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The Handbook of Commodity Investing by DIETER G. KAISER, ROLAND FÜSS, FRANK J. FABOZZI

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CHAPTER 29

A Primer on Energy Hedge Funds

Oliver Engelen

Risk Analyst

Benchmark Capital Management GmbH

Dieter G. Kaiser, Ph.D.

Director Alternative Investments

Feri Institutional Advisors GmbH

Research Fellow

Centre for Practical Quantitative

Finance Frankfurt School of Finance and Management

The number and diversity of energy hedge funds increased dramatically from 2004 to 2006, from about 20 at the end of 2003 to over 500 as of May 2006.1 From a hedge fund viewpoint, the energy markets and the commodity trading segment are a young, early-stage market.

According to HedgeFund.net, assets under management in the energy hedge fund sector have grown concurrently, from US$19.37 billion in 2003 to US$79.26 billion in 2006.

The primary reasons for this remarkable increase are (1) supply and demand dynamics across energy commodities; (2) the opportunity to earn better returns; and (3) the influx of skilled and experienced energy traders from the collapsed merchant segment (see Fusaro and Vasey2). The dynamics across energy commodities have driven commodity prices to record highs. As a result, volatility, the main source of arbitrage opportunities for hedge funds, has also increased.

Because of the early-stage character of this segment of hedge funds and the high degree of passive or index product types, energy-focused strategies can provide opportunities for active investment. However, according to a study by the New York Mercantile Exchange (NYMEX), the volatility energy is negatively ...

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