Fundamentals

The question which every investor and investment manger asks before putting money into a hedge fund or a fund of hedge fund is: how should we structure the investment decision process? If you extend this question you are actually asking: what is the most efficient approach to cope with the amount of information provided by the managers and/or advisors, and how do we achieve an efficient and scalable evaluation, selection and due diligence process? Most investors choose the route of an Request for Information or Request for Proposal process which in itsessence means constructing a dedicated questionnaire, a questionnaire which can be individually structured and sent to as many candidates as required (e.g. a fund of hedge fund manager selecting underlying hedge fund managers would create a questionnaire to assess the investment strategy of the manager, their organisation, operational controls and financial strength, for example).

Since the first funds appeared in 1949 to the advent of hedge fund giant George Soros in 1969, the boom of the late 1990s and the bust of the early 2000s, few sectors have seen more change than the hedge fund industry. With tenfold growth over the last decade, hedge funds are becoming more than just an investment vehicle for high net worth spending money. Attitudes towards hedge fund risk are poised to change, and the evolution will have positive results for the industry. This paper will examine proposed improvements in risk measurement, as well as the consequences of risk on portfolio performance. We predict that regulatory scrutiny will be the catalyst that forces risk levels down and ultimately drives the industry toward a period of maturity. Within this more stable environment, inflows from retail and institutional investors will surge, leading to the emergence of hedge funds as a more popular investment choice amongst the investing public.