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What Should I Look for in a Hedge Fund Prospectus?

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  • Written By: Geri Terzo
  • Edited By: A. Joseph
  • Last Modified Date: 04 July 2018
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    Conjecture Corporation
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You can learn a lot about an investment vehicle by reading the prospectus. Indeed, it is recommended by most investment professionals to read such documents before investing. Some of the key components to look for include an outline of the investment strategy by the investment professionals, a fee structure and details surrounding the way the firm values assets. Hedge funds often make sophisticated and complex investment transactions that influence not only the value of a security but also the firm's access to that capital or money during different periods, and these are all important elements to learn about via a prospectus.

Hedge fund investing does not produce the most transparent results for investors, making a document like a hedge fund prospectus that much more valuable. Successful hedge funds can also heap generous returns upon big and small investors alike, and that is what makes these investment vehicles so attractive to many people. Hedge fund firms that make direct investments into securities such as stocks and bonds typically are not required to register a prospectus with the nation's regulatory body. Conversely, a hedge fund of funds, which is an investment vehicle that invests in individual hedge funds and not individual securities on behalf of clients, does register and provide investors with access to a prospectus.

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Fee structure is important to understand before investing in any firm, including a hedge fund or a hedge fund of funds. A hedge fund prospectus will outline the different layers of fees that an investor can expect to be charged. In addition to performance and management fees, which are typical in hedge fund investing, a hedge fund of funds might have to increase those costs since they also have to pay management fees to the hedge fund firm in which the fund of funds is investing. Performance fees are tied to the investment's profitability, and these expenses are outlined in a hedge fund prospectus.

Also noteworthy in a hedge fund prospectus is an explanation of the investment's liquidity. A hedge fund and a hedge fund of funds make risky investments, so the fund manager will often make the transaction more complex by adding debt to a trade, for instance, which means that they borrow money from a broker to amplify returns on a successful bet. As a result, sometimes the hedge fund or hedge fund of funds cannot access liquidity or redeem money and get it back for clients right away if needed. The level of liquidity will be explained in a hedge fund prospectus and will depend heavily on the type of investment strategy used by that firm.

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