will be great. By the time you actually enter a hedge fund management company, you should have the financial lingo down perfectly.
Networking is also an important part of becoming a trader. If you know anyone in your life right now who works in hedge funds, be sure to talk to them and find out if this is really what you want. You can gain a lot of additional real-life knowledge of the lifestyle and what it involves. Apart from helping you make your decision in pursuing this path, they may be able to even give you valuable tips and tricks to have your first years in a hedge fund going smoothly.
How are hedge funds earning money, and how do they distribute it to their employees?
The main source of revenue for hedge funds comes from the fees they collect from the assets they manage. Hedge funds are those that trade in financial markets in the representation of clients who then pay the hedge funds annual fees. They function in a similar way to mutual funds, but they are confronted by fewer restrictions as to what they can invest in.
As for the fees that hedge funds are being paid, these are usually around 2% of the assets under management per year, with an additional performance fee. In terms of the performance fee, this is generally around 20% of any returns that it makes for the clients. Do note that this varies per hedge fund, but this is usually the ballpark percentage that most require. With these percentages, it is not a surprise then that a hedge fund with big clients brings in a lot of revenue.
For the division of these aforementioned revenues, the following is usually the framework for each hedge fund:
- perational costs take up about 20% to 40% of the revenue. These include the logistic needs such as office location, technology, and the staff that keeps the hedge fund running. It is important to take note that this isn’t a fixed percentage, because the larger the fund is, the lower the percentage!
- The biggest employee chunk goes to the senior portfolio manager who overlooks the junior traders.
- The owner of the hedge fund can get up to 30% of the income. The rule of thumb here is that the owner will get a higher percentage, the larger the fund is. This is a very performance-based percentage. Since the owner gets what is left over after costs, he or she may suffer after a bad year.
It is important to keep in mind that this is only a very loose guide as to how the percentages work within the hedge fund. There are different compensation structures in each, so treat the guide as just a potential framework.
Now that you know how the money flows within a hedge fund, you may be wondering how much of it traders are actually able to get.
How much do traders really earn?
If you are entering the hedge fund scene for the first time, then you will probably be stepping in as an analyst first, which can generally be your job title for 4 to 8 years. The salary for this is typically the same as that of a typical investment banker which ranges from $100-300k.
After gaining valuable experience and knowledge as an analyst, you will move up to become a junior trader or portfolio manager. You will probably be handling assets under management of around $50-$250m, which means that if you are able to earn 10% returns, your income can range from $0.6-$3.8m per year. This is only just the icing on top of your base salary which, if you fail to make good returns, can easily threaten your tenure.
Money matters in hedge funds thus, you should be wary of your performance. If you find yourself consecutively losing money and making bad investment decisions, you can easily get fired. There is already a risk when you get one or two bad financial quarters, so it is important that you stay on top of your game.
On the flip side, if you do well in your job and exceed expectations, the amount you manage will be able to rapidly increase. You may be seeing yourself move up to the senior manager post in just a few years!
If you put together all of the information we have provided above, you will be able to have a rough estimate that the mean earnings of the job could range from about $400k-$900k per year. That is the average expected salary of an analyst. Of course, this figure will grow the better your performance is, and the longer you are in the hedge fund asset management world.
Some hedge funds actually are compelled to disclose their compensation so that you are able to find out about it before applying. If you want to find out what some of the hedge funds in London really pay, then check this article out.
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