The hedge fund industry has undergone a significant transformation over the past five years, with multi-manager hedge funds like Citadel and Millennium at the forefront of this change. These funds have not only seen their assets swell to nearly $690 billion, marking a 93% increase since the end of 2020 but have also led to the development of specialized due diligence models. This surge necessitates a closer examination of the ecosystems these platforms have cultivated, their complex expense structures, and the broader institutionalization transforming the industry into a more corporate-like environment.
The Evolution of Multi-Manager Hedge Funds
Multi-manager hedge funds amalgamate teams from around the globe, each employing different trading strategies into a single portfolio. This model has significantly contributed to their rapid growth, accounting for about a quarter of the industry’s jobs but only 14% of its assets. The rise of these hedge funds underscores the importance of back-office operations such as accounting, recruitment, and administration. Unlike traditional hedge funds that typically charge fixed management and performance fees, multi-manager funds often impose a pass-through fee in addition to taking 20% of profits and restricting withdrawals for several years. This shift has led allocators to prioritize the assessment of a firm’s C-suite’s capability in managing expenses and their effectiveness in recruiting and retaining top talent.
Challenges in Due Diligence
As the industry matures, the challenge for allocators lies in identifying which funds merit their complex fee structures and investment lock-ups, especially in an environment where the risk-free rate offers a positive return. This evolution reflects a broader institutionalization within the industry, transforming it into a more corporate-like environment. Moreover, the role of platform founders has evolved from being top traders to corporate visionaries, indicating a shift in focus during due diligence processes towards the ecosystems these platforms have cultivated and their complex expense structures.
Implications for the Hedge Fund Industry
The growth of multi-manager platforms not only highlights the importance of diversification and the value of incorporating uncorrelated strategies to hedge risk but also the growing significance of quantitative strategies to understand the behavior of underlying assets. This trend towards institutionalization and the challenges it presents in due diligence signal a significant shift in the landscape of the hedge fund industry. As these funds continue to grow, the industry must adapt to these changes, focusing on the development of specialized due diligence models to navigate this new terrain effectively.
The rise of multi-manager hedge funds represents a pivotal moment in the financial industry, reflecting broader trends towards diversification, institutionalization, and the increasing complexity of investment strategies. As these funds continue to shape the landscape of the hedge fund industry, the implications for investors, allocators, and the market at large remain to be fully understood. The ongoing evolution of due diligence processes and the challenges of assessing complex fee structures and investment lock-ups will undoubtedly play a crucial role in the future of hedge fund investments.
