Hedge Fund vs Private Equity Fund: What’s the Difference?

At their core, hedge funds and private equity (PE) funds are both forms of pooled investment vehicles, catering for the most part to institutional and high-net-worth investors. While they are both features of the alternative investment landscape, there are some significant differences between the two. These include variances in risk profile, strategic approach, structure, and even the ultimate goals of investors.

We’ve developed this article to provide insights into the key distinctions between PE and hedge funds, alongside their different roles in the financial landscape. Like our exploration of private equity vs venture capital, this guide takes a global perspective, rather than being limited to specific jurisdictions, so that entrepreneurs and investors can benefit wherever they are in the world.

What Is a Hedge Fund?

A hedge fund is a type of pooled investment vehicle that uses complex and often aggressive strategies to generate returns. They’re also quite flexible tools, offering fund managers opportunities to invest across a range of asset classes. These include equities, derivatives, currencies, and commodities. This variety and flexibility means that investors can pivot quickly between strategies in ways that other types of investment vehicles can’t.

Among the common strategic characteristics of hedge funds are high-frequency active trading, leveraging, arbitrage, and utilizing short selling to exploit inefficiencies. Unlike other types of related funds—such as mutual funds—hedge funds are geared toward delivering absolute returns to investors. The methods used aim to achieve positive performance without consideration of whether the wider market is experiencing a rise or fall.

What Is a Private Equity Fund?

Private equity funds are long-term investment vehicles, specializing in acquiring majority stakes or full ownership of private companies. In some instances, funds will also delist public companies to utilize as assets. The main objective of this approach to investment is to improve the operational functioning of the acquired company, boosting its performance before later selling the business at a profit. The returns will then be divided among the partners in the fund.

In most situations, private equity funds are structured as a limited partnership. These funds are usually operated on a multi-year investment horizon, with the typical timeframe being between five and ten years. This period enables funds to focus on developing sustainable value creation utilizing a range of methods, including strategic restructuring, leadership adjustments, and cost controls.

Key Differences Between Hedge Funds and Private Equity Funds

There are several core distinctions between a hedge fund vs private equity.

• Investment strategy – Hedge funds tend to prioritize short-term trading opportunities in highly liquid markets, flexibly responding to market signals. PE funds take a long-term ownership approach—often guided by private equity consulting services—investing in illiquid private assets that take time to transform. 
• Liquidity – Hedge funds provide investors with periodic redemption windows, resulting in a higher rate of liquid capital available for frequent withdrawal. PE funds keep capital locked up for several years at a time, with liquidity limited until a portfolio company is sold.
• Risk profile – Hedge funds are exposed to volatile markets, with high potential for tactical missteps when using leverage or trading derivatives. PE funds’ risks are different, related to the ability to successfully execute performance optimization and the influence of broader economic shifts in the long term. 
• Performance measurement – Hedge funds assess the level of absolute returns, regardless of the market direction. PE managers usually utilize internal rate of return (IRR) metrics and multiples on invested capital to assess profitability over the holding period.
• Fees and structure – Hedge funds typically follow a 2/20 fee structure—describing 2% management fees and 20% performance fees—with high-water marks for collection. PE funds have a similar fee structure, but compensation is often only realized upon exit.

Fund Setup and Legal Structure

Hedge funds and PE funds both tend to use the limited partnership structure. This involves a general partner (GP) actively managing the fund and limited partners (LPs) passively contributing capital. 

That said, the jurisdictional domiciles in which these structures are set up can vary. Hedge funds tend to be domiciled in offshore spaces such as the Cayman Islands to leverage more flexible taxation strategies. While PEs can use offshore jurisdictions, onshore spaces such as Delaware in the U.S. and Luxembourg can offer supportive tax structures and enhanced investor protections.

It’s important to note that the regulatory landscape can vary, too. Hedge funds are likely to fall under trading and disclosure oversight, governed by entities such as the Securities and Exchange Commission (SEC) in the U.S. There can be complex private equity legal issues, with requirements to comply with specific regulations related to acquisitions and fund transparency obligations. Both types can also be subject to the Alternative Investment Fund Managers Directive (AIFMD), which sets standards for investor protection and market harmonization in the E.U.

