I have been a flurry of press commentary on the accelerated development of the secondary market for hedge fund interests. Since we started Hedge Connection, this has been a sleepy subdivision in Hedge Fund land with HedgeBay driving most of the interest and attention. However, the neighborhood is certainly changing with new entrants – from start-ups to established investment bank holding companies eager to create a market for hedge fund interests.
My interest in this topic is limited to the significant impact it will have on hedge fund marketing. If it wasn’t hard enough…it is about to get harder.
Hedgebay is the leader and has been in the market since 1999. The original intention was to provide a liquidity vehicle for private interests – specifically offering access to closed funds at prices that were at a premium to the original investment.
That has all changed. Hedgebay is not joined by Second Market, Tullet Prebon, Cogent Hedge..and some of the big banks Morgan Stanley and Credit Suisse. The reason for the recent proliferation is twofold. 1) investors still in lock-up periods that have liquidity requirements elsewhere in the portfolio and 2) investors that were unanticipatedly gated, do not wish to remain invested and wish to redeem.
The secondary market offers a process to allow current lps a way out. And offers buyers an opportunity to purchase interests at a discount. The fund keeps everyone happy. Seems like a win-win situation…
…except if you are trying to raise new assets in this environment. A recent conversation with a FOF offered this startling observation, “We are not looking at anything new and if we do look to add to the portfolio, we will do it through the secondary market.”
If you are an existing fund with gated funds, raising funds from new investors will be tough. They can purchase interest for a steep discount and NOT PAY PERFORMANCE FEES until the interest reaches its high water mark.
If you are a new fund, please understand that with so many funds underwater, the investor has a number of options to gain exposure to a specific strategy or asset class without paying full fees while gaining an established management team and business process.
Please note that, these are all technical factors that have nothing to do with investment prowess or ability to exploit arbitrage opportunities in a given asset class.
However, technicals and logistical aspects ( call it margin calls, liquidity, operational due diligennce) are driving hedge fund investment these days. Best to be prepared.