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The Hedge Fund Structure Is Dead
Posted by Leigh Drogen
on November 1st, 2010
This post is for those of you out there looking to start your own firms and manage money for others. The hedge
fund structure is still necessary for those who trade complex strategies using derivatives or illiquid assets. But for
most of us, the stock, forex, and futures traders who go long and short the underlying, the hedge fund structure is
obsolete and I’m declaring its death.
Advances in technology, which in hindsight really weren’t that difficult, allow investment managers to trade
multiple separate accounts across the same strategy at the same exact time. The main draw of the hedge fund
structure previously was the ability for the manager to trade one account from one screen. The limited
partnership legal structure sucks, plain and simple, it’s expensive to set up, requires many headaches along the
way when adding and subtracting clients, and adversely effects the other partners when someone pulls money out
or puts money in. Whoever thought that commingling funds was a good idea in the first place needs to be (fill in
ruthless torture scenario here). It has caused a great deal of pain for many investors who’ve had their funds
outright stolen by the general partner, had gates thrown down on the removal of their assets from the partnership,
and everything bad in between. As I said above, the limited partnership structure serves a purpose when dealing
with illiquid assets that are hard to buy and keep track of across different accounts, save for that, it serves zero
purpose these days.
Only a few years ago when I was a trader/analyst for an investment management firm up in White Plains, NY
named Geller Capital Management, we used two different structures. There was a fund and there were separate
accounts. The fund was an archaic vehicle held over from a previous firm my boss ran. The strategy had
changed, but the structure was still there and it was useful to some extent. But the majority of the money we
managed was in separate accounts. We ran accounts as small as $100,000 and as big as $12,000,000. They
were all treated the same way. But at the time, the technology did not allow us to trade those accounts as easily
as I can today. Staff was needed to allocate the correct amount of shares across the accounts. Portfolio
tracking software (Advent) was needed to determine if those shares had been allocated correctly, it was time
consuming and expensive.
At the end of the day the allocating shares system works, it just doesn’t work well if you run a one or two man
shop. So if you were trying to start your own firm this just isn’t the way to go, it was hedge fund structure or

just as it would be had they signed up without you. you need an investment management agreement for your firm. This shows that you are willing to put your firm’s own money on the line along side you client’s in the same strategy. I send them the investment management agreement. and it lays out how you will bill the client. I then go into my Interactive Brokers platform and send them an invitation to open a brokerage account. Otherwise. Someone contacts me. Now. If you are looking to set up your own firm. the blog. The next step is not necessary. I don’t need a back office. I would share mine here. even beyond past performance. The truth is that you don’t need this document. or however else they might find Surfview Capital. The invitation to open the brokerage account comes with another electronic sheet (this is all electronic by the way. but I can assure you. This goes a long way to showing that you truly believe in yourself. have the lawyer just write it up. and run the money in there the exact same way you are running money for your clients. and if we both feel like there’s a mutual fit. That’s ok. Next. Bringing clients into your firm is not a difficult process when you set up the structure the way I have.But not anymore. you have no power of attorney over the account. and I sure as hell don’t need one going forward. it is theirs. I am in no way shape or form affiliated with that company. Then take it to the lawyer and have them look it over to make sure its kosher. it’s amazing). they ask me any questions they have. This is the agreement between you and the client that lays out everything that isn’t said in the Interactive Brokers managed account sign up process. We review it together. Because of them. This account is their own. you can not move money in and out. and a ton of time. a ton of money. what’s good for them is not only now good for you in terms of fees. Surfview Capital is an LLC. but getting this right is important. very simple. I have plenty of gripes with them. legally. they are without a doubt the worst institutional and retail brokerage in terms of customer service. I ask them an extensive list of questions. We have a few conversations. a friend of a friend. My advice if you want to be cheap about it. The document itself is pretty simple and many investment managers use the same one with a few little tweaks. the following may sound like an advertisement for Interactive Brokers. I didn’t need an expensive lawyer to draw up partnership documents. there is no actual paper required. It cost me a couple hundred dollars to set up and a few weeks. and modify it. Do it. you don’t have any access to the funds in the account. I don’t know. they sign it and send it back to me. it is directly going to impact your firm in terms of P&L on your own account. find one online from another firm that trades the same assets as you. they have decided to put their money towards technology and not service. This document takes some time to put together and needs to be done by a lawyer. Twitter. and it could be illegal. I would not have been able to set up my firm a few years ago if it were not for the technology on the IB Trader Workstation platform. either through the web site. You can choose from several . and you lose absolutely nothing. but I feel that it is a good show of faith in yourself to your clients or prospective clients. it’s their business model. and you have an institutional account open. here is a very simple way to do it that will save you a ton of hassle. in reality you need it. the second set of forms gives you the permission to trade the account. it is not under your LLC. they really just couldn’t give a crap. but something tells me that’s just not the right thing to do. very simple. I set up an institutional account at Interactive Brokers under my LLC. Interactive Brokers will ask you if you would like to open up a sub trading account for your LLC. you’re going to pay for it. In fact. But to be safe and cover yourself in case of a dispute. When you set up your institutional master account. Here’s how it works. opposite of Schwab. and I sure as hell don’t need a hedge fund structure. a friend of a client. They ask you a minimal amount of questions and don’t require much in the way of forms.

