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The Advantages of a Fund of Funds

An increasingly popular to invest in Hedge Funds is through a fund of funds, which is a combination of a number of individual hedge funds. At last count there were over 1700 distinct funds of funds , and yes the number continues to increase. The reason for the growth in this category is due to a number of reasons:


1. Portfolio Diversification: By investing in a number of carefully selected different funds, fund-of-funds investors enjoy diversification within the market neutral asset class. A well designed portfolio of funds provides more consistent returns with lower volatility or risk than any of its component funds.


2. Fund Watchdog: Individual hedge funds are usually very loosely regulated. Fear of fraud or mismanagement often keeps would-be investors at bay-and rightly so. While broad diversification significantly reduces exposure to individual fund and manager risks, responsible hedge fund investing requires careful scrutiny of funds and their managers. This is a process that requires an exceptional amount of time and competence.


3. Skilled Selection: Market neutral strategies are an extremely complex form of investment. Significant expertise is required to understand the various strategies and how each can work in harmony to construct an efficient larger portfolio. Successful fund selection requires substantial capital and skill.


4. Exclusive Access: Hedge funds do not advertise. They are not sold through traditional distribution channels, and information about them is closely held. Moreover, many successful hedge funds have reached their capacity limitations and either do not accept new money or only accept money from existing investors.


5. Pooled Resources: Most hedge funds have minimum investment thresholds of $1 million or more. 5. With such high thresholds, many investors would only be able to invest in a small number of funds. A fund of funds, the same dollar investment can provide exposure to a diversified, carefully designed portfolio of hedge funds.