"If you really wanna succeed, and you wanna manage a higher level of assets, out of the gate it takes you eating your own cooking," said Mitch Ackles, President of the Hedge Fund Association and CEO of Hedge Fund PR. "What that means is you have to have some of your money invested at the outset. We're not talking $500,000 -- it has to be several million."
Ackles told StreetID that smaller launches tend to fail. "Let's say you and I were to get together and launch a hedge fund with $10 million, we would probably stay at $10 million," he said. "Raising assets, unless it's from a very wealthy individual, will be very difficult. No institution will look at a fund of that size. So you have to have at least $100 million out of the gate. That means money that is committed, which is called seed capital.
"So let's say I worked at a prop desk at Goldman Sachs. I may have people that are my contacts and they liked the strategy that I employed at that prop desk. While I may not be able to look back and say, 'This was the track record I had,' because this was the property of Goldman, they might know my pedigree, they might know my capability. I can say, 'Look, this is the strategy I'm going to employ.' It's kind of like being first in line at an IPO. There are a group of people that will be seed capital providers. What that means is usually going to your Rolodex first. Who do you know that's a wealthy individual. Even a small endowment or foundation or even a smaller institution."
If you are wondering why someone would provide money to an unproven fund, Ackles said that it's because of the advantages in being the first to jump on board. "You negotiate a deal where they get reduced fees," he said. "So they pay less than the investors that come after them, so they get a sweeter deal."
"Then after that I've got my $100 million and I launch," said Ackles. "What it takes next is me creating the actual business, just like you and I would do for any [other business]. So I need to have the infrastructure; I need to pick a place for an office, I need to hire a team."
That team could come from a bank if your hedge fund spun off of one. "It might be a portfolio manager at the top, but there are traders that work with him," said Ackles. "And perhaps others -- a compliance person, a legal person. You have to hire people."
Next up: acquiring Bloomberg or Reuters terminals or whatever else you may need to take on the strategy. "After you've got it in place and you begin trading, you need the pieces to market the fund," said Ackles. "So you need a pitch book, which is essentially a PowerPoint presentation that conveys your investment thesis that explains in detail your view on the market, what your strategy is about, why you believe you're able to execute it, and who are the people that provide services to your firm."
For better or worse, investors will want to see some big names attached to your fund. "Having [big names] is essentially showing that you are quality enough that they took you on as a client," Ackles explained. "So you need the service providers, and it's an administrator, an auditor, an accountant, a prime broker, and those types of people will give you further credibility."
"Many people will need to have a software system online or installed locally that will allow them to benchmark their performance," said Ackles. "So if you and I were to invest in Vanguard, there would be a performance sheet that we can download that would show how well the performance of that fund did versus the indices it's benchmarked against. It will show a brief commentary on what the manager thinks about what's going on in the performance and what's going on in the overall economy. It will have other sorts of data points that might be able to help you evaluate qualitatively the performance of that fund."