There are a variety of reasons why starting a hedge fund has been popular and become the new American vision. Nearly everyone has read the story of the hedge fund billionaire. Their faces can be seen in the daily media almost every day. However, the mysterious and exclusive nature of the hedge funds they created is in itself comparable to many other areas of finance and investing that may seem mundane.
With a small capital, it is relatively easy to set up a hedge fund performance. Implementing risk control, asset growth, hiring people, and running an organization as a profitable business while generating positive results is a huge challenge. Initial of all, make sure you know what you are doing. The hedge fund industry as a whole has had its ups and downs and many players have gone out of the business year after year.
From some statistics, in 2018 alone, investors withdrew $88 billion from hedge funds, and more than 400 funds were liquidated, according to CNN. Poor performance combined with high fees means death for this fund. However, hedge fund performances are still managed with a total of about $3.2 trillion.
The industry exploded in 2019. The HFRI Funds Weighted Composite Index, which tracks the industry as a whole, achieved an annual return of 10.4%, the best year since 2009. The hedge fund also did very well in 2020 with an annual return of 9.8%.
Tips for starting a hedge fund
It is important to realize that a hedge fund is a company and should be approached with the same systematic approach and long-term perspective. Here are seven important factors we need to address.
1. What is your modest benefit?
- Your hedge fund must have a viable advantage over other markets. This can be a marketing advantage, an information advantage, a resource advantage, or a commercial advantage.
- The marketing advantage can be a close relationship with hundreds of high-net-worth investors.
- A resource benefit can be a relationship with an asset management firm that can invest heavily in creating a hedge fund.
2. Define your policy
- Some hedge fund start-ups miscalculate the importance of clearly defining a fund’s investment strategy. Express your strategy and refine it until you can briefly explain it to your team and the first few investors. The strategy must be repeatable, sustainable, and profitable once the hedge fund management fees are paid.
- Concepts that are not tested in real markets do little to lead investors and advisors who meet hundreds of hedge fund managers every year.
- Do as much competitive research as possible about your competitors, ethically and legally.
- Examine the effectiveness of hedge funds to see which strategies are currently working, which are not, and why.
Did you invest your funds when your strategy was called for or when the pendulum had changed differently? Start by compiling a list of hedge funds that employ such a strategy and ethically and legally furnish as much competitive information as possible about them.
3. Find start-up capital
Your new hedge fund must be sufficiently capitalized. The amount of assets your funds need to make a profit depends on three factors: the size of your team, your investment partners, and your unique fee structure.
In terms of capital, according to the hedge fund law firm Seward & Kissel, the amount needed to start a hedge fund is increasing. In its report on new hedge funds for 2019, the law firm stated that hedge funds require significantly higher minimum commitments from their investors than funds launched in previous years. Initial shots for new product launches sometimes exceed $100 million
In 2018, Stephen B. Nadel, lead author of this year’s Seward & Kissel report, said low investment gains in part contributed to putting new hedge funds on institutional investors’ radar.
4. Develop marketing and sales plan
In any professional, nothing happens until an auction is made. It is vital to growing a sales plan to increase assets before opening the doors of your business. One of the first steps is determining where to try to collect assets.
Small start-up hedge funds typically rely on start-up vendors, family and friends, and high net worth people. Working with institutional investors who can invest $25 million to $100 million at a time can be difficult if you don’t have experience and total assets under management are over $100 million.
Your toolkit should contain all the basics a solid company has today. That means websites, double-sided marketing, 20-page PowerPoint presentations, professionally designed logos, letterhead and business cards, and folders with logos on them to showcase business meetings.
This may sound like a Business 101 detail, but it is often overlooked or poorly implemented. Anyone who can help your business sees hundreds, if not thousands, of hedge fund manager every year, and it’s easy for them to see which managers are putting their time and effort into it and who are succeeding at the last minute.
All marketing and sales materials should be prepared under the guidance of your chief compliance officer or compliance advisor, as many restrictions and details need to be approved and reviewed.
5. Consider risk management
Risk management is an important piece of the puzzle in managing a successful hedge fund. Your company must have a specific and competitive method of managing business and portfolio risk or you will not be taken seriously for your business or long-term growth goals.
Hedge fund performance often uses leverage or derivatives or pursues complex trading strategies in new asset classes. This means that the risk of a hedge fund is different from that of a conventional fund and can, in fact, only apply to one particular hedge fund. Professional risk managers are key to ensuring that risks are adequately protected and reported and that surprises are kept to a minimum. Market risk and strategic risk are one, but you also need to consider model risk, operational risk, counterparty risk, and others.
There are many advisors and consultants out there who do nothing but advise hedge funds on portfolio management and operational risk issues.
