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Chapter 3: Capital raising – key considerations

The biggest challenge managers face today is the amount of information that now saturates the marketplace. Fact is, the hedge fund industry is no longer some exclusive club. It is a huge and highly competitive one. 

A start-up manager with grand design on building a successful hedge fund business cannot think they can go out and talk to 100 allocators and confidently expect to receive tickets from five or 10 of them; rather, they have to go out to the market and build awareness across 1,000 allocators. 

This means committing to a long-term marketing strategy to build that awareness and give allocators a reason to put them on their short list, as opposed to looking for a reason at any opportunity to say ‘no thanks’. 

This industry has reached a point in its lifecycle where it is so competitive. This is primarily because there is no more structural incremental demand for hedge funds; many institutional investors are now invested, to some extent, in the asset class as compared to a decade ago. 

Combine that with the fact that the novelty for most hedge fund strategies has worn off, and it creates a challenging and competitive environment for a new manager to get their story in front of allocators. Back in 2001, one still had to explain to an investor what a hedge fund was. Many were hearing the difference between a quantitative market neutral strategy and an equity long/short strategy for the first time. 

That is no longer the case. The gold rush is over. Now it is case of who has the best equipment to mine for depleting gold reserves in the right areas. 

When it comes to finding prospective investors, there is really no mystery involved. There are plenty of data services providers and research providers, such as Preqin, whose comprehensive databases list global investors. The bigger, more salient challenge, is for a manager to find investors who have an investment window of opportunity, and who just so happen to be interested in that manager’s strategy type; the stars have to be aligned. And even if they do have that window of opportunity, the manager has to get their attention. 

Years back, when institutional demand was still on the rise, this was an easier task. There was an order of magnitude fewer managers to compete with. Fund raising today has become a specialist art form. Managers have to stand out, they have to cut through the noise – allocators are bombarded with hundreds of emails a week. 

One way to find investors is to discover those who have been invested with a manager who has decided to shut down their fund and return external capital. Or those who have had an investment with somebody who hasn’t performed well and they are thinking about redeeming. 

Either way, start-ups need to have a marketing plan that helps to determine which investors to go out and target. 

Marketing experts like Meyler Capital do a great job of driving the manager’s message continuously so that when there is a window for a buying opportunity, the manager is primed and in a position to act. 

The key these days is to be in constant communication with investors. You have to do it more frequently than your competitors, you have to do it better, and you have to do it face-to-face. All those are challenges that didn’t necessarily exist 10 years ago. Make sure you are speaking with the right people. 

If you’re a USD50 million fund and you’re trying to reach out to state pensions or institutional-focused consultants, you’re not helping yourself and it’ll likely be a fruitless task. Therefore, think about right-sizing the fund to the most appropriate investors – think about who you should be speaking to over six months, 12 months and laying the foundation for capital raising. 

If you’re hiring a sales person that you want to help connect the fund to family offices, make sure you hire someone that has previous experience working with family offices, and with a strategy like yours. As you get into more institutional fund raising, if you have a private credit sales expert showing an allocator a long/short sector fund, it’s going to fall on deaf ears. 

When building the marketing pitch book, try to use evolutionary language that has power and impact that is going to get you noticed. Make it succinct. And try to say something in your pitch book that goes beyond the tried and tested language, such as ‘outsized returns’, or ‘risk mitigation’; it’s a hedge fund so risk mitigation is kind of the point. Why say what thousands of others have already said before? 

You can’t do any of this without technology. It is impossible to manually understand when someone is ready to allocate capital. Pitch books needn’t be just powerpoint slides. Use embedded video content too. Anything that can help to build audience. You’re not competing to prove your validity, you’re competing for time. 

You first have to get someone to pay attention to you. Only then can you transition into the sales process. Video is the easiest way for an allocator to sit and get information. More importantly, when the start-up manager sends that video, there are various technology tools that can be used to provide analytics on who is engaging with that video. 

That allows you to profile investor interest and develop a more targeted campaign.

If the investor happens to be a seed firm, take the money. Give up some equity in the business. It’ll take a couple of years to break even. Secondary capital is still going to be difficult to get. Most people a manager meets will make them feel positive and upbeat after the initial meeting. 

It’s very common to go around and have meetings with 20 investors, think each meeting went well and for the manager to get carried away and think if each one were to allocate USD20 million they’d be set. No more need to churn away, delivering pitch after pitch. 

The reality is, the manager is unlikely to get capital from any of those 20 allocators. Don’t let that positive sentiment fool you at the start. Have an outstanding differentiated strategy. Have a future vision for the business. One red flag might be if the manager is putting an entirely new team together, as investors will fear that things don’t work out a year or two down the line. Try and put together a team where the majority have worked together in the past and know each other’s strengths and weaknesses. 

It is key to clearly articulate the strategy. If you can’t articulate your strategy you certainly cannot rely on other people to articulate it for you. Investors are maturing. They’ve seen thousands of hedge funds, so they’re smart. 

One point worth remembering, for any start-up manager is this: you don’t need to be the best manager that ever walked the earth, you just need to be committed more than anybody else to getting in front of people. 

That marketing effort is not commonly applied well in this industry. Managers don’t always commit enough capital to marketing yet they expect investors to part with tens of millions of dollars. Marketing budgets matter. Marketing risk matters. Commit a percentage of capital to create engaging content. Talk about your losers more than your winners – build an interesting narrative.

If you can show how smart you are by using real life examples of how you are managing the investment strategy, it will go a long way to gaining investors’ confidence.

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