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Study questions hedge fund efforts to diversify

- Alan Lavine and Gail Liberman

If you're thinking of investing in hedge funds to diversify your investments, think again.

Hedge funds use alternative investment tactics to earn returns that are independent of the overall stock market. They use arbitrage tactics invest in derivatives, private equity deals and short stocks to earn high returns. Hedge funds also borrow money to invest in stocks and bonds to boost returns.

But a recent study by the Bank of New York Mellon, fund that hedge funds may not help the risk or return of your stock and bond holdings. The company's research found that hedge fund performance is not as independent of stock market performance as investors once thought.

Reason: Many hedge funds may change their investment strategies in mid-stream. As a result, they do not earn returns that are independent of the stock market.

What does this mean? Consider avoiding hedge funds. Instead, stick with stocks, bonds and cash.

What about mutual funds that use some hedge fund strategies, such as long/short funds? Data of Morningstar Inc., Chicago, show these funds typically are poor performers.

Here are a few other ways to hedge your bets:

  • Consider high dividend-paying stock funds. Dividend income helps cushion losses when the underlying stock declines.

  • Consider a real estate stock fund and bank CDs. Studies show that this combination of investments should yield as much as bonds, but with less risk.

  • Consider precious metals mutual funds. The funds perform well during periods of rising inflation when stock and bonds lose money.

  • Consider an asset-allocation or balance fund that owns stocks, bonds, cash and other assets. The fund manager does the work for you.


    Spouses Gail Liberman and Alan Lavine are syndicated columnists. You can purchase Alan Lavine & Gail Liberman's latest book Quick Steps to Financial Stability (QUE Publishing 2006) online at www.moneycouple.com or at your local bookstore. E-mail them at MWliblav@aol.com.

    To read more columns, please visit the column archive.

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