Hedge funds.

They’ve got this aura of mystery: the elite, secretive vehicles reserved for the ultra-wealthy.

But if I asked you right now, “What exactly does a hedge fund do​?” could you answer?

Don’t feel bad if the answer’s no. Most people can’t.

Here’s the crazy part: despite their reputation for brilliance, over the last decade the average hedge fund has underperformed the stock market​ by more than 60%.

 

 

That’s right. If you’d simply bought an S&P 500 index fund, you’d have made far more money than if you’d handed your capital to the supposedly smartest guys in the room.

So the obvious question is: why do hedge funds still exist? What are these “sophisticated” strategies?

And more importantly, as an individual business buyer, if you actually understood them, could you apply the same playbook yourself, without the $10 million minimum buy-in and the outrageous “2 and 20” fee structure?

The answer is yes.

What I want to do here is strip the mystique off hedge funds. No jargon. No MBA buzzwords. Just a clear explanation of what they do, why their model is broken, and how you can use their best strategies to build wealth for yourself.

 

What a Hedge Fund Actually Is

At its core, a hedge fund is nothing exotic.

1. Wealthy investors pool their money.
2. A manager deploys “alternative” strategies to generate returns.
3. The goal is absolute returns, or in other words, make money regardless of whether the stock market is up or down.

 

Source: Sitka Pacific Capital Management

 

This is important to understand. Most of us live in the world of relative returns. If the market is up 8% this year, and your mutual fund is up 10%, you “beat the market.” Congratulations, you generated 2% of alpha.

But what happens in a down year? Say the market drops 10%. Your manager still beats it by 2%. Your alpha is intact… but your portfolio is still down 8%.

That’s where hedge funds came in. They said, “Forget what the market does. We’ll make you money every year.” They marketed themselves as the bond replacement for the ultra-rich: steady, positive returns, but better than bonds.

At least, that was the promise.

 

The Infamous 2 and 20

Of course, managers don’t work for free. Hedge funds standardized on what’s called a 2 and 20 model.

 

Source: Investopedia

 

• 2% management fee: Every year, the manager takes 2% of all assets under management. If the fund has $100 million, that’s $2 million just to keep the lights on, pay salaries, run software, and so on.
• 20% performance fee: On top of that, they take 20% of any gains they generate.

Here’s how that plays out. Let’s say the fund earns a 5% absolute return in a given year. That’s $5 million on our $100 million pool. The manager takes 20% of that, $1 million, in addition to the $2 million management fee.

Investors are left with a 4% net return. The manager pockets 3%. In other words, the house takes about 40% of the winnings.

It doesn’t take a financial genius to see the problem. If the strategies don’t meaningfully outperform, the fees eat most of the upside. And that’s exactly what’s been happening for the last decade.

 

The Hedge Fund Playbook

So what strategies are hedge funds using​? Here are the big ones, and how you can think about them yourself.

 

1. Long and Short Positions

The simplest move: buy what you think will go up (long), short what you think will go down.

Nothing exotic here. Anyone with a brokerage account can do this. Hedge funds just do it with more leverage and shorter time horizons.

 

2. Event-Driven Plays

These are bets on catalysts — mergers, bankruptcies, restructurings, IPOs. Example: if Company A announces it’s buying Company B, hedge funds might buy B’s stock, expecting it to rise as the deal closes.

 

3. Global Macro

Big thematic bets. Maybe a fund believes oil prices are about to surge, or that AI adoption will explode. They’ll make concentrated moves based on those global tailwinds. Sometimes they’re right. Sometimes they’re not.

 

4. Quantitative Trading

This is the “black box” stuff: algorithms, models, AI that trade at machine speed. In reality, it’s just math trying to front-run human emotion in the markets.

 

5. Private Credit and Distressed Debt

This is one of my favorites, because it’s what I’m doing heavily right now. Hedge funds buy debt at a discount, or lend directly when banks pull back. The upside is consistent payments, often secured by collateral. If things go south, you have levers to force repayment or even take over assets.

 

Why Hedge Funds Fail

Here’s the punchline: none of these strategies are magical. They’re just tools. And tools in the hands of very expensive managers who siphon off a huge portion of the returns.

That’s why the average hedge fund has delivered around 4% annually while the S&P 500 has averaged closer to 12%.

 

 

The strategies aren’t broken. The structure is. Paying someone 40% of your upside makes no sense in a world where information is abundant, tools are democratized, and you can access many of the same plays directly.

 

How I Apply This Playbook

So what does this mean for you and me?

The lesson is not “avoid hedge funds.” The lesson is “copy the strategies, ditch the fees.”

Here’s how I do it:

• Private Credit: I launched BuildFlow I, our private credit fund. I’m the largest investor myself. We’ve been delivering over 11% annualized to investors, paid in cash flow or compounding. Same strategy hedge funds use, but without the 2 and 20.
• Macro Plays: We’re leaning into obvious imbalances, like U.S. oil and gas supply, or American manufacturing reshoring. We’ve already acquired 6% of a manufacturing firm planning to IPO in 2026, and we’ve got hundreds of oil wells under LOI. That’s global macro in practice.
• Small Business Acquisitions: Let’s not forget, one of the most powerful hedge fund strategies is buying private companies. That’s the whole Buy Then Build thesis. I’ve been doing this since 2006, and I still believe it’s the best way for most people to create meaningful wealth.

The Takeaway

Hedge funds aren’t smarter than you. They’re not playing a different game. They’re just using a set of tools anyone can understand.

The reason they fail is because their structure bleeds investors dry. The reason they persist is because wealthy families still want someone else to chase absolute returns on their behalf.

But you don’t need to pay 2 and 20 to play the same game. You can take the playbook, strip out the fees, and run it yourself through private deals, direct investments, and concentrated bets in markets you understand.

The hedge fund era may be waning. But the strategies? Those still work. And they’re available to anyone willing to do the work, think creatively, and step into the private markets.

Want to go deeper? I publish Wealth Stack Weekly every Tuesday, a newsletter with real strategies, real deals, and exactly what I’m doing with my own money. 

And if you’re an accredited investor ready to participate in the deals I’m leading, check out BuildWealth.com.