Essential Finance Terms for Newbies:
MUTUAL AND HEDGE FUNDS

“The free cash flow of 34 million is up from Q2’s 28 million.”

“There is an EBITDA increase of 18.3% from Q1.”

​

As of the moment, these two statements will most likely seem like incomprehensible gibberish to you-- especially if you are not a finance student. This is because the terms used within the aforementioned sentences are technical words often used by those working in the field of finance, such as when discussing profits and cash flows as well as comparing performances of each fiscal quarter. Despite this, it is always important to know terms used in finance as many of them will be used at least once in the course of our lives -- after all, it is always better to have a head start compared to others. One thing that must be kept in mind is that understanding financial terms is a part of our skills in regards to financial literacy -- something that everyone must have. Despite this, according to a past study led by the World Bank, only 33% of adults worldwide are financially literate, indicating a generally widespread financial illiteracy globally (Klapper et al., 2014). Hence, hopefully after reading this article, you will get a deeper insight into financial terminology, along with an increased level of financial literacy.

For this article, terminologies relating to investment will be discussed. Within investing, there are certain ways in which you can do it, and one of them is funds. Funds-- which are usually corporations/companies--  are essentially a collection of capital (such as money) that belongs to many individual investors, and will be used to invest in things such as stocks and bonds. In these funds, managers look after the investments that will be made; such a method has considerably lower risk as it requires little management, and this is important for beginner investors (Picardo, 2021). Among the types of funds available, hedge funds and mutual funds are some of the most popular, hence why we will be taking a deeper dive into the concept behind these two.

Let us first take a look into a mutual fund. In its simplest terms, mutual funds are usually companies that pool money coming from many different investors, which will be used to invest in things such as stocks, bonds, and short-term debt. Mutual funds are popular especially among beginner investors because professional management of investments are present, with fund managers doing research for them on what to invest in. Furthermore, as they usually invest in a wide variety of companies and industries, they lower the risk of major losses in case one of the corporations to invest in fails. The affordability and liquidity of mutual funds are also a main selling point of such practice, as in most mutual funds, the initial investment is low in cost, and you can claim the shares you have obtained at any time. Moreover, there are also different types of mutual funds, such as money market funds, bond funds and stock funds; out of all the three, money market funds have the lowest risk as they can only invest in higher-quality industries. Bond funds, on the other hand, are of higher risk and higher return. Stock funds exclusively invest in corporate stocks (US Securities and Exchange Commission, 2021).

Finally, we have hedge funds. The first thing that must be noted about a hedge fund is that only experienced and licensed professionals can take part in it as it faces less regulation and poses a much higher risk (Fernando, 2021). Just like mutual funds, hedge funds pool in money from investors to buy/invest in securities (stocks, bonds, etc.), although due to less stringent regulations they are able to conduct more aggressive investment strategies such as short-selling and leverage debt-based investing. Additionally, they can also invest in things other funds may not be able to invest in things, ranging from art to real estate. Due to its more ‘exclusive’ membership, they carry heavy  fees for initial investments, and unlike mutual funds, are not as liquid as within hedge funds as you can usually only withdraw your earnings after a set amount of time (Tretina & Schmidt, 2021). The table below shows the key differences and comparisons from mutual and hedge funds: