Hedge Fund Capital Introduction Blog

Separately Managed Accounts - Blessing or Curse? Part 1

2010-09-07T21:29:00.000-07:00

More than ever, I am seeing investors utilize separately managed accounts as opposed to direct hedge fund investments. The question however remains, is this a benefit for hedge fund managers, or will it lead to the death of the traditional hedge fund structure?

First, for those unfamiliar with the term 'separately managed accounts' (SMA), an SMA is basically a brokerage account that is held in the investor's name as opposed to the fund's name, and is not intertwined or co-mingled in any way with the fund (separate). The fund manager is typically the 'sub-advisor' for the account, and has limited power to simply trade the account, and not make any withdrawals or money transfers. The sub-advisors are typically paid on a quarterly basis (a bonus for fund managers that normally take fees annually) and usually get paid the same fees they would with their hedge fund. The SMA is typically traded the exact same way as the hedge fund, with no time or selection bias, essentially Parri-Passu (hand in hand/equal footing) if the strategy allows. There are certain strategies where this is simply impossible, and therefore SMA's are simply not appropriate and fund investments or pooled vehicles are the only proper way to allocate and diversify the portfolio.

Now that we understand what an separately managed account is, let's talk about the benefits. Assume strategy permits SMA's of course.

For the investor, utilizing SMA's is a much more effective method of allocating. SMA's allow the investor benefits like:

Transparency
Liquidity
Decreased Costs (no admin/audit/other fees bringing down returns)
Ability to properly weight their overall portfolios
Ability to individually leverage accounts and tweak exposure
Choice of custodian
Control over commission/finance costs
Prohibit/Severely Inhibit fraud from occurring

These benefits are huge in my opinion. An investor can shut a manager down and liquidate their account at anytime if they see things like position concentration or 'style drift'. They can utilize software to monitor all their accounts at one time and quantitative tools that help them effectively manage their risk moment by moment. They can use notional exposure from one account to fund another and actually (for once) get back the ability to leverage their hedge fund holdings. (key for fund of funds, a dying breed that needs any edge possible to produce additional alpha) Investor's can hire their own administrators if they even deem them necessary, and not have to share in expensive audit bills. They can't steal any money from the account, OR post fake returns, because the investor gets all the statements! I can keep going....

Obviously all these factors are compelling reasons to invest via SMA, but of course, there usually is a catch. In this case, the catch is often that in order to obtain a managed account from an established fund manager, you have to have a minimum investment of anywhere from five to fifty million dollars. So, as amazing as the benefits of an SMA structure are as opposed to a traditional fund investment, usually only the institutional or super wealthy family office types are able to meet the minimums required to establish the accounts.

I will continue with the potential problems for an investor with the SMA structure and why the structure will not work for all products in my next post. In addition, I will discuss the benefits/caveats for fund managers that allow the use of SMA's, and I will conclude with whether I think SMA's will be death of the traditional fund investment, or instead be the tool that helps bring trillions of additional capital into alternative investment managers coffers.

Quick housekeeping item, I have been away from writing on the blog for far too long! When I started writing my capital introduction blog the hedge fund marketing/capital introduction industry was still thawing, and so it gave me some time to express my thoughts and share my experience with the public. However as an active marketer and manager one of the larger capital introduction teams in the industry, once the ice did thaw, we found there were still plenty of sweet smelling flowers available underneath. As a result, myself and my team have been extremely busy raising assets almost exclusively for emerging managers over the past year, and I am proud to say from experience that money has definitely returned to the alternative space. We have had tremendous success over the past year and as a result, it has severely impacted the time I had available to write on Cap Intro blog. That said, I am making a conscious effort to try to write at least a few entries a week going forward. I have a ton of new topics that have been bouncing around in my head for months that I must share. So get ready for some new entries shortly and thanks for your patience and continued reading and following of www.capitalintroduction.com.

New Registration Requirements for Investment Advisors

2010-07-28T14:45:00.000-07:00

On, July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Act"). The Act has several potential impacts on those within the investment management community. This article is an attempt to explain the important aspects and the impact this new legislation will have on Investment Advisers.

Unless otherwise stated, any changes in law discussed herein generally are effective July 21, 2011.

ADVISER REGISTRATION

If you manage any separately managed accounts and have assets under management ("AUM") in excess of $100MM, then you must register with the SEC (even if you only have one account /client).
If you have separate accounts and AUM of $25MM - $100MM, then you must register with your home state unless exempt under state law, in which case you must register with the SEC.*
If your only clients are investment funds and you have AUM of more than $150MM, then you must register with the SEC.
If you are a non-U.S. adviser with any separate accounts, or with fund assets over $150MM, then you generally must register with the SEC UNLESS you have (1) no place of business in the U.S.; (2) less than $25MM in AUM from U.S. clients and U.S. fund investors; (3) fewer than 15 U.S. clients and fund investors; and (4) do not hold yourself out generally to the public in the U.S. as an adviser.
If you have AUM of less than $25MM or are exempt from SEC registration, then you must be registered or find an exemption in any state where you have a place of business or more than 5 clients.*
If you are a "Family office" or an adviser solely to one or more "venture capital funds" (both terms to be defined), then you are exempt from SEC registration.

*It is not clear what state exemptions may change as a result of the Act.

INVESTOR CERTIFICATIONS

You must immediately amend your fund subscription agreement's definition of accredited investors to exclude primary residence from an investor's net worth. For now, this change seems to apply only to new investors or additional subscriptions from existing investors with no need to expel any existing investors. This change is effective immediately and requires your prompt attention.

If you are a registered investment adviser ("RIA") and charge performance fees/allocations to any investor in a 3(c)(1) fund, you will need to amend to adjust for inflation the "qualified client" certification obtained from each client/fund investor next year.

SWAPS

You may need to register with the National Futures Association ("NFA") as a Commodity Pool Operator (CPO) if (1) you buy commodities and currently rely on an exemption based on margin and notional exposure percentage limitations because you will now need to include any swaps when determining compliance with such limitations, or (2) you are defined as a "major swap participant" when new rules are adopted.

You may need to report (1) pre-enactment swaps if applicable regulators issue related interim rules, and (2) future swaps which are not accepted for clearing.

MISCELLANEOUS

A. Reporting: If you manage funds (whether or not you are a RIA), you WILL be required to maintain records and file reports to the SEC.

Such reports will include a description of funds':

amount of AUM
use of leverage, including off-balance sheet leverage
counterparty credit risk exposure
trading and investment positions
valuation policies and procedures
types of assets held
side letters
trading practices
any other information that the SEC deems to be “necessary or appropriate

B. Custody: Future rules under the Act may require RIAs to take further steps to safeguard client assets.

C. The "Volcker" Rule: If you are affiliated with a bank, then you generally must not engage in proprietary trading activities
or sponsoring or investing in a hedge fund, private equity fund or similar entity.

D. "Bad Boy" Provisions: If further rules are adopted, then you will be disqualified from using Rule 506 Regulation D offerings if your firm or principals have engaged in certain improper conduct in the past.

E. Securities Lending: Within two years, the SEC will promulgate rules designed to raise the transparency of information available to investors with respect to the loan or borrowing of securities.

F. Shorting and Arbitrage: The SEC may adopt further reporting rules and restrictions on such activities pursuant to the Act.

G. Mandatory Arbitration: The SEC may adopt rules and regulations restricting or prohibiting the use of mandatory arbitration agreements by advisers.

Quick Note on the New Financial Reform Bill

2010-07-23T07:30:00.000-07:00

I just wanted to give everybody a quick update about the new Financial Reform Bill signed into law by Obama. The most important change for me was the update to the accredited investor definition, which is now defined as having $1,000,000 net worth without including the primary residence. Some pundits are tagging this bill as the largest financial reform act since the Great Depression. For a full overview of the new reforms, please see the article written by Alex Akesson on HedgeCo.Net.

Welcome to the Hedge Fund Capital Introduction Blog

2009-06-21T18:45:00.001-07:00

Hedge Fund Capital Introduction can be a crucial component to a hedge fund's growth. Most bulge bracket prime brokers offer some form of capital introduction for their larger clients, but finding a solid capital introduction program for smaller clients presents a challenge. This site is designed to discuss recent events and updates within the hedge fund marketing/capital introduction space. All contributors with beneficial knowledge are urged to participate.

Update: Trends in Capital Introduction 2010

2010-02-10T07:40:00.000-08:00

Here is the link to the published research report, Capital Introduction Trends in 2010, written by Daniel Golyanov at Carbon360.

Trends in 2010

2010-01-29T06:20:00.000-08:00

I recently wrote an opening letter for the Carbon 360 survey on "Trends in Capital Introduction in 2010" and thought I would share it with you:

As the hedge fund industry stabilizes, we expect investors to become more active. 2010 should be a prosperous year for alternative investments. The managers and investors who survived 2008 and 2009 are the cream of the crop, providing third party marketers and capital introduction firms with a vast array of opportunity. As hedge funds go, so goes the capital introduction industry.

In that mode of thought, transparency and risk management are the popular trends. I would expect new regulations to affect how third party marketers and capital introduction teams are able to conduct business. But this change is not to be feared, but rather embraced. If we can work with regulators to legitimize the industry and overcome the scandalous actions of a select few, I am all for it. This will be a major theme ongoing.

I expect institutional investors to be more receptive to newer managers, fee structures to remain stable, and foreign investors to invest more in the US and vice versa. Europe should lose market share to Asia, and new markets will open up as countries move from developing markets to developed markets. Proprietary trading and hedge funds owned by large US banks will most likely weaken or disappear under the current administration and, more importantly, current US economy sentiment, leading to opportunities for independent investment management companies. Overall, I expect 2010 to build on the strength of the latter half of 2009.

If you have a chance to check out the survey, please do. The respondents include third party marketers, internal marketers, and capital introduction teams.

Third Party Marketing Survey

2009-12-11T14:35:00.000-08:00

HedgeCo and Carbon 360 have teamed up for the Trends in Capital Introduction Report 2010 Edition, and right now we need your help. If you are a third party marketer or work in capital introduction, please take the time to fill out this brief survey. The report will be free for anybody who participates in the survey. Thank you for your time.

Evan Rapoport Presents the HedgeCo Fall 2009 Capital Introduction Round Tables

2009-11-05T14:03:00.000-08:00

By: Alex Thompson

Evan Rapoport, co-founder and managing partner of HedgeCo.Net, is holding a capital introduction event Tuesday, November 10th at the US Trust Building in Midtown Manhattan. He will be present six different fund managers including Doug Cass to investors composed of some of the largest fund of funds, family offices, and high net worth investors. While seating is limited, there are still a few spots left. If you would like to attend and are an accredited investor, please click here to register for the event

Web 2.0 and Your Hedge Fund

2009-10-01T12:53:00.000-07:00

Part 3: Blogging

First off, I realize the irony involved in writing a blog about blogging. After all, you could say that all I am doing is simply “tooting my own horn.” However, given the blogging universe's meteoric rise in popularity over the past several years, it has proven, when used properly, to be a tremendous marketing tool.

By writing about topics that you are not only well-versed, but also opinionated on, you can attract a very large audience. One of the great things about blogging is that it offers readers an alternative viewpoint to the current stream of traditional, often like-minded news outlets. In a sense, it can offer the reader a glimpse into the mind and personality behind your hedge fund.

In addition, blogs can reach a wide scope of readers. Blogs are syndicated, appearing on many users' home pages when they log on to their Google or Yahoo accounts. Other popular blogs, such as Abnormal Returns and The Big Picture, attract readers by reposting their favorite blogs and news articles to their readers. This type of exposure is priceless and very difficult for a hedge fund manager to ordinarily obtain. This pool of readers very well could include a list of potential future investors.

However, before you race to launch your own blog, there is one important aspect of blogging that I need to address: compliance. First, and perhaps most important, you are not allowed to mention the specific name of your fund in any blog accessible by the general public, but it is perfectly fine to discuss topics related to the markets, politics, or opinion-related matters (in fact, it's encouraged!). For example, you are not allowed to say, “I believe the S&P is overvalued, and as such the Hot Fund LP will be shorting the market with our long/short hedge fund.” In contrast, if you said, “ I believe the S&P is overvalued, and as such I would consider lightening up on equity holdings and seek ways to generate more cash,” you would be compliant with regulations, as this is not a general solicitation. Also, make sure that you check with the investment advisor rules in your state prior to providing any specific portfolio advice to investors.

That being said, in my opinion the best way to promote your fund is by either referencing your general partnership and/or directing readers to your compliant, password-protected web site. A simple suggestion would be to post a link to your hedge fund website below your blog, along with a short bio or description of yourself.

As you are undoubtedly aware, the blogosphere has grown at a voracious pace in recent years. As such, it presents a great medium for fund managers to spread their views and thoughts to a wider audience. Not only can blogging provide the public with a glimpse into an industry known for its secretiveness, but it can also offer another personal, human way to connect with potential investors.

Here are a couple of links to blogs run by hedge fund managers.

The Mystery Hedgie

The Mad Hedge Fund Trader (Former Hedge Fund Manager)

Bret Rosenthal of Rosenthal Capital Management

Web 2.0 and Your Hedge Fund

2009-10-15T08:07:00.000-07:00

Part 4: Social Networking

Without question, social media has experienced a meteoric rise in popularity over the past few years. In fact, most hedge fund managers and/or their staff have some sort of social networking presence on sites such as Facebook, Twitter, LinkedIn, and MySpace. While these sites offer a tremendous opportunity to connect with colleagues and build relationships, their use also carries with it a hidden risk. Most notably, given the easy accessibility of such information, investors are increasingly scrutinizing the pages of firms' key employees during the due diligence process. As a result, you would be wise to follow a few simple precautions.

First, bear in mind that anything you or your employee posts on their page will be viewed by fellow professionals. For example, posting a funny profile picture on your page may be funny to you, but to the potential investor conducting due diligence, it may mean something else. That same rule applies to any quotes, links, photos, or messages you post on your page as well. A good rule of thumb: If that if a given picture or quote isn't appropriate to share around the office, it's probably not appropriate to post on the web.

Perhaps the most popular site for professional networking is LinkedIn. For the hedge fund manager, the site offers several advantages. With relative ease, you can list your contact information and job description, not to mention any projects you are currently working on. Perhaps more importantly, you can network with potential investors and pre-qualify them. Your online acquaintances potentially meet the definition for the pre-existing relationship rule. Point being, this online network offers the similar benefits as more expensive alternatives, such as hedge fund conferences, but at little or no cost.

As I mentioned above, social networking can serve as a powerful marketing tool to highlight not only your own expertise, but also your fund's. Furthermore, given the breadth of marketing restrictions placed on the hedge fund industry, you would be wise to consider utilizing social networking to increase your fund's exposure. The results just might surprise you!

Doug Kass to Speak at HedgeCo Event

2009-10-12T15:40:00.000-07:00

By: Alex Thompson

On November 10th, Doug Kass will be the keynote speaker for the HedgeCo Fall 2009 Capital Introduction Round Tables. In case you have been living under a rock, Doug Kass has been almost clairvoyant in his recent prediction about the financial meltdown, including his accurate call on the generational market bottom.

