Investing In Hedge Funds Through a Self-Directed IRA
Published on March 4, 2025
Investing in hedge funds through a self-directed IRA (SDIRA) is an increasingly popular strategy for those looking to diversify their retirement portfolios with alternative assets. Hedge funds offer opportunities for potentially high returns and risk management strategies that differ from traditional investments like stocks and bonds.
What is a hedge fund?
A hedge fund is a private pool of capital whose managers can buy or sell any assets. The money is pooled from multiple investors and the funds are generally more speculative in nature regarding the assets in which the managers invest. This usually large pool of capital tends to be less regulated than investments like mutual funds.
Hedge fund investors
Investors may be accredited, institutional, or individuals (such as investors with a self-directed IRA). Since the managers have flexibility in terms of the types of assets to include in a fund’s portfolio, including the alternative assets allowed in self-directed IRAs, these are becoming more attractive to more self-directed investors. When the SDIRA makes the investment, the account owner is a passive investor.
Types of hedge funds
There are several types of hedge funds that use various strategies, some designed to reduce portfolio volatility and enhance returns. The most common types are global macro hedge funds, long/short equity hedge funds, relative value hedge funds, and activist hedge funds.
• Global Macro Hedge Funds – Fund managers attempt to invest according to economic and political world events, using derivatives on bonds, currencies, equities, and commodities. These hedge funds differ in the size of the position they take, from bold investments to homing in on smaller increments to (try to) minimize volatility.
• Long/Short Equity Hedge Funds – These fund managers invest in long shares and short shares.
o Long share investment is in companies they feel provide sufficient evidence that they will do well over time.
o Short shares are when managers borrow and sell shares of companies they feel are likely to behave poorly.
• Relative Value Hedge Funds – The fund manager funds companies that are merging (merger arbitrage strategies) or enduring a takeover.
• Activist Hedge Funds – With these funds, the manager has a significant stake in a company and leverages their involvement as motivation for other investors to join.
Using a self-directed IRA to invest in hedge funds
Identify a hedge fund that aligns with your investment goals and philosophy, risk tolerance, and liquidity preferences. Some hedge funds have high minimum investment requirements and some may restrict investments from tax-advantaged accounts, so be sure to do your research and be comfortable with this type of asset.
As part of your due diligence, evaluate the hedge fund’s strategy, past performance, management team, and fee structure, and make sure you understand its lock-up periods and liquidity restrictions.
Once you’ve selected the hedge fund, send the investment instructions to your SDIRA custodian, who will process the necessary paperwork and ensure the investment complies with IRS regulations.
Remember that as with any self-directed investment, investors must avoid making a prohibited transaction (no self-dealing allowed!) to retain the tax-advantaged status of the SDIRA. The investment is made in the name of the IRA, not the account owner.
Benefits of investing in hedge funds through a self-directed IRA
In addition to portfolio diversification:
• your IRA will earn tax-advantaged growth from the fund’s gains
• you’ll have access to unique, somewhat sophisticated investment techniques unavailable in traditional markets, potentially leading to higher returns
• the hedge fund may use strategies designed to hedge against market downturns, which can be beneficial in volatile economic environments.
Self-directed investors know that investing in alternative assets—such as including hedge funds investments in their self-directed IRA—requires careful planning, regulatory compliance, and a deep understanding of the risks involved. At Next Generation, we always recommend that our clients also consult their trusted advisor about how investing in hedge funds may affect their tax or financial situation. And of course, we know that working with a knowledgeable SDIRA custodian and administrator is an important part of using self-direction as a retirement wealth-building strategy. We invite you to learn more by contacting the helpful Next Generation team at 888.857.8058 or NewAccounts@NextGenerationTrust.com.
