Starting a Hedge Fund

15 Common Hedge Fund Mistakes (Part 4)

Written by Bobby Jan for Gaebler Ventures

If you plan on starting a hedge fund, don't make the same mistakes others before you have already made. This article, the fourth in our series of six articles discusses a few more common mistakes hedge fund entrepreneurs make.

In previous articles in this series, we listed 15 common mistakes made by hedge fund entrepreneurs and discussed mistakes 1 through 7.

Now, let us turn our attention to mistakes 8, 9, and 10:

  • Mistake 8. The fund is too dependent on a few investment stars.
  • Mistake 9. Employee compensation system is not effective.
  • Mistake 10. Manager fails at controlling costs.

Hedge Fund Mistake #8: The Fund Is Too Dependent On A Few Investment Stars.

Of course, this mistake is only a problem when you, the hedge fund entrepreneur, are not one of the investment stars. Do not allow your fund to be too closely identified with an investment star. You must carefully balance marketing your fund as a business while advertising key research analysts, traders, and other employees.

Hedge Fund Mistake #9: Employee Compensation System Is Not Effective.

Hedge fund employees, namely traders, tend to be highly competitive, ambitious, and concerned with compensation. Hedge funds that does not provide competitive compensation and maintain communications with employees may result in losing key employees to competition. Hedge fund entrepreneurs should realistically factor in employee loyalty in their employee retention strategy (that is to say, do not depend too much on loyalty).

On the other hand, employees might demand unrealistically high compensation and some ambitious employees may not be retainable given any plausible compensation. Hedge fund managers must carefully assess the value of each employee to and develop an effective compensation system.

Hedge Fund Mistake #10: Manager Fails At Controlling Costs.

Luck and exogenous factors play a very important role in the investment management industry. During good times, when fee income is high, hedge fund managers tend to control costs poorly, adding unnecessary additional expenses to the business. When times are bad and fees start drying up, hedge fund managers who neglected cost control may have to drastically reduce expenses and curb spending habits formed when times were good, negatively impacting operations and employee morale. Given the nature of the investment management industry, managers are advised to use excess income during good times as a cushion for periods of underperformance.

Hedge Fund Mistakes to Avoid

In the next article in this series, we will discuss mistakes 11 and 12. If you're ready to read about more hedge fund mistakes, continue on to the next article.

Cheng Ming (Bobby) Jan is an Economics major at the University of Chicago who has a strong interest in entrepreneurship and investing.

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