His uncanny knack for forecasting broad based market movements has brought him recognition, and he is a frequent guest on CNBC's Squawk Box, The Kudlow Report, Mad Money, Street Signs, and Fast Money. He is the author of The Edge on the TheStreet.com's Real Money, and has written several stories and editorials for Barron's.

Doug Kass is one of the foremost experts on short selling in the financial markets and has lectured on the topic at Yale University's Graduate School of Management, Harvard Business School, and Seton Hall University. He has also been quoted in the Wall Street Journal, the New York Times, and the Financial Times.

Doug Kass is also the manager of a very successful hedge fund. Based on fundamental analysis, the fund uses logical argument and analytical dissection as a basis for forming its trading position.

As an added bonus, investors will get the chance to speak with a handful of hedge fund managers and learn more about the strategies behind successful investing.

HedgeCo is a leading provider of hedge fund information and services, providing startup consulting, website creation, third party administration, capital introduction, third party marketing, as well as, providing and maintaining HedgeCo.Net, one of the world's most trafficked databases.

The event will take place at the US Trust Building, 114 W. 47th Street, in New York City on November 10th, 2009 at 4:30 PM. This event is for accredited investors only. To reserve your spot, please click here to be redirected to the event page.

Web 2.0 and Your Hedge Fund

2009-09-28T05:37:00.000-07:00

Part 2: Online Hedge Fund Databases

The next topic I want to touch on in our discussion of using the internet for your hedge fund is posting your fund information on one of the hedge fund databases. In my opinion there are many benefits, very little detriments, but I should disclaim, I of course am a little biased.

Databases increase your hedge fund's exposure to potential investors and facilitate capital raising with little to no cost for the exposure. Most databases don't charge funds to list. It does take an hour or so to get your listing up, and in order to keep your database listing current, you will need to send in returns and notify them of major changes in the fund, such as a change in service providers like administration or a change in the fundamental strategies.

Also, databases provide quantitative and qualitative measurements for your fund, once again, usually at no cost. You and potential investors will see statistics on your performance like Sharpe and Sortino ratios, and some hedge fund databases provide many different qualitative measurements.

Lastly, these qualitative and quantitative measurements allow you to easily analyze your fund's position with other similar funds. Members of the database, including you as a manager, will be able to rank funds with similar attributes, such as all hedge funds with less than $100 million in AUM that are taking long short positions in emerging markets.

There are a number of hedge fund databases online, and if you only have time to register for a few, you should choose the ones that are most well trafficked in my opinion to maximize your exposure. I have included the traffic rankings for the most popular hedge fund databases provided by Alexa.com, a third party traffic monitor.

Part 1: Hedge Fund Websites

Web 2.0 and Your Hedge Fund

2009-09-24T14:53:00.000-07:00

Part 1: Websites

It's no secret that the internet is strategically important in today's business environment, but current regulations dishearten fund managers looking to leverage the internet. What I want to discuss is how to hedge fund managers can use the internet to attract and service investors while staying compliant with all rules and regulations.

The first topic I want to discuss deals with having a website for your hedge fund. There are many benefits to having a website for your hedge fund.

The first is your own hedge fund website can help attract new investors. A well designed website allows you to make a positive first impression with potential investors. But, if your website is poorly put together, it may actually hurt you having an online presence rather than help you. If your website looks like it was designed using free online tools or by a kid in his garage in 1995, you may deliver the message that implies you are a small fly-by-night organization, which you want to stay away from in today's post-Madoff world.

Another benefit to having a website is it allows you to communicate with investors regardless of their time zones and scheduling conflicts. Being that there are so many global hedge fund investors, the last thing we want to do is dissuade a potential client from investing in your fund because they live in Sydney, and you're in the States, and they can't reach you to get the information they need in a timely manner.

Still another reason to have a website is it allows you to keep your investor letters and marketing materials in one central location. I find that this is especially helpful in dealing with larger institutions and fund of funds where the staff turnover tends to be fairly high and each new staff member contacts you for your marketing materials and PowerPoint presentations. With your website, they’ll be able to attain this information whenever they need without having to bother your firm consistently for updates.

Another benefit is your website will also help you in servicing your existing investors. It should instantly provide them with performance information, provide up to date contact information, and potentially provide online access to investor capital statements.

Most importantly for your own hedge fund website is making sure it is compliant with all SEC regulations. In order to do this, you must make sure that only accredited investors can view your fund information. There can be no (I MEAN NO) mention of the limited partnership on the outside of the website where it can be seen by the general public. Even the website URL can't mention the fund name, such as http://www.xyzfund.com/.

When designing your website, you can mention the investment advisor company but not the fund. You can't talk about the strategy you use or the past performance. This mistake is very common. Firms believe that they only need to protect the fund performance, and don’t realize a general fund description is considered a solicitation in the regulators eyes. I can't tell you how many fund websites I have seen that are password protected but still mention the name or strategy of the fund prior to subscription. Lastly, it's against the regulations to post legal documents on-line, and the reason its against the regulations is that hedge fund firms have to keep track of everyone they are sending their legal documents to, and if random individuals are pulling your documents online, it would be impossible to monitor.