Investor Base and Minimum Commitments

Both forms of fund typically attract relatively sophisticated investor types. Institutional investors—such as pension funds—alongside sovereign wealth funds, family offices, and ultra-high-net-worth individuals all engage with hedge funds and private equity. That said, the higher minimum investment requirements and longer commitment timelines for private equity funds are often most appropriate for investments with less urgent liquidity interests. Hedge funds can offer more flexible entry and exit options, which can make them more accessible while still targeting a sophisticated investor base.

Exit Strategies and Liquidity Events

The two fund types use very different exit strategies. In private equity, initial public offerings (IPOs), dividend recapitalization, acquisitions, and secondary sales are the most common. These types of exits are planned sometimes years in advance, with liquidity windows depending on reaching valuation benchmarks or ideal market conditions. Investors are only able to withdraw following a full exit or through secondary sale mechanisms.

Hedge fund exits are more flexible in nature. They practice continuous trading, buying and selling securities frequently, generating profits from often short-term market fluctuations. Therefore, liquidity and withdrawals are usually facilitated through more regular contracted redemption periods.

Global Role of Hedge Funds and Private Equity Funds

Hedge and private equity funds are not just vehicles for profit, they also influence global financial markets. When they allocate capital efficiently, they contribute to market liquidity and responsible corporate restructuring. Indeed, by providing investment and operational transformation, private equity can empower portfolio businesses to innovate. Hedge funds, on the other hand, bolster economic diversification, providing capital across a range of asset classes and industries. 

Both are also engaged in cross-border investment activities, seeking out opportunities across the globe and adjusting to jurisdictional nuances. As a result, their influence has a tangible impact on financial and infrastructural health worldwide.

Choosing Between Hedge Funds and Private Equity Funds

When weighing up hedge and private equity funds, decisions are usually based on what investors’ goals are, what their risk appetite is, and what their liquidity needs are. Where the goals are related to immediate returns and flexibility, hedge funds may be better aligned. Those seeking to commit capital in the long term to achieve potentially higher returns are often more drawn to private equity. That said, it’s worth also considering that there are institutional portfolios that include both. This helps to achieve greater diversification while balancing risks.

FAQs

What is the main difference between a hedge fund and a private equity fund?

Hedge funds are focused on short-term trading strategies while private equity funds invest in the long-term restructuring of private companies.

Which has more liquidity, hedge funds or private equity funds?

Hedge funds are considered to offer more liquidity as they provide periodic redemptions to investors. Private equity firms are involved with long-term capital lock-up, resulting in fewer withdrawal options.

Are returns higher in hedge funds or private equity funds?

The potential returns can vary, depending on the strategy. Private equity often targets higher returns in the long term, tied to business growth through operational improvements. Hedge funds aim for steady market-based gains.

Can an investor participate in both hedge funds and private equity?

Yes, there are increasing opportunities to engage with firms where institutional and sophisticated investors allocate capital to both types of fund. These firms seek to balance the short-term liquidity and diversification of hedge funds with the long-term growth potential of private equity.

How are hedge funds and private equity funds regulated?

Both are subject to regulatory oversight. Hedge funds are more closely tied to trading regulations, while private equity compliance is more focused on deal disclosures and fund reporting.

Do both use leverage?

Yes, but in differing ways. Hedge funds use active leverage to amplify market strategies, while private equity firms tend to limit leverage use to acquisition financing, such as LBOs.

References

Gibson, J. (2025, April 10). Limited Partnership (LP): What It Is, Pros and Cons, How to Form One. Investopedia. https://www.investopedia.com/terms/l/limitedpartnership.asp

European Commission. (2024, March 25). Implementing and delegated acts – AIFMD. European Commission. https://finance.ec.europa.eu/regulation-and-supervision/financial-services-legislation/implementing-and-delegated-acts/alternative-investment-fund-managers-directive_en

Braun, M, et al. (2024, March). Hedge fund fee structure and risk exposure. Science Direct. https://www.sciencedirect.com/science/article/abs/pii/S0264999324000026