The origin of the first hedge fund, defined as a financial partnership vehicle employing strategies involving purchasing long and selling-short securities while compensating the general partner a percentage of the vehicle’s profits, is uncertain. During the US bull market of the 1920s, there were numerous such vehicles offered privately to well-heeled investors. Of that period, the best known today owing to the legacies of one of its founders was the Graham-Newman Partnership founded by Benjamin Graham and Jerry Newman.
The speculative exploits of Jesse Livermore as chronicled in Reminiscences of a Stock Operator (1923) also describe speculative vehicles dubbed “pools” that are similar, if not the same, in form and function as what would later be called “hedge funds”. Preceding Livermore, future statesman Bernard M. Baruch also operated such pools before jettisoning his limited partners and was later known as the “lone wolf on Wall Street” as he managed his own fortune.
Investor Warren Buffett, a former pupil and later acolyte of Benjamin Graham before founding a hedge fund in 1956, in a 2006 letter to the magazine publication of the Museum of American Finance asserts the Graham-Newman partnership
of the 1920s is the first hedge fund he is aware of and suggests others may have preceded it.
Sociologist, author, and financial journalist Alfred W. Jones is credited with coining the phrase “hedged fund”, in contrast to prior nomenclatures, but is often erroneously credited with creating the first hedge fund structure in 1949. To neutralize the effect of overall market movement, Jones balanced his portfolio by buying assets whose price he expected to increase, and selling short assets whose price he expected to decrease. Jones referred to his fund as being “hedged” to describe how the fund managed risk exposure from overall market movement. This type of portfolio became known as a hedge fund. Jones was the first money manager to combine a hedged investment strategy using leverage and shared risk, with fees based on performance. A 1966 Fortune magazine article reported that Jones’ fund had outperformed the best mutual funds despite his 20% performance fee. By 1968 there were almost 200 hedge funds, and the first Fund of funds that utilized hedge funds was created in 1969 in Geneva.
Many of the early funds ceased trading during the Recession of 1969-70 and the 1973-1974 stock market crash due to heavy losses. In the 1970s hedge funds typically specialized in a single strategy, and most fund managers followed the long/short equity model. Hedge funds lost popularity during the downturn of the 1970s but received renewed attention in the late 1980s, following the success of several funds profiled in the media.
During the 1990s the number of hedge funds increased significantly, with investments provided by the new wealth that was during the 1990s stock market rise. The increased interest from traders and investors was due to the aligned-interest compensation structure and an investment vehicle that was designed to exceed general market returns. Over the next decade there was increased diversification in strategies, including: credit arbitrage, distressed debt, fixed income, quantitative, and multi-strategy, among others.
During the first decade of the new century, hedge funds regained popularity worldwide and in 2008, the worldwide industry held $1.93 trillion in assets under management. However the 2008 credit crunch was hard on hedge funds and they declined in value and hampered “liquidity in some markets” causing some hedge funds to restrict investor withdrawals.
Total assets under management then rebounded and in April 2011 were estimated at almost $2 trillion. As of January 1, 2011 the largest 225 hedge fund managers in the United States alone held almost $1.3 trillion. with the largest hedge fund manager, Bridgewater Associates having $58.9 billion. In 2011, the largest hedge funds were Bridgewater Associates ($58.9 billion), Man Group ($39.2 billion), Paulson & Co. ($35.1 billion), Brevan Howard ($31 billion), and Och-Ziff ($29.4 billion).
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