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Hedge funds: Telling clients no

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U.S. stocks aren’t the only investments running with the bulls these days.

Hedge fund database eVestment reports that hedge fund assets topped $3 trillion in May, passing the previous peak reached in 2008. Institutions are driving this surge, holding 65% of hedge fund assets, but many individuals will want to get into these alternative investments.

Hedge funds are not for everyone, though, so how can financial planners work with clients who aren’t suitable? “For clients with smaller dollars, you can consider the new mutual funds that are hedge funds of funds,” says Jeff Fishman, founder and managing member of JSF Financial, a wealth management firm in Los Angeles.


Classic hedge funds typically are private partnerships with limited transparency and liquidity as well as steep minimum investments. As a result, such hedge funds aren’t available to all clients. As online hedge fund database HedgeCo.Net explains, “100 accredited investors or an unlimited number of qualified purchasers may invest in a single hedge fund.”

Among individual investors, accredited investors have over $1 million in net worth or steady annual income over $200,000 a year; the definition extends to married couples with joint income over $300,000. Qualified purchasers have over $5 million in investments, individually or as a couple. Hedge funds for qualified purchasers may have higher minimum investments than those for accredited investors.

Those ground rules provide an initial talking point with clients. “You start with the appropriate standard as the first threshold,” says Fishman, who is also a founding partner in ALJ Capital, a distressed-debt/event-driven hedge fund that was launched in 2003. “Any hedge fund investor must be qualified or accredited for us to recommend such an allocation – there are no exceptions.”


If a client is financially suitable, the next step is to go to his or her overall allocation and determine whether a hedge fund is appropriate, according to Fishman. “We approach a hedge fund decision like any other business investment,” he says. “It doesn’t have anything to do with ego or emotion. The key is whether the potential reward is worth the risk.” Besides illiquidity, hedge funds often have substantial risks because of aggressive tactics such as using leverage.

Of course, clients who aren’t financially or temperamentally suited for hedge funds shouldn’t be told they’re not wealthy enough or liquid enough or too nervous or just not hedge fund material. Today, as Fishman points out, there are many hedge-type investments in familiar fund structures that can serve the purpose of traditional hedge funds. Advisors might stress the fact that these liquid, transparent, low-minimum funds may be managed by industry veterans who have been successful in private hedge funds.

“We’re using absolute return strategy funds in several of our model portfolios as we seek broad diversification through many asset classes,” says Fishman. For clients who are suitable for liquid alts rather than for traditional hedge funds, there can be plenty of positives to accentuate.

Donald Jay Korn is a Financial Planning contributing writer in New York. He also writes regularly for On Wall Street.

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