Hedge funds invest across many asset classes, or investment categories, while venture capitalists generally provide equity and debt financing to new businesses. Hedge funds are portfolios that are managed by professionals who attempt to make money regardless of market conditions. Venture capitalists are similar in that they take chances, but these investors are responsible for providing capital, or money, to startup businesses with promise. Hedge funds can make money when investments rise or shrink in value, while venture capital firms' success largely depends on a company's profits.
A hedge fund's ultimate goal is to produce higher returns than those in the broader financial markets. These funds operate by pooling the assets of multiple investors and applying that capital to nontraditional trading strategies such as "shorting," which is a way to make money even when stocks lose value. Hedge-fund managers are generally Wall Street traders who have a keen understanding of events that drive market activity. Funds may be dedicated to a particular investment category or be more opportunistic. While hedge funds could invest across asset classes, common investment categories are commodities and the financial sector. Hedge funds often invest in companies across the age spectrum, including new and veteran businesses.
Venture capitalists finance the dreams and visions of entrepreneurs. They provide the money new businesses need to begin or continue operations and grow. Often with no history of operation, these startup companies are a risky bet, so venture capitalists are selective, funding only a small percentage of entrepreneurs. Several stages are associated with venture-capital funding based on the maturity of a business, ranging from early stage capital to expansions and buyout funding.
A hedge fund's size depends on the amount of investments it wins from clients and the performance in the financial markets. Hedge funds also charge investors two sets of fees, including a 1 percent to 2 percent fee for managing assets and a second charge of as much as 20 percent for investment performance, according to the Securities and Exchange Commission. Venture capitalists obtain equity stakes in businesses. They bet a company will become profitable, and they may eventually share in that income as well as any profit if the business is sold.
Hedge funds often invest in illiquid securities, which means they could be invested for years. Other times, funds rapidly trade in and out of securities to make a quick profit. When a venture-capital company invests, it does not maintain an equity stake forever. Venture capitalists have an exit strategy in mind. According to a 2012 article in "Gulf Coast Business Review," this departure is increasingly in the form of a private merger.