It is fascinating to read the marketing presentations of funds of hedge funds about the sophisticated due diligence procedures they employ in making investment decisions.
The reality is that few if any can really consistently perform the procedures they say they apply across all the investments in their portfolios. The simple reason for this is that different hedge fund managers take different approaches to what they will or will not discuss about their businesses. Suffice it to say that larger managers are more likely to be less transparent. Some because of concerns on consistency of disclosure and transparency to investor clients, others because there is no need to because of the clamour for capacity into their funds which means they can ignore those insisting on more information or verification of that information.
Size therefore can determine in inverse proportion the amount of due diligence that may be possible. It therefore stands to reason that if there are large names in a fund of hedge funds portfolio then the chances are that full due diligence has not been performed and “comfort” has had to be obtained from other factors involving a leap of faith based on reputation, assets under management and pedigree.
Does this mean that the investment decision is a wrong one? Not necessarily. But it does highlight the fact that the investment decision may not include all the checks and reviews that might typically be performed during due diligence in relation to an investment. If that is clearly stated in the documentation provided to clients – then that is simply stating the commercial realities of the situation and investors can make their own decisions on the risks and suitability or otherwise of such an investment. I have not seen much evidence of such transparent approaches on procedure which is what leads me to the conclusion that particularly where there are big names in a portfolio, one of the main strands of investment decision making must be leaps of faith.
©Jaitly LLP