Hedge fund management focuses on buying or “going long” on some stocks while simultaneously selling short other stocks that look unattractive.

This aims to put their fund in a “market-neutral” position. By buying good stocks and shorting bad ones, you have aimed to hedge your stock market exposure. Theoretically, this means you make money regardless of which way the market moves.

Hedge fund management looks like this: If the market goes up, the good stocks should rise more than the weak ones, so the gains on the good stocks should exceed losses on the short sales. If the market falls, the bad stocks should fall more than the good, so gains on the short sales should exceed losses.

But profitable short selling requires superhuman timing, and the inevitable mistakes can be expensive.

Many hedge fund managers make things worse for themselves by trading too heavily, or using borrowed money, or using leverage from options, futures and other derivatives. No one can consistently time the market. When short sellers make timing mistakes, they can lose everything.

Hedge fund enthusiasts overlook one simple fact. Short selling is an extraordinarily hard way to make money. You don’t make it any easier by hedging your shorts with some stock purchases.

Learn more about topics like hedge fund management risk by following TSI Network. Boost your portfolio gains by using our three-part Successful Investor strategy:

• Invest mainly in well-established companies;
• Spread your money out across most if not all of the five main economic sectors (Manufacturing & Industry; Resources & Commodities; the Consumer sector; Finance; Utilities);
• Downplay or avoid stocks in the broker/media limelight.

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