So, to conclude, what should your fund website should look like to the general public? Essentially, your website should have no reference to the limited partnership and designed for the general partnership. Immediately, investors should be prompted to either login or register for more information. Also, contact information should be posted for less tech-savvy investors or investors who are comfortable with online registration can contact you. This would be the most compliant format for having a hedge fund website for your firm, no disclosures or advertisements about the hedge fund. There are many other rules to adhere to when putting hedge fund information online, so we suggest you consult an attorney or an experienced web production firm before crafting a new website. You can also review the Lamp No Action letter for more details about the regulations a hedge fund must abide by before putting their information online.

Part 2: Hedge Fund Databases

Hedge Fund Marketing and Marketers - Part 2

2009-09-10T08:57:00.000-07:00

Now that you know what third party marketers are, and how they get paid, let's talk about the rules a little bit. First, all marketers who get paid a fee as a result of the amount of assets raised must be licensed as Series 7 salespeople with a FINRA broker/dealer. Not sure if you noticed there, but I said ALL marketers, not just third party marketers.

Many in house hedge fund marketers do not believe they have to be licensed. They are right, if they get paid a salary to raise assets. If however, they get compensated based upon the amount of assets raised (performance), then they too must be FINRA licensed. They are essentially selling a security, an LP investment. In addition, all hedge fund marketers including in house and third party must be licensed in the state in which the investor they are soliciting investors.

Here is where it gets tricky, supervision of the hedge fund marketing industry. Who is supervising the in house marketers for hedge funds and determining whether they should be licensed? Additionally, if they are licensed, are they using email that follows FINRA's archiving rule? Is their supervisor reviewing their mail? Speaking of which, is the supervisor reviewing anything? The reality is, most of the in house hedge fund marketers that are licensed have a very high payout with a broker/dealer that basically allows them to be licensed there to pass through revenue from the hedge fund. In my humble opinion, there is very little oversight here.

There is another type of hedge fund marketer, the unlicensed one. This marketer thinks they are operating under some imaginary exemption. For years I have heard marketers rely on the 'Finders' exemption. They would claim that there is an exemption that allows unlicensed brokers to collect a 'finders fee' on any hedge fund investments made as a result of an introduction by the unlicensed marketer. This is not true, and if you are currently operating under this assumption I urge you to get registered immediately! There is an exemption related to investment advisers (IA's) that allows unlicensed sales people to introduce individuals to the IA for separate account management and receive compensation, provided the investor is aware of the relationship and exact payment to the sales person in advance.

If you are looking for help with capital introduction, prime brokerage, or third party marketing for your fund feel free to email me for consideration at evan@hedgecosecurities.com.

Evan Rapoport is a registered principal and offers securities through HedgeCo Securities LLC. Member FINRA, NFA, SIPC.

What Is The Difference Between Hedge Fund Capital Introduction And Third Party Marketing?

2009-06-21T18:46:00.000-07:00

I often hear the terms Capital Introduction and Third Party Marketing used interchangeably. They actually however, represent two different services within the hedge fund asset gathering space.

Capital Introduction is a service usually provided by hedge fund prime brokers. The biggest teams coming from the largest prime brokers, firms like Goldman Sachs & Co., Morgan Stanley, Merrill Lynch, etc. These prime brokers have teams within their 'prime services' divisions that will help clients of the firm to find investors suitable for their funds.

How do they introduce investors you may ask? Well, investor introductions are made through occasional capital introduction conferences, road shows, one on one investor meetings, and individual investor conference calls. When done properly, this service can help to raise a fund millions of dollars at no cost to the general partner and no harm to the limited partner.

The real trick here, is finding a firm that actually follows through with what they claim. Many smaller trading firms and 'mini-primes' claim they offer capital introduction when in reality all they offer is a list of fund of funds or introductions to third party marketers.

There are rules that have to be followed however in order to receive capital introduction. First, your fund must be doing enough business with the prime brokerage firm to be able for the firm to afford their employees time, and risk. That's right risk. Most hedge fund managers do not understand what it means to have a series 7 and therefore have never had to worry about a client suing them for a poor recommendation. This is exactly the risk these licensed individuals and firms take on when making introductions to your fund. If your fund fails, they are at risk of client complaints and lawsuits, and if you commit fraud.....whoa boy! They can say goodbye to their career, or at least thousands of dollars defending themselves as to how they had no knowledge that this low life manager decided to run off with their clients money. Anyway, point is, if you are not trading or borrowing, don't expect too many investor introductions from your prime broker.

Second, your fund needs to perform. It is hard to make investor introductions for a fund that is down thirty percent. Stellar performance obviously makes it easier to make investor introductions.

Next, your fund infrastructure must be solid whereas no one can question the integrity of the information coming out of your firm. This includes having an independent fund administrator, industry recognized auditor, larger firm prime broker and custodian, and knowledgeable legal team. With these providers in place the capital introduction team can feel more confident their investor referrals will have access to the proper information when needed regarding your fund.

