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Startup managers show their mettle

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Anchin, Block & Anchin: Best Accounting Firm for Start-up & Emerging Funds – The increase in market volatility has provided hedge funds with the opportunity to generate returns in excess of the indices. However, despite the positive performance, emerging managers are still struggling to raise capital, as investors remain hesitant to hand mandates down to managers they have not met in person.

Due to the general trend of the markets over the past few years, startup managers found it difficult to raise money, given investors could source better returns elsewhere, usually at a lower cost. The situation has now changed. As the Covid-19 pandemic hit the world, markets have been turbulent, giving emerging managers the opportunity to generate uncorrelated returns.

But, although on the investment side, the argument for emerging managers has been strengthened, these groups are having to contend with process concerns as institutional investors work to accept running due diligence exercises virtually.

“Carrying out due diligence remotely has been challenging for many of these startup funds. Smaller managers are swimming against the tide to begin with, even if they have good returns. They are typically a two or three-person shop and when they’re first starting out, they often don’t have the infrastructure some investors will be looking for,” explains Jeffrey Rosenthal, Leader