How hedge funds actually run money: picking, sizing, shorting, and risk, explained for someone who wants to follow them

I'm Chris, co-founder of Autopilot. A hedge fund is a pool of money with fewer rules than a mutual fund, which is why it can short, borrow, and concentrate. Following one through its filings gets you the long stock picks and none of the rest. So before you follow one, you should know what the rest is. Definitely no expert here, but here's the plain version of how these firms work, from someone who reads their filings for a living.

One thing first, because we're an SEC-registered investment adviser and I have to say it. Autopilot is the app. The actual investment advice comes from Autopilot Advisers, LLC. If you want the full legal version of anything in here, it's on our legal page.

1) Long-only versus long-short

A long-only fund buys things it thinks will go up and holds them. When the market falls, it falls. Most mutual funds, most ETFs, and every Portfolio in your brokerage account work this way, including ours.

A long-short fund also bets against things. It borrows shares it thinks will fall, sells them, and buys them back later, hopefully cheaper. Done right, the shorts make money when the longs lose, so the fund's results depend less on which way the whole market goes and more on whether the manager picked the right winners and the right losers. That's the "hedge" in hedge fund. Plenty of hedge funds are barely hedged at all, and some are long-only in practice, but the license to short is what separates the category.

Here's why this matters for following. A 13F shows longs only. If a fund is long a stock and short its competitor, the filing shows you half the trade, and the half you see might be the half that loses.

2) How positions get sized

Picking the stock is the famous part. Deciding how much to buy is the part that decides the results.

Three things drive size at most shops. Conviction: how sure the team is, and how much the idea would pay if right. Liquidity: how much they can buy and sell without moving the price, which caps big funds out of small stocks no matter how much they like them. And the risk budget: how much of the book any one idea is allowed to be, and how much the whole book is allowed to lose before someone steps in. A great idea that could lose 40 percent gets sized smaller than a decent idea that could lose 10, because size is about what happens when you're wrong.

Berkshire runs a few enormous positions because its conviction and its time horizon allow it. A multi-manager platform runs thousands of small ones because its risk limits demand it. Same filing form, completely different books.

3) What "risk management" means at a fund

Not a feeling. A set of limits and a person with the power to enforce them. Caps on position size. Caps on how much of the book is in one sector or one bet. Loss limits per position and per manager, and at multi-manager firms, a rule that cuts a team's capital when it draws down past a line, whether or not the team agrees. Plus hedges: shorts, options, and index bets that are there to lose a little most of the time so the book loses less when something breaks.

In your own account, following a Portfolio, you have none of that machinery. What you have is the Portfolio's holdings and your own decision about how much of your money follows it. That decision is your position sizing. Treat it like a pro would: decide how much you're willing to be wrong with, and don't let a winner talk you past it. I wrote about how the pros decide to sell in How professional investors decide when to sell a position.

4) How managers find ideas

It varies more than any other part of the job. Fundamental shops read filings, build models, talk to customers and suppliers, and try to know a business better than the market does. Activists find companies they think are run badly, buy enough to be heard, and push for changes. Macro funds start from economies and end at assets. Quant firms don't have a view on any company at all; they find patterns in data and trade thousands of them. Multi-manager platforms hire dozens of teams to do all of the above at once.

What every one of them has in common is that the 13F shows you the result and none of the process. You see that a fund owned a stock on one day. You don't see the model, the meetings, the hedge, or the reason. If you want to follow a manager because of how they think, read what they've said in public, and treat the filing as confirmation after it becomes public.

5) What's public, and when

The long US positions, once a quarter, within 45 days of quarter end, on a 13F. Stakes over 5 percent of a company, faster, on a 13D or 13G. That's about it. The shorts, the futures, the currencies, the private positions, the leverage, and the day-to-day trading are never public. I wrote the whole filing story, including what it hides, in What's a 13F, and can you actually see what Warren Buffett bought last quarter?.

6) What following the filing gets you, and what it doesn't

You get the manager's reportable quarter-end holdings after the filing becomes public. The manager is not involved, and the money stays at your brokerage. You don't get the shorts, the hedges, the sizing, the timing, or the risk machinery, and for some funds that's most of what they do. That's not a reason not to follow. It's the reason to know which fund you're following and what its filing can show. A concentrated, slow-moving book like Berkshire's or Pershing Square's loses little in translation. A fast, hedged, quant book loses a lot. Each of our trackers has a page that says which kind it is, in Every hedge fund and Wall Street Portfolio you can follow on Autopilot, and how each one works.

Frequently asked questions

How do hedge funds size positions?

By conviction, liquidity, and a risk budget: how sure they are and how much it pays if right, how much they can trade without moving the price, and how much of the book any one idea is allowed to be. Size is set by what happens if the idea is wrong. In your own account following a Portfolio, your allocation to it is your position size; decide it the same way.

What is a long-only fund vs a long-short fund?

A long-only fund buys what it thinks will rise and rides the market's direction. A long-short fund also borrows and sells stocks it thinks will fall, so its results depend more on picking right than on the market's direction. A 13F shows only the long side, so following a long-short fund's filing gives you half its trades.

How do fund managers pick stocks?

Depends on the shop. Fundamental managers study businesses and build models. Activists buy stakes in companies they think are mismanaged and push for change. Macro funds start from economies. Quant firms trade patterns in data across thousands of names. The 13F shows the result of any of these on one day and none of the reasoning.

What does a hedge fund's 13F tell you about its strategy?

Quite a bit, if you read it right: how concentrated the book is, how much it turns over between quarters, whether it leans on ETFs (a macro sign) or single names, and whether options appear. It tells you nothing about shorts, leverage, or sizing relative to the whole fund, so a long-short or macro fund's filing describes a smaller share of its strategy than a long-only stock picker's does.

What's the role of cash reserves in an otherwise fully invested strategy?

Cash is a brake and an option: it cushions the book when prices fall and lets a manager buy when they do. Berkshire's cash pile is famous for exactly that. A 13F doesn't show cash, so a tracker built from a filing holds the disclosed stocks without the manager's cushion. Your own cash outside the allocation is how you build one.

TLDR

Hedge funds can short, borrow, concentrate, and enforce limits, and the 13F shows you none of that, just the longs on one day. Know which kind of fund you're following and how much of it survives the filing. Then size your allocation like a pro would, read the fact sheet, and choose. Choose a Portfolio and connect your brokerage. Then give Autopilot Advisers limited authority to send orders to that account. When the Portfolio changes, we send them and your broker fills them. Depending on your plan and brokerage, you may need to confirm first. The money stays put.

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