Third Party Marketers for hedge funds are FINRA licensed individuals and firms that raise capital for multiple hedge fund products. These third party marketers work for a fee that usually amounts to twenty percent of the hedge fund's fees. This includes both management and incentive fees usually for the life of client. Third party marketers , similar to capital introduction teams, will set up investor meetings, conference calls and road shows. Unlike capital introduction however, where the representative simply makes an introduction, third party marketers usually help to close the client down. What I mean by that is, third party marketers will not only get the client interested initially, they will also follow up with feedback after conference calls and manager meetings, update the client with monthly returns, and help to do everything possible to facilitate the investment provided it is suitable for the client.

Being a third party marketer for many years myself, i am a little biased (full disclosure, I also run a capital introduction firm) however, I believe this service provides hedge fund managers an incredible way to grow their firm assets at a limited cost to them. I have watched and been part of helping to grow hedge funds from as early as seeding to $400 million, and to raising assets for funds as small as $5 million and helping them to get to critical mass of $50 million, then up and away. These funds would have not been able to receive capital introduction because they were too small or if they are a strategy that does not trade, like private equity. Therefore, using third party marketers was critical in order for them to grow. How many companies with huge profit margins like hedge fund firms would hire sales people with no money up front, no benefits required, etc., and only have to pay them if they sell a product? Me, Me, Me! I know I have to pay my sales people much more than twenty percent and would kill for a deal like this. Again, point is, third party marketing is a great service if you can get a solid third party marketing firm to represent you.

Now, again like capital introduction, third party marketing has some requirements as well. One is length of track record. As a result of taking on the risk of marketing your fund to investors, third party marketers typically like to work with funds that have several years worth of track record. I would say the typical minimum to be considered for most third party marketing platforms is around eighteen months worth of track record that is actual to the fund (no pro-forma!) with the standard being thirty-six months.

Assets under management are also important. The smaller the fund the harder it is for the third party marketer to raise assets. Again typical minimums to be considered for most third party marketing platforms are about fifty million USD and average about one-hundred million USD plus.

Hedge fund strategy is the next item of importance. There are specific times that certain strategies are simply out of favor. If your strategy is out of flavor currently, don't expect many third party marketers to come to your rescue. However, if your strategy is this year's Miss Universe, then you may not need to go looking for third party marketers, they will come finding you.

Fund manager pedigrees are another factor third party marketers look at before representing a new fund. If the manager was a plumber and now has decided to start a hedge fund because he doubled his money at Ameritrade, chances are, third party marketers will pass. However if the fund manager was formerly at one of the larger hedge funds, and has a portable track record and strategy, this certainly will help to move him to the top of the marketers list.

Fund infrastructure is equally important to third party marketers. The reasons are the same as mentioned for capital introduction, but maybe even more so being that third party marketers are paid a fee by the fund and therefore are perceived to have more responsibility for their recommendations as opposed to capital introducers that simply make a referral. Having top tier providers makes due diligence much easier for these firms and their clients.

Lastly, and probably most important again, is positive fund performance. It simply is harder to sell a hedge fund with poor performance as opposed to one that has performed. As a third party marketer, we usually have access to multiple products and being that my pay is often tied to their performance....well, nuff said. I do always keep in mind however what is right for individual clients portfolios. and also do realize sometimes the best time to invest in hedge funds is when they have had a short term losing period, especially if this type of strategy has paid off in the past. If I don't include that last disclaimer I will get tons of hate mail from poorly performing managers. :)

Some funds do not like to use third party marketers because they have limited capacity and therefore cannot afford to give away a portion of their fees because they feel they can raise the assets on their own. There are others that have their own internal marketing teams and choose to raise assets only via those employees. This marketing strategy typically costs the fund more money up front, but less in the long run.

So to sum up, there are various differences between hedge fund capital introduction and third party marketing, however I believe when making a decision which method you will use to grow your fund you should consider your:

-Hedge Fund Track Record
-Hedge Fund Monthly Trading Volume
-Current Firm/Fund Assets Under Management
-Hedge Fund Age
-Hedge Fund Capacity
-Current Marketing Budget

Decide what is most important to your fund, and what will ultimately be the fastest path to your firm's success. Then hope the capital introduction teams and third party marketers will help you!

If you are looking for help with capital introduction, prime brokerage, or third party marketing for your fund feel free to email me for consideration at evan@hedgecosecurities.com.

Evan Rapoport is a registered principal and offers securities through HedgeCo Securities LLC. Member FINRA, NFA, SIPC.

Top 50 Fund of Hedge Funds Groups

2009-08-25T09:56:00.000-07:00

Philippa Aylmer, contributing editor to The Hedge Fund Journal, writes, “If the last decade could be described as the biggest credit party ever, then the end of 2008 brought the mother of all hangovers. The hedge fund industry took a beating along with much else in the financial services sector and funds of hedge funds felt their share of the pain.”

The Hedge Fund Journal's report of the “Global 50: Funds of Hedge Funds” shows the general decline in AUM in funds of hedge funds from September of 2008 to June 2009. With the market downturn and the uncovering of Madoff's $50 Billion ponzi scheme, funds of hedge funds had been hemorrhaging AUM in 2008 but have slowed the bleeding in the early part of 2009. Will the fund of hedge funds recover from their wounds by the end of this year, or will it take more time? We will have to wait and see.

