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Investing in a Hedge Fund

Hedge funds are becoming increasingly popular, despite their recent troubles. Should you dive in?

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This story appears in the October 2005 issue of Entrepreneur. Subscribe »

Hedge funds were back in the news in recent months, for all the wrong reasons. General Motors' stock rose quickly and its bond price fell--putting a serious squeeze on hedge funds that used the popular strategy of buying GM bonds while selling its GM stock short.

The episode goes a long way toward explaining how hedge funds differ from mutual funds. Many stock mutual funds own shares of GM stock. To justify their sky-high fees, though, hedge-fund managers have to be more creative. They use leverage to their advantage and go deep into their financial toolbox for techniques to squeeze out the slightest bit of extra return. Sometimes, those creative techniques turn around on them disastrously.

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