This past summer, Hedge Fund Research (HFR), Inc. reported that hedge fund assets surged to a total $3.224 trillion in the first half of 2019, in part because of hedge fund platforms. Global hedge fund capital increased to a new record as investors allocated $142.5 billion of new capital to the industry, according to HFR. As the HFR report shows, investors continue to see the value of hedge fund investing.
Against this backdrop, it’s no wonder that investors have discovered online hedge fund platforms. Companies began creating these marketplaces in the wake of the 2012 JOBS Act, which lifted the ban on general solicitation. The rules allow hedge funds and other private funds to offer their products more widely, as long as they certify that interested parties are “accredited investors.” The use of online platforms became a logical way to connect accredited investors with hedge fund managers, and a new point of access was born.
A number of online marketplaces have sprung up in the last few years, and the pace is quickening. While the basic premise of each is the same, the quality of the sites is not.
Here are some basic rules for evaluating platforms:
There are two key components behind any reputable site: technology and financial services experience. Both sets of expertise are needed in order to ensure a positive investor experience.
Technology expertise ensures that the site will work properly, have a client-friendly interface, and remain scalable as the site grows and adds new investors and deals. Look for hedge fund platforms that have in-house technical personnel. Some outsourcing may be necessary, but someone needs to manage this process. Sites that have financial personnel directly managing outsourcing resources are going to be less successful than those with in-house teams. Check the bios of the technical personnel associated with a site. Are they from well-known companies? How many years of experience do they have?
In terms of finance professionals, it’s important to understand the level of experience associated with the platform. Financial professionals will be evaluating deals and ensuring adequate deal flow. Review their bios. Do you recognize the companies that they are associated with? Have they reviewed past deals? Perform a quick Google search to see what comes up.
Brokers/dealers serve a number of important roles under the new regulatory regime put in motion by the lifted ban on general solicitation. SEC regulations require that hedge fund platforms verify investors’ accredited status. The task of verifying accredited status is performed by the broker/dealer associated with the platform.
In addition, brokers/dealers vet all deals before they are listed on the site. They look at the management team on every single deal, perform a background check, and carry out other forms of due diligence. Broker/dealers are investors’ first line of defense. Because of this, it’s important that you research the broker/dealer associated with every site before investing. Look into their management team, number of years of experience, current and past clients, and ensure that they have not been fined or site by regulatory entities.
Both the SEC and FINRA have issued regulations and guidance for online platforms. In particular, they have focused on the steps needed to verify accredited investor status. Investors must have a net worth of $1 million or $200,000 in yearly income in order to be considered accredited and participate in general solicitation offerings of funds.
Not all deals are created equally. It’s important to perform your own due diligence when you are evaluating deals on hedge fund sites. Do the people behind the deal have a strong track record? Have they done other deals in the past? What are the returns of the funds?
Look at the type of investors that participated in past deals and are participating in the deal that you are considering. Look for high-quality investors, particularly institutional investors such as pension funds, endowment, foundations and deals sourced through investment consultants. These parties generally have their own strong due diligence processes, and their presence may suggest something about deal quality. Endowment and foundations, for example, go through a strenuous process before investing in a hedge fund, which includes evaluating management, portfolio performance and costs. In addition, they need to get final approval on investments from an independent board of directors. Take the time to research other investors to ensure that you’re in good company.
One of the advantages of investing online is that, if done properly, it should make investors’ lives easier. The best sites have a streamlined, easy-to-follow the process for investing in deals, allowing investors to share deals with friends and manage their investments online.
Pay attention to the investor “dashboard.” The best sites provide investors with access to fund and portfolio information, including up-to-date reporting on fund performance and status, a summary of all your investments, information on portfolio diversification and new deal alerts.
Sophisticated sites attract good deal flow and marketer interest by providing tools for these communities, as well. They offer fund managers investor relations tools so they can keep investors informed, and they offer marketers incentives to place deals on the site and to share deals with others on the platform.
Be wary of sites that promise to be all things to all people. Look for online hedge fund platforms that excel at a specific niche, whether it be global, specific asset classes or specific market segments. Big box supermarkets work well in retail, but not for hedge funds. You want teams that are well respected by both fund managers and fund marketers for their specific expertise and knowledge.
[Editor’s Note: To learn more about this and related topics, you may want to attend the following webinars: What is a “Private Fund?” and Due Diligence Before Investing. This is an updated version of an article originally published on September 11, 2014.]
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