Click here are the top 50 fund of hedge funds groups ranked by assets under management as of the end of June in 2009.

Hedge Fund Adminstration - Why It Is a Necessity! - Part 3 - How They Benefit Investors

2009-08-17T15:51:00.000-07:00

Now that we've discussed what third party administration does, we need to discuss how this protects investors. Because the administrator is involved in preparation of all the capital transactions, performance statements, investor records, audits, and tax forms, they provide third party verification of the entire flow of capital. The administrator sees who the investors are, how much they invest, and confirms transactions in the trading account of the fund, including when new money is deposited, when money is withdrawn to pay expenses, when money is used to purchase securities, and what securities are purchased. Since performance updates are created and distributed by the third party administrator, investors are assured of the validity and accuracy of the performance data. Because auditors often receive their financial information from the administration firm rather than the fund, audits are much less likely based on fraudulent financial statements.

Furthermore, hedge funds and investors benefit in the efficiency of third party administration. Investors and fund managers are provided with tax and accounting services that adhere to tax codes and GAAP regulations, which would be time consuming for fund managers and investors to prepare on their own. Due to economies of scale, hedge fund administrators are able to provide their services for a much lower price than the cost for a fund manager to self-administer.

After reading these last three posts, I hope you are starting to get the point. Hedge fund administration provides investor protection. Additionally, because the use of an independent administrator lowers costs and improves operational efficiency, hedge funds with a third party administrator can also generate higher returns due to lower operational expense. Probably one of the few times in finance where lower risk can mean higher rewards.

FULL DISCLOSURE - HedgeCo Networks owns G & S Fund Services, a full service hedge fund administrator and administration firm. Evan Rapoport is a part owner and co-founder of HedgeCo Networks

TAGS: Hedge Fund Administration, Hedge Fund Administrators, Hedge Fund Accounting, Hedge Fund Performance, Hedge Fund Fraud, Hedge Fund Investors

Hedge Fund Administration - Why It Is A Necessity Part 2

2009-08-16T19:37:00.000-07:00

So, what exactly do hedge fund third party administrators do? Well, hedge fund administrators act as a third party accountant and record transactions between fund managers and their investors. They track subscriptions to and redemptions from the hedge fund, which provides third party verification of when new capital is available to be invested by the fund managers or when capital is withdrawn from the fund and can be accessed by the investor. Furthermore, hedge fund administrators calculate performance of the fund as a whole and the individual investment positions and provide the performance information to investors.

As specialist in financial regulations, hedge fund administrators provide Anti-Money Laundering and Know Your Customer compliance programs required by the IRS and Office of the Treasury, which assure investors aren't robbed by fund managers and provide hedge funds with the required background information on their investors. Also, investor records and registration are often created and maintained by the third party administrator.

Additionally, because hedge fund administrators are experts in accounting, they will handle tax preparation for the general and limited partners, work with independent auditors, and make certain all statements they provide are GAAP compliant.

FULL DISCLOSURE - HedgeCo Networks owns G & S Fund Services, a full service hedge fund administrator and administration firm. Evan Rapoport is a part owner and co-founder of HedgeCo Networks.

TAGS: Hedge Fund Administration, Hedge Fund Administrators, Hedge Fund Accounting, Hedge Fund Performance, Hedge Fund Fraud, Hedge Fund Investors

Hedge Fund Adminstration - Why It Is a Necessity! - Part 1

2009-07-19T19:03:00.000-07:00

I made it a rule a long time ago, that I would only market and invest in hedge funds that use independent third party administrators. My decision was simple, with no one watching over the firm's performance and independently verifying it on a month to month basis, how could I trust the integrity of the information coming out of the firm? In addition, if they were performing their own accounting monthly, how could I be confident that they are capable of complying with GAAP? Or that they understood accounting at all?

We all know that hedge fund fraud is rampant in the hedge fund industry. Not a day goes by where we don't read about a new hedge fund manager going to jail, hiding in the woods, or taking little old ladies and charities for their last pennies. As a result of the fraud, hedge fund investors are fuming. However if they followed the same rule I have, investing in a fraudulent hedge fund becomes less of a possibility. Let's talk about how independent third party administration can help prevent fraud. First however, it is important to understand what administrators do.

Continued in Part Two of 'Hedge Fund Administration - Why It Is A Necessity!

FULL DISCLOSURE - HedgeCo Networks owns G & S Fund Services, a full service hedge fund administrator and administration firm. Evan Rapoport is a part owner and co-founder of HedgeCo Networks.

Hedge Fund Third Party Marketing and Marketers Part 1

2009-09-06T19:43:00.000-07:00

Being a FINRA licensed third party marketer for hedge funds and running a firm of third party marketers has taught me a good deal. I get asked a lot of questions regarding how third party marketing works so I thought I would discuss various aspects here.

First, the basics. What is hedge fund third party marketing? Third party marketers (3pm's) are essentially hedge fund brokers. They represent various hedge fund products and introduce and sell these products to qualified investors. As a result of the introduction and follow up by the marketer, if an investment is made, the 3pm gets compensated. Usually compensation comes in the form of a portion of fees. The 'standard' 3pm fee is 20/20. That is, twenty percent of both the management fee and the performance fee. This is usually paid to the 3pm's brokerage firm as the fund receives its fees, and is usually paid to the marketer for the life of the client.

