In today’s competitive fundraising environment many professionals are still jumping ship to start their own funds and in many cases looking for less senior professionals to join them in the quest for Hedge Fund fame.  Whether you are looking to start your own fund or are ready to join one of these start-ups it is very important to understand the start-up Hedge Fund environment.  The better you understand this environment the better chance you have for success.

In recent years, we have seen the number of Hedge Funds worldwide grow significantly, with the new numbers reportedly being somewhere between 9,000and 11,000 funds in existence.  While we have seen a few new funds start with assets in the billion plus range these large start-up funds are the exception.  In most cases new funds are starting with significantly less money, probably closer to the 10 to 20 million dollar mark.  Although asset size does not ensure success it can be extremely beneficial to a fund.

Besides assets, the success rate of Hedge Fund start-ups hinges on a few other major components:

Founding Partner’s Credibility
When a senior Hedge Fund professional leaves their firm to start a hedge fund it is extremely important that they receive the “Seal of Approval” from their previous employer.  This Seal of Approval is best articulated by having their previous fund or previous fund partners invest in the new fund.  This investment provides the fund with a high level of credibility and trust, which is extremely important to a new fund, when raising those initial assets.   

If the professional does not receive money from their previous employer it is then very important that they receive an initial investment (the larger the better) from a reputable Hedge Fund investor. In many cases this investor had money invested with the professional at their prior fund.  This initial investment brings credibility to the fund and causes other experienced Hedge Fund investors to look at this new start-up.  

Founding Partners Capital/Working Capital
Institutional and private/high net worth investors both want to see that the founders of a firm are aligning their interest, with the interest of their investors, and hence it is very important for the founders of a new Hedge Fund to put a majority of their personal assets into the fund.  Partners should be adding assets to the asset pool of the fund and putting up funds into the fund’s operating account for working capital.  The working capital is crucial for operations during the start-up phase, particularly if the fund starts off slower than expected.  Most investors will not seriously look at a start-up fund if the founder/founders have not made a significant personal investment in the fund.  

Founding Partners Past Performance
Although it is hard to believe, some Hedge Fund start-ups are established by professionals who do not have the best track records.  These individuals feel that they can mask their previous track records by starting fresh or that by implementing a different strategy their previous track records will not be important. Obviously this is not the case as investors will not invest if they find the founder has a poor track record, regardless of what fund or strategy was practiced previously.

Infrastructure/Business Operations
In the not so recent past you could start a Hedge Fund by yourself or with minimal operational help. In today’s environment this is no longer the case unless you plan to manage a small Hedge Fund with predominately family and friends capital.  In today’s investing world it is important that the founder understands and respects the need for infrastructure.  Institutional investors will rarely waste their time investing in Hedge Funds which do not demonstrate an understanding of the importance of a solid infrastructure.  Smart funds use their first hire on a professional with experience in accounting or operations, usually in a CFO/COO/Investor Relations role. This individual is responsible for everything not related to investments. Their main responsibility should be to allow the Founding Partner/Portfolio Manager to concentrate on the fund’s performance, which is the single most important component of any Hedge Fund’s success.

If a fund starts off slower than expected, the fund has a better chance of keeping investors on board if they have demonstrated a belief in the importance of infrastructure.  Furthermore, if the fund is built correctly from the beginning the fund can usually cope with the complexity of additional money easier than if they need to build out the infrastructure as the money comes in.

A Story
In today’s asset gathering environment, if a fund possesses a compelling story which sets them apart from their competitors it can be huge benefit when raising assets.  Not every firm will have a story but if you do, this can be the added proposition which could make the fund a giant success.  A story can evolve around who has backed them, one of the Founding Member’s track record,  a minority owned status or an inside track to certain investors to name a few.

Conclusion
When you are going out to start a new Hedge Fund or if you are looking at joining a new start-up Hedge Fund it is important to review this check list when objectively reviewing the opportunity.  A fund which has a check mark next to each of these items has a much better chance of success as long as the fund performance is there.  One additional check mark which has not been mentioned is your gut feeling.  Listen to your instinct when reviewing an opportunity with a start-up Hedge Fund. Not having the above mentioned qualities does not ensure success or failure and your instinct is the best analyst when choosing a role.  

A Final Note
When interviewing with a start up do not be afraid to ask the tough questions. The founders should never be afraid or unable to answer your questions -- if you are asking them so might a potential investor.