it’s all done automatically. or transfer them to your LLC’s trading account. And that’s it for the rest of the term of your relationship with them. a tiresome process that needed many checks. The client fills out the forms online and opens the account. We also call this carried interest. and that’s about it for the signup process. if you are dealing with thin securities or derivatives. which means you do have to pay taxes on your fees now. you have access to trade it. it’s almost like you are looking at the group as a fund. it automatically calculates the amount of shares needed to buy a 5% position in each account with a different net liquidation value. without allocating shares. Now here’s where we get down to the real reason this all works. but basically it’s all automated and that’s awesome. you go back to the rebalance screen and enter 2. The great part here is that I can trade 500 accounts with the same effort it takes to trade 1. The downside is that the IRS treats this as income. amazing. Once you start getting into derivatives and illiquid securities it gets a little more difficult. Each of my clients has his or her own account and it doesn’t cost me anything in terms of effort to trade. and he benefits from the fund doing well just as the clients do. There is none of that. It’s not fair that one client gets filled at one price and another client another price. and checks. you have to makes sure that all accounts got filled on the trade. some form wasn’t incorrectly filled out and wayyyy too much or too little was charged. So in a sense. your clients will respect you for it. You couldn’t do this before. Hit create orders and it will create all the orders for all the accounts. and rechecks. The screen that you are looking at is the aggregate of all of the accounts in that group. When you buy a 5% position. Interactive Brokers allows you to group accounts together and trade them all at once using the Portfolio Rebalance tool. You trade their account within your master account on your Trader Workstation in IB. no back office. They . One nice aspect for hedge fund managers with the partnership structure is that when the manager takes his fees. no computing stuff. he takes it in the form of an increased ownership in the partnership. this is very bad. In terms of reporting and tax stuff. This page allows you to say. You don’t see any of this or have to deal with any allocations. there is no billing or invoicing. The manager now has a larger stake in the partnership. and believe me. Here’s how it works. this only works for certain strategies that aren’t too complicated. there is no need to do anything for either. Hit transmit and you trade for each account at the same time. They can have it sent straight to their email if they like.different ways. or you can just review it once a quarter with them at the end. You never touch a dollar of theirs. The Trader Workstation platform allows you to trade all of your client sub accounts at the same exact time. Just be diligent and look for obvious errors. ever. but I haven’t run into an issue yet. or leave them in there. Remember before I said that at Geller Capital we had to allocate shares to each account. That is the beauty and the reason that the hedge fund structure is dead. As I said. If you want to sell half that position late. You need to take the time to do a back of the napkin review at the end of each quarter to make sure that something huge didn’t go wrong.5% where the 5% was previously. Their account is now under your master account. and IB bills them automatically and puts the money in your master account. I want to buy 5% of each account’s net liquidation value in Apple. The only paperwork you handle is sending them the investment management agreement. and the fees are automatically taken out. The client then funds the account. not carried interest. you can create this by just moving your fees from the master account to the trading account. I won’t cover that here. All of the tax forms are prepared automatically by Interactive Brokers for your clients and reports are generated automatically each day. You trade off of one screen. Also. you will figure it out when you get in there and look around. You can then withdraw those fees from your master account at any time.

