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Hedge funds were supposed to be the ultimate "insider" investment vehicle. Managers would be able to do whatever they wanted – go long, go short, buy bonds, buy commodities, or do whatever they thought was necessary to earn high returns for their investors.
The idea was that hedge fund managers, given the latitude available to them, should be able to do well no matter what the stock market did in a given year.
It was investment nirvana, and tickets to the show were not cheap: Joining hedge fund royalty would cost you "two and twenty," which is to say 2% of assets and 20% of profits.
The first hedge fund was introduced back in 1949 by Alfred Winslow Jones. It performed very well; Jones was long stocks he liked and – as a hedge – short stocks he didn't.
The returns were solid, and it did, in fact, do pretty well no matter what the market did. His success gained imitators, and the industry grew steadily throughout the 1950s and 60s.
But people will always be greedy, and greed will always make you stupid. That's what happened to hedge funds as the 1970s approached.
Some fund managers wanted to be the best, so they figured if they just bought the best stocks and left out the whole "hedging" idea, they would gain an edge over their competitors.
They did – until they didn't.
The bear market of the 1970s left the un-hedged hedge funds exposed, and the losses were enormous.
The hit was so punishing, in fact, that it left hedge funds out of favor until the 1990s.
Then things changed…
About the Author
Tim Melvin is an unlikely investment expert by any measure. Raised in the "projects" of Baltimore by a single mother, he never attended college and started out as a door-to-door vacuum salesman. But he knew the real money was in the stock market, so he set sights on investing - and by sheer force of determination, he eventually became a financial advisor to millionaires. Today, after 30 years of managing money for some of the wealthiest people in the world, he draws on his experience to help investors find "unreasonably good" bargain stocks, multiply profits, and build their nest eggs. Tim tirelessly works to find overlooked "hidden gems" in the stock market, drawing on the research of legendary investors like Benjamin Graham, Walter Schloss, and Marty Whitman. He has written and lectured extensively on the markets, with work appearing on Benzinga, Real Money, Daily Speculations, and more. He has published several books in the "Little Book of" Investment Series and a "Junior Chamber Course" geared towards young adults that teaches Graham's principles and techniques to a new generation of investors. Today, he serves as the Special Situations Strategist at Money Morning and the editor of "Max Wealth" and Heatseekers.