Managing Hedge Fund Risk and Financing: Adapting to a New Era

Investment Approach

Assuming an allocation to hedge funds is consistent with the investor's objectives and has been quantified, the investing approach needs to be determined. What is the optimal way for investors to start a hedge fund investment program? Should an investor invest in single-strategy funds, multi-strategy funds where allocations are made across the spectrum of strategies through a single firm, or an allocation to a reputable fund of funds? Each approach has its pros and cons and the correct choice depends on the investor's sophistication, institutional investment capabilities and investment goals.

Single Strategy Investments

Some investors forgo the fund of funds or multi-strategy approach by building their own portfolio of single strategy funds. Managers of single funds have actual or perceived expertise in a specific strategy or similar strategies. These investments are typically offered in a commingled vehicle.

Considerable and effective due diligence is required for selecting top managers in the hedge fund space. Accordingly, the investor will need to have significant expertise to evaluate a series of different strategies. Extensive knowledge of this space is also required to implement an asset allocation across strategies in order to achieve the correct risk-return profile for the investor. Finally, expertise is vital to perform the ongoing due diligence necessary for the manager program.

If an appropriate level of in-house proficiency exists, investing in several ...