As you explore employment opportunities in the Hedge Fund space it is very important to understand the specific Sweet Spots for the different investment strategies.  I define a “Sweet Spot” as the size where the fund is running efficiently and should see a significant growth in assets in the near future if it desires.  The Sweet Spot is where the risk to reward level is at the best chance of succeeding for an employee. Exactly where the Sweet Spot is for a fund differs depending on the fund’s strategy.  Joining a firm in its Sweet Spot does not guarantee success, but the chances are significantly better.  I do not include fund’s with track records of less then 6 months, or “start up’s” in this discussion.

The Sweet Spot is very important to understand when searching for a new opportunity, as funds in this stage have the best chance of growth. This usually means your compensation and responsibility will grow as well.  There is nothing wrong with joining a larger firm, or a firm with a longer track record, but in these firms expect only minimal growth in responsibilities. A general rule of thumb, with larger firms is you will never become a partner unless you joined as a partner, and rarely will you move much higher in the firm’s hierarchy than one notch above where you joined.

I have written about three popular investment strategies below and will continue to go into depth about other Hedge Fund investment strategies’ Sweet Spots on our Blog in the weeks to come.

Long/Short Equity Fund
Finding the Sweet Spot in the Long/Short equity fund universe is a combination of two items: 

1. A firm with a solid track record of at least 12 months with no down months especially if the fund has less then 2 years of performance
2. An asset base of at least $80 million, but not more than $325 million

In today’s investing world, new hedge funds must have success from day one. The competition for assets has become so intense that every month counts and returns must create Alpha unless “Alpha creation” is not the goal of the fund.  To have ten strong months and two down months is not the end of the world but it is close, especially in the minds of investors regarding funds with total track records of less than 2 years.

The asset base of a fund needs to be at a level which allows most investors availability into the fund which creates the need for funds to gain more and more assets.  Once a fund has reached $80-90 million dollars many investors can actively perform due diligence on the fund and seriously look at investing in the fund.  This is why $80 million is the beginning of the “Sweet Spot” for a fund. The overall asset range for the Sweet Spot is probably between $80-$325 million AUM when specifically referencing Long/Short equity strategies.

Quantitative Equity Strategies
Quantitative Equity strategies typically have large infrastructure costs in comparison to the typical Long/Short fund. However they are more actively traded which raises the dollar value of their Sweet Spot.  These quantitative strategies usually employ leverage, looking to make smaller gains on each trade. Quantitative Equity strategies typically hold positions for a very short period of time and are ideally looking to make only a few cents per position.  They do not hold stock to participate in large swings; rather they hope to catch a small share on the positive swings in stocks with low risk.  Their strategies focus on less risk and more constant returns; hence the goal of every trade is to have very few losers.  The appeal to investors is these funds typically produce constant positive returns with low risk.

As with typical Long/Short funds the Sweet Spot is a combination of two components:

1. A solid track record of at least 12 months with no down months.  Having a solid 12 months with no down turn is extremely important with investors as well the fund’s risk level should be lower then their benchmark’s the entire time.
2. An asset base of at least $300 million if leverage is being employed and in most cases the significant growth does not occur until about the fund’s AUM is at least $800 million

The plus size to a Quantitative Equity Strategy is that once the infrastructure is put into place, the firm can grow significantly with few other factors causing pressure to the firm’s asset size.

Distressed and Event Driven
In discussing Distressed and Event Driven strategies, identifying the Sweet Spot is a little more difficult because the Sweet Spot depends on what part of the capital structure the fund will be investing in.  Certain parts of the capital structure require more investment capital than others. Furthermore, depending on what investment strategy is being employed a large pool of capital may be a prerequisite to the fund’s strategy.

Similar to the two previous strategies the Sweet Spot consist of a combination of two main components:

1. A track record of at least 12 months with no down months
2. An asset base of between $125 - $400 million

Event Driven funds can have less assets especially if they actively employ leverage which many do to strengthen their actual positions, but the previously mentioned asset range is ideally what institutional investors expect for these strategies.  Due to the sometimes long holding periods for their positions it is important for an Event Driven and Distressed funds to have access to additional capital for new investment ideas.

Conclusion
Referring to these guidelines when performing your own due diligence on funds during your job search will help you identify funds with a greater chance of surviving and thriving against those which may be past their prime or not yet ready to make the jump.  This is not to say that only funds that fall within these guidelines should be your target audience because there are many other aspects which come into play.  However, these guidelines should give you an educated idea of the firm’s potential and present standing from the eyes of institutional investors.