Glossary of Financial Terms
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Hang Seng Index (恒生指数)
A widely watched stock market index in Asia. It is a value-weighted or capitalization-weighted average of stock prices of the biggest companies traded on the Hong Kong Exchange. “Value-weighted” indicates that the larger the company in market capitalization, the higher the weight its stock enjoys in the index calculation. The number of stocks in the index has been increasing since its establishment in 1969. As of October 2013, the index contains 50 stocks. The Chinese meaning of the term “Hang Seng” (恒生) literally means “ever going-up.” Sadly, the index doesn’t always live up to its name!
See Also “All ordinaries,” “CAC 40,” “CSI 300,” “DAX,” “Dow Jones Industrial Average,” “Euro Stoxx 50,” “FTSE 100,”
“Nasdaq Composite,” “Nikkei 225,” “Russell 2000,” “S&P/TSX,” “S&P 500” and “Shanghai Composite.”
Hedge Fund
A fund that is allowed to use aggressive strategies, otherwise unavailable to regular mutual funds, which includes selling short, leverage, and using derivatives. Hedge funds used to be exempt from the rules and regulations governing regular mutual funds. However, once the Dodd-Frank Act was enacted in 2010, hedge funds with assets more than $100 million are expected to register with the Securities and Exchange Commission (SEC) and report their trading activities.
Legally, the number of investors within a hedge fund is restricted (usually 100), hence the minimum investment per account is usually high (ranging from $250,000 to over $1 million). Another contrast between hedge funds and regular mutual funds is, the former typically collects a percentage of the profits, while the latter only charges a management fee.
The common fee scheme for hedge funds is 2/20, this means that the fund will collect 2% management fee per year on the total value of assets under management and charge 20% on the profit. It must be noted that the 20% is only a profit sharing plan: the management team doesn’t share 20% of the loss, if any! Investors openly accept this fee scheme because they hope to get superior returns.
Please note that the prefix “hedge” used to define that the fund is almost ironic. Truly, when hedge fund was first invented by Alfred Winslow Jones in 1949, he did use hedging strategies: taking long and short positions at the same time (the term “hedge fund” was coined by others later on to describe his investment fund). At present, since the mandate of most hedge funds is to get superior returns, we may as well call them “risky funds.”
See also “Mutual Fund” and “Fund of Hedge Funds,” and see “SEC,” “Dodd-Frank Act,” “long,” “short” and “hedging.”
Hedging
A financial arrangement aimed at reducing or getting rid of negative impacts on profits caused by unexpected price changes. Forward contracts are the most common instruments used for hedging. Considering that a forward contract has the effect of locking into a fixed price, hedging eliminates price risks in both ways. For instance, if a farmer hedges against price risk by selling his crop forward, then his revenue is locked into a fixed level. If the actual market price of the crop is low, he will avoid a lower revenue; but if the market price is high, he will forgo an otherwise higher revenue. In other words, to eliminate downward risk, you must also give up upward potential. There is no free lunch!
See also “Forward Contract” and “Speculation.”
High Frequency Trading (HFT)
A specific type of “algorithmic trading.” (Please look up “Algorithmic Trading” first.)
As you can gather from the name, the trading is not only automated through computers, but also carried out in high frequency. What is the main purpose of HFT? The scheme is to get in and out of the market extremely swiftly (so swiftly that only powerful computers can accomplish) so that an information advantage of a nanosecond can be taken advantage of. Suppose you detect a large buy order is being routed to the exchange and you are quite sure, the price will be pushed up after this order hits the floor. If you can get ahead of this large order and place a few small buy orders without affecting the price, as soon as that larger order is filled and the price is pushed up, you quietly offload your shares and make a tiny amount of profit. Tiny because the order size is small and the price difference is also not huge. This is only effective when the “high frequency” can help. When a fraction of a penny is being multiplied millions of times a day, you get the picture.
Trouble is, investors out there are no fools. Knowing that some may take advantage of their orders, they refuse to send large orders. In fact, several resort to their powerful computers, the end result of which is computers trading against each other. When it comes to a duel between two computers, only two things matter: computing power and physical distance to the stock exchange. Higher power enables the computer to process vast amount of information swiftly so that it knows which order to go after. This results to multi-million dollar investments in supercomputers. Distance to the stock exchange is all about getting ahead of your competitors in (literally) lightning speed. Electronic signals take time to travel from one location to another. So, the closer your computers are physically located to the stock exchange, the faster you can get ahead of others. How much more time can you gain by moving from say upper Manhattan to next door of NYSE (11 Wall Street, New York City)? We are talking about a really small fraction of a second. The competition has driven the time advantage from seconds to milliseconds (1/1,000 of a second) and eventually to microseconds (1/1,000,000 of a second). For real? Yes. Insane? Perhaps.
For more detailed and lucid descriptions of and, related (shocking) stories about HFT, please read the book “Flash Boys” by Michael Lewis.
See “NYSE” and “Market Efficiency.”
Hostile Takeover
A type of takeover accomplished by acquiring enough shares of the target company in the open market. Depending on how diffuse the company’s shares are held, an ownership of less than 51% may actually enable total control. So, instead of going through the formal process of proposing a takeover and getting the approval of the target company’s shareholders, the acquirer (who could be an existing shareholder or an outside identity) can just buy shares in the stock market to consolidate his control. Since the resulting takeover is not with the formal consent of the target company’s shareholders, it is called a hostile takeover.