The recession of 2008 has proven that riding bubbles might be dangerous, and some investors may wish to find a way to bet that a certain market will fall rather than rise over time. Many people run into hurdles when they find that the mutual funds they wish to purchase only hold long stock and bonds rather than shorting on the markets which people believe might collapse. For these investors, hedge funds are the solution.

Hedge funds are a great way to conduct more complicated investments than a mutual fund might offer. A few facts about hedge funds include:

They are not usually registered with the Securities and Exchange Commission. This is because they have a much smaller client base than a mutual fund who are usually much closer to the investment manager than a mutual fund purchaser might be.

Because of the lack of regulation, there is a larger risk presumed to exist. As a result, only an “accredited investor” may buy into a hedge fund. What the government defines “accredited investor” as has changed from time to time, but generally you will be unable to invest in a hedge fund if you don’t have at least a few hundred thousand dollars in assets.

They are designed to “hedge” against certain market events. If everybody is buying gold because it’s going up and some private investors believe that gold is a bubble which will burst, they might choose to buy into a hedge fund which has shorted gold.

Hedge funds can “short” certain markets by holding options, trading on margin, and so on. This is unlike mutual funds which are generally required by securities regulators to only go long on their holdings.

So what are the pros versus the cons of holding hedge funds?

Pros of Hedge Funds

Greater flexibility. As mentioned above, hedge fund managers have the freedom to short markets, which lets them react to market conditions more freely. A few intelligent people made billions for their clients when they shorted real estate just before the 2008 market crash.

Less red tape reduces costs. Because there is less regulation, not as many profits from a hedge fund are wasted on complying with filing regulations like a mutual fund would require.

Cons of Hedge Funds

Risky. Investors need to really trust their hedge fund manager, because shorting, trading on margin, and plenty of other activities which hedge funds engage in can be incredibly risky if the investment manager does not know what they’re doing.

High buy-in. Only people who meet certain net worth requirements are permitted to invest in hedge funds. This may make it legally impossible to invest in a hedge fund.

Not as liquid. Because of the high net worth requirement, and because hedge funds are often highly complicated and require knowledge of potential investors on economics on their own part to be willing to invest, they are generally less liquid than a mutual fund which can be bought or sold at most banks.