Where does a hedge fund manager find third party marketers to market their hedge fund? The Third Party Marketers Association (3pm.org) estimates there are about 500 third party marketers in the United States. Not very many, relative to the amount of hedge funds that are out there. There are several firms like mine, HedgeCo Securities, that are set up to exclusively market hedge funds. You can find these firms by searching some of the various hedge fund website service provider directories, or by looking at 3pm.org. Keep in mind, with some 10,000 estimated funds, and only 500 3pm's, it is easy to realize why 3pm's have a reason to be picky. So if you are a hedge fund that is less than 10-25 million (and I am being very generous here), don't be surprised if you do not find a third party marketer to represent your fund.

To be candid, raising money for smaller funds is harder. It lessens that amount of investors you can put the hedge fund in front of, allocations are typically smaller, track records are usually shorter, and performance risk and other various risks are higher. That being said, some 3pm's will make an exception when they see attributes that are promising. The manager may have a great pedigree and strategy for example, but does not know how to market the product or have any investor contacts. Other ways to entice third party marketers if you are a smaller fund could be by offering a higher fee split, or a 'seed' type relationship where the marketer is given a percentage of ownership based upon assets raised.

If you are a hedge fund, and are looking for third party marketers, some items to think about include:

Is the marketer licensed?
What is their experience in raising assets for hedge funds?
How do they source their investor contacts?
How do they make sure these investors are qualified to invest in your fund?
Will they 'screen' their investors with your firm prior to introducing your fund?
Does the firm have any disciplinary items your firm should be aware of?
How many hedge funds does the firm market?
How many salespeople will be marketing your hedge fund?
How many other hedge funds with a similar strategy does the firm market?

There are plenty more but these should give you a good start when interviewing potential candidates.

In "Hedge Fund Third Party Marketing and Marketers Part 2" we will be discussing regulation and how it applies to marketing hedge funds.

Hedge Fund Mini Prime Brokerage Primer

2009-09-02T11:33:00.000-07:00

Guest Author: Alex Thompson

In the world of prime brokerage, there are the Goldman's, the Morgan Stanley's, and the JP Morgan's, and then there is everyone else. The big boys of the prime brokerage world offer the best of trading platforms and great customer service, if your hedge fund is big enough for them to turn a profit on your account. Hedge funds under $100 million in assets might have a hard time getting Goldman Sachs on the phone. Even if that fund was able to get into the Goldman customer book, what kind of servicing do you think they could expect?

Why Use a Mini Prime

A lot of the time, small and mid-size funds can get trading through these larger brokerage houses with similar, and sometimes better, servicing with better pricing by going through a mini prime broker. These mini primes are basically viewed as an omnibus account and go to the prime brokers and negotiate in aggregate. For example, a mini prime with 20 funds with average assets under management (AUM) of $50 million goes to a prime broker and opens what amounts to a $1 billion account. The mini primes can then leverage the group AUM for favorable pricing and servicing from the prime broker. The mini prime then receives the trading commissions for its services.

Benefits of Mini Prime Brokers

So, how do the funds benefit by going to a mini prime broker? Mini primes offer many services to hedge funds including access to a prime broker's electronic trading platforms and full brokerage services. Also, mini primes offer the ability for smaller funds to utilize a multi-prime broker strategy that might be otherwise inefficient because of the additional infrastructure needed. Rather than having multiple contacts for multiple trading accounts, the mini prime serves as the one contact the fund needs to track the different accounts.

However...

One of the biggest benefits mini primes claim to offer small and mid-size hedge funds is capital introduction programs, but often times, the capital introduction department consists of one person who handles a hundred funds. While most of the mini prime brokers have little capacity to offer true capital introduction services, don't be dissuaded of using a mini prime by the lack of true capital introduction programs. In fact, some do in fact have capital introduction programs that are effective, but the bigger hedge funds on the client list are more likely to receive servicing. For that reason, some of the smaller mini prime brokers offer better servicing for a small hedge fund. Also,the other services hedge fund mini prime brokers provide are reason enough for hedge funds to consider the use of a mini prime broker.

How to Choose a Mini Prime Broker

If you have decided to look for a mini prime broker, you need to know how to evaluate the different mini primes. First, it is important to know which prime brokers the mini prime works with, how much they have in AUM with each prime broker, and what kind of pricing they can deliver from each prime broker. You want to ask whether they offer multi-prime servicing and address any concerns about your trading platform needs. Furthermore, if you are looking for a mini prime with true capital introduction capacity, get a feel for how many funds they have per staff members, how many dedicated employees work on capital introduction, and the amount of assets they have raised in their past.

One quick rule in shopping for a mini prime broker is you should be paying less for trading or getting more servicing (or both) than you would without a mini prime. If you aren't, keep looking around until you find a mini prime that can offer you lower prices or better servicing. Once you have a feel for the services each mini prime broker will offer your fund and at what price, you are ready to make a decision.