. Estimize. If you are looking to manage money for other’s and are looking for a structure. you can get started without it but need to register eventually. do your homework. Note: you must comply with all state and or SEC regulations as well. I feel this is the best way to go for the client and the manager. this goes state by state. Yea what a novel concept. . There is no need to custody your assets with your investment manager. ——————————————————————————————————– After running Surfview Capital for 2+ years with excellent returns (30%+ each year with max 6% drawdown). please see the Disclaimer page for a full disclaimer. etc. I’m always glad to answer any questions about Surfview Capital. absolutely none. I do not let my clients trade inside the account. most notably clients of Bernie Madoff. The whole thing just makes a lot of sense. The hedge fund structure is dead. my background. There is a maximum threshold for the number of accounts and aggregate capital you can manage before having to register. I do not consult on how to set up asset management firms or how to raise capital from investors. which includes being a registered investment advisor. Full Disclosure: Nothing on this site should ever be considered to be advice. research or an invitation to buy or sell any securities. a client being able to see what’s in their account. And if they ask for that privilege.can also see what’s in their account at any time by logging in. in 2011 I returned money to investors in order to found a financial technology startup called Estimize. I hope this helps some of you out there looking to do so. If you’re interested in chatting you can reach me at leigh at estimize dot com. it’s their account. walk the other way and say thanks but no thanks. the strategies we ran. but the platform does allow this too. The partnership structure has lead to a lot of heartache for many people.

Best Community Rob • Share My Disqus ⤤ ⚙ 11 months ago What is the theoretical minimum amount a client would have to fund a new account with? 1 z △ ▽ • Reply Share › 2 months ago What about commision? △ ▽ Reply Joe Harris • Share › 11 months ago How would you charge an incentive fee with this approach? △ ▽ Reply Share › ALSO ON LDROGEN What's this? How To Make Earnings Estimates For Non Pro Analysts 2 comments Why LinkedIn (LNKD) Will be a $300 Stock This Time Next Year 3 comments How To Play Post Earnings Gaps In High Growth Momentum … 1 comment What The Foxconn Robots Mean For Globalization 2 comments Measured Me: Should Apple Build The iPod of Personal … 3 comments Speaking of Thanksgiving Dinner The Law Of Unbundling Review of 10 Favorite Stocks For 2012 4 comments 1 comment 2 comments r C o m m e n t fe e d ✉ Su b s cri b e vi a e m a i l blog comments powered by Disqus ..★ 3 comments 0 Leave a message..

they are working on the issue A ugust 14. http://stks. $JCP is going to be a bloodbath A ugust 14. manage under your own strategy though A ugust 13. Eat Marriott’s Lunch. 4:47 pm LDrogen Where do I even start with this.co/cfAS A ugust 16.. algorithms and your browser: The new investment landscape via @fawceisfawce http://stks.. 3:11 pm LDrogen @outshne I still like $BITA. should accelerate now http://stks. 4:47 pm Recent Posts How To Play Post Earnings Gaps In High Growth Momentum Stocks Why LinkedIn (LNKD) Will be a $300 Stock This Time Next Year How To Make Earnings Estimates For Non Pro Analysts Teaching: How To Think About The Market Like A Hedge Fund Manager Keeping Other Team Members On An Even Keel Airbnb Set to Crush Home Away.co/demz A ugust 14.co/berQ A ugust 14.Leigh Drogen is the founder and chief investment officer of Surfview Capital. wow http://stks. and Come Public at $10B+ Valuation Why I Joined WordSentry As An Advisor .. a New York based investment management firm employing an intermediate term long/short momentum strategy. 8:59 pm LDrogen The $JCP consensus trend over time chart is basically straight down. Share Ideas risk & Learn positioned well longer term.co/sORP $$ A ugust 14. 2:12 pm LDrogen There is a very visible error for the wall street revenue for $WMT on @Estimize provided by @ZacksResearch. LLC. 3:31 pm LDrogen monster numbers for $MYGN. More » Search Leigh Drogen on StockTwits LDrogen Social media. 4:48 pm LDrogen If $M was that bad.

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com/user/LDrogen? tp=overall&te=badge&source=widget&creative=widget) Home | About | Contact This material is provided for informational purposes only. as of the date hereof.57 Leigh Drogen (http://klout. . and is subject to change without notice. or the solicitation of any offer. to buy or sell any securities.This material may not be suitable for all investors and is not intended to be an offer.