How to Start a Hedge Fund

Many future hedge fund managers have misconceptions about how to start a hedge fund – either they think it is a very basic process that takes no time or resources, or they think that it will take too much time and will be cost prohibitive.  For most start up hedge funds, the manager can be up and running within a month depending on whether the manager will need to be registered with the state securities commission (please see our article on start up hedge fund timelines).  This article will detail the steps the manager will need to take to start the hedge fund.

Starting a Hedge Fund – First Steps

First, the manager should have an understanding of the expected hedge fund investment program and the potential seed investors.  At this point the manager will want to soft circle assets – asking friends and family if they would be interested in investing in a potential hedge fund.

Second, the hedge fund manager should begin to choose his service providers.  The most important is the hedge fund attorney.  The hedge fund attorney will help the manager with both the legal and logistical aspects of establishing the hedge fund.  The lawyer will also be able to suggest other service providers to the manager.  After discussions with potential attorneys and service providers, the manager will probably sign some sort of engagement letter and submit appropriate retainers or fees for services.  Then the manager will go through the document formation and account opening process.

Hedge Fund Documents – Private Placement Memorandum, LP Agreement, Subscription Documents

The central part of the hedge fund start up process is creating the hedge fund offering documents.  The offering documents (the PPM, LPA, and subscription documents) are important because they actually creating a legal agreement between the hedge fund manager and the hedge fund investors.  That legal agreement will need to detail the rights and responsibilities for both the manager and the investors.  The lawyer will draft these documents with input from the manager as well as the service providers.

Hedge Fund Administration and Primer Brokerage

Once the offering documents have been finalized the hedge fund administrator will begin to create the back end items for the hedge fund.  These back end items allow the administrator to calculate the NAV for the fund and prepare statements for the hedge fund investors.

After the documents have been completed, the brokerage account can be established with the prime broker (or mini-prime broker).  This is generally an easy process but there can be some snags during this time.  If a manager is faced with a question on the account opening process, he should contact his attorney who will be able to help sort things out.

Raising Capital and Trading

When the trading account has been established, the manager will ask potential investors to invest in the fund through the offering documents.  The hedge fund attorney will provide the manager with information on how the offering process should be conducted.  Once money has been transferred to the fund’s brokerage account the manager can begin trading the account.

After the manager has developed a track record of good returns, the manager may want to think about other capital raising avenues such as capital introduction services and third party marketers.

Please contact us if you are interested in starting a hedge fund.  We’ve compiled hedge fund start up articles which will help to answer some of the most common issues for start up managers.