What to Expect in Your Hedge Fund Contract - dummies

What to Expect in Your Hedge Fund Contract

When you enter into a hedge fund, the fund manager presents you with a contract drawn up by the fund’s law firm. This contract specifies contractual obligations that both parties — the investor who purchases as the limited partner and the hedge fund’s general partners — have to meet. The contract will be more or less standard, but it will be written to favor the general partners’ interests.

Some contracts can be so sided to the managers that they’ll be open to doing anything the managers want with the money, investment-wise. You are strongly advised to have a lawyer with you when going over the contract. A lawyer may be able to negotiate changes on different provisions, like withdrawal procedures or disclosure levels, to get them working in your favor.

The hedge fund contract sets forth many pieces of information you need to know:

  • The fund’s general partners

  • The fund’s status with regulators

  • The fees that the fund charges and how it calculates them

  • The fund’s limits on withdrawals

The contract may also discuss the fund’s investment strategies, the assets that the fund will and won’t invest in, and reporting requirements. A partnership agreement also sets forth how the fund will handle any conflicts.

By signing the document, you agree to the terms and certify that you’re an accredited investor.

When you get the contract, your first impulse will be to mark every clause you don’t like and then go to the fund’s general partners and ask for changes. In most cases, you’ll get rebuffed. Hedge funds are popular investments, and many people want to hop on the bandwagon. Good fund managers can — and do — set their own terms.

After you sign all the forms and do all the hand-shaking, you deposit your cash. The money you put up goes to the fund’s prime broker, which holds it in escrow until the fund is ready to add new money. To minimize the cash-flow effects on investment returns, the fund may add money only once a month, once a quarter, or once a year.