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What Is The Difference Between A Hedge Fund and a Managed Account.

March 3, 2021 by ForexFunds.com Leave a Comment

Forex hedge funds and managed accounts are two structures through which an investor may delegate foreign-exchange trading to a professional manager. They can pursue similar strategies, but they are organized differently, and the differences matter. This article is educational only; it is not investment advice, legal advice, or tax advice, and nothing here is a recommendation of either structure.

The core difference is ownership. A hedge fund is a pooled vehicle: investors contribute capital and receive an interest in the fund itself, and it is the fund, not the individual investor, that owns the underlying positions. A managed account is the opposite arrangement: the account is opened in the investor’s own name, the investor owns what is in it, and the investor may grant a manager authority to make trades in it. The scope of that authority, and how it is granted and revoked, depend on the exact account and management agreements.

Ownership drives custody and control. In a pooled fund, decisions about the portfolio, and the terms for contributing or withdrawing capital, are governed by the fund’s offering and governing documents. In a managed account, the assets remain in the investor’s account; any right or process to change or revoke trading authority is governed by the account and management agreements. In both cases, the actual rights an investor holds are defined by the specific documents signed, not by the label on the structure.

Transparency and fees follow the same pattern. A managed account gives the investor direct visibility into the account’s positions and activity, subject to the arrangements with the broker and manager. A fund reports to its investors in the manner its documents prescribe. Fee arrangements exist in both structures and vary; what an investor actually pays is set by the governing documents or the management agreement, and should be read there rather than assumed.

Hedge funds are often associated with techniques such as leverage, short positions, and derivatives. Whether a particular fund may use them is defined by its own documents, and a managed account’s permitted strategy is likewise defined by its agreement. These techniques can magnify losses as well as gains. Neither structure, by itself, produces better performance or lower risk than the other; outcomes depend on the strategy, the manager, the costs, and the markets.

The two structures organize exposure differently, but neither label establishes diversification. Whether a portfolio is diversified depends on the actual positions held, their concentrations and correlations, the strategy pursued, and the rest of the investor’s portfolio, not on whether the vehicle is a fund or an account. How either structure fits a portfolio is a judgment each investor must make independently, ideally with a qualified professional. Trading foreign exchange involves substantial risk of loss and is not suitable for every investor.

Related articles on this site cover the Forex market, correlation, the Sharpe ratio, and how to evaluate a manager’s track record.

Forex Managed Account Program Disclosure Document

September 22, 2018 by ForexFunds.com Leave a Comment

A disclosure document is the document through which a managed-account program describes itself to prospective investors. Whether a particular program provides one, and what it must contain, depends on the jurisdiction, the program’s structure, and the manager’s registration status or exemptions, so this article describes what a prospective investor can look for where such a document is provided. It is educational only; it is not investment advice or legal advice, and nothing here is a statement of what any particular manager is required to do.

Where a disclosure document is provided, several subjects are worth reading closely. The identity and background of the manager and the program: who is trading, and what experience and business history they describe. The strategy and the markets: what is traded, in which instruments, and with what approach. The material risks: the document’s own description of what can go wrong, which deserves at least as much attention as anything else in it.

Fees and expenses are a further subject: what the manager charges, what other costs the account bears, and how those charges are calculated. So is the presentation of performance, where one exists: the basis on which figures are calculated, whether they are actual or hypothetical, and the limitations the document itself places on them. Past performance is not indicative of future results, and a presentation that does not explain its own basis is difficult to evaluate.

Conflicts of interest, the service providers involved, the scope of the trading authority the investor grants, and the terms for withdrawals and termination, where applicable, round out the reading. In every case the governing language is in the exact documents themselves; a summary, including this one, is not a substitute for them.

Two habits serve a prospective reader well. First, if something material seems missing or unclear, ask the manager and expect a clear answer. Second, treat claims that cannot be verified from the documents with caution, and take time with the written risk disclosures rather than treating them as a formality.

Whether any program fits a particular portfolio is a judgment each investor must make independently, ideally with a qualified professional. Trading foreign exchange involves substantial risk of loss and is not suitable for every investor.

Related articles on this site cover the Forex market, managed accounts and hedge funds, notional funding, and how to evaluate a manager’s track record.

The Trouble With Forex Trading Track Records

August 6, 2018 by ForexFunds.com Leave a Comment

The trouble with Forex track records is that they are challenging to verify. One easy way to confirm a track record is by giving it a “common sense” audit. Ask yourself these two simple questions:

1. Does the Forex track record deviate from the average track record of other well-established funds?

2. Is the record too consistent over time relative to other programs whose records are verified and audited?

If the manager of a Forex fund or managed account program states “my program is up ++20% per month for the last 12 months!”; you can be almost 100% sure that the manager is lying, or he has only a few hundred dollars under management, or it is a proprietary trading operation that does not need the public’s investment dollar.

The Sharpe Ratio and Risk Adjusted Performance

August 6, 2018 by ForexFunds.com Leave a Comment

The Sharpe ratio is a widely used measure of risk-adjusted performance. Instead of asking only how much an investment returned, it asks how much it returned relative to the variability an investor endured to get that return. This article is educational only; it is not investment advice, and nothing here is a recommendation of any fund, account, or strategy.

The calculation has three inputs. Take the investment’s rate of return over a period, subtract a benchmark rate, conventionally the return on a short-term instrument often described as the risk-free rate, and divide the difference by the standard deviation of the investment’s returns over the same period. The result expresses excess return per unit of return variability. The phrase risk-free is a modeling convention for that benchmark input, not a description of any investment available to anyone: every investment involves risk, and no return is assured.

Read carefully, the ratio compares smoothness, not just size. As a hypothetical illustration, if two programs report the same return over the same period, the one whose returns varied less along the way shows the higher Sharpe ratio. That is the ratio doing its job: rewarding the same result achieved with less measured volatility.

A higher ratio is only meaningful under consistent inputs. Comparisons require the same measurement period, the same return frequency, the same benchmark rate, and the same annualization method; change any of these and the numbers are no longer comparable. The benchmark rate itself moves with market conditions, which is why this article uses no specific figure for it.

The distinction between measurement and prediction matters most. Computed from realized returns, the Sharpe ratio is a historical description of one period. Computed from projected returns, it is only as good as the projections, which are estimates, not facts. In neither form does the ratio predict future returns, and a strong historical ratio is not an assurance of future results.

The ratio also has limits as a risk measure. Standard deviation treats upside and downside variability alike, and returns that arrive in rare large moves can make a track record look smoother than the underlying risk was. A short measurement window can flatter a strategy that has not yet seen difficult conditions. For these reasons, the Sharpe ratio is one input into due diligence alongside the manager’s disclosures and track record, not a verdict by itself.

How any measure applies to a particular portfolio is a judgment each investor must make independently, ideally with a qualified professional. Trading foreign exchange involves substantial risk of loss and is not suitable for every investor.

At A Glance: Forex Managed Account Track Records

August 6, 2018 by ForexFunds.com Leave a Comment

Not too long ago, a trader asked me to review his track record, but I only had 5-minutes to do the review. Is it possible to examine a track record in five minutes? The answer is: yes. It should just take a few minutes to analyze a well-documented Forex track record*.

Unfortunately, most track records are poorly organized and difficult to glean any information from regardless of how long the reviewer has to peruse the trade statistics. Well-organized track records will tell the reviewer the following (not listed in the order of importance):

The Forex trader’s name, location and the name of the program.
Regulatory jurisdiction.
Brokers name and location.
Amount of assets that are under management.
Peak to trough draw-down.
Length of the trading program.
Month by month returns and AUM.

Notional Funding and Managed Forex Accounts: Creative Funding Strategies

August 6, 2018 by ForexFunds.com Leave a Comment

Notional funding is an arrangement sometimes used in managed Forex accounts in which the account is traded as if it were larger than the cash actually deposited. Understanding it requires separating two numbers that are easy to confuse. This article is educational only; it is not investment advice, and nothing here is a recommendation of any funding arrangement.

The first number is the actual funds: the cash the investor has deposited in the account. The second is the nominal, or notional, account size: the level at which the investor and manager have agreed the account will be traded, as set out in their agreements. When the nominal size exceeds the actual funds, the difference is the notional portion, and the essential point is that the notional portion is not cash. It is an agreed trading level, not money sitting in the account.

That difference changes how gains and losses feel. Position sizes in a notionally funded account are typically based on the nominal size, while gains and losses land on the smaller base of actual cash. Trading a nominal size larger than the deposited cash therefore raises the effective leverage on that cash, and leverage amplifies both gains and losses. A percentage move that would be modest relative to the nominal size can be a much larger percentage of the actual funds.

Funding needs are also not fixed. Brokers require margin, deposited value held to support open positions, and what an account must post can change. If a broker changes its margin requirements, whether for its own reasons or in response to capital or regulatory changes, an account holding the same positions may need more cash to support them. Trading losses reduce actual funds, which can also prompt a request for additional cash if the account is to keep trading at the agreed level, and depending on the account’s terms, losses can exceed the amount deposited.

None of this is knowable from the label alone. How a notional arrangement works in a specific account, including the agreed trading level, the margin terms, and what happens when actual funds decline, is defined by the exact account and management agreements and by the written risk disclosures that accompany them. Reading those documents before funding, and asking about anything unclear, is the ordinary starting point.

Whether any funding arrangement fits a particular portfolio is a judgment each investor must make independently, ideally with a qualified professional. Trading foreign exchange involves substantial risk of loss and is not suitable for every investor.

Related articles on this site cover the Forex market, managed accounts and hedge funds, correlation, and how to evaluate a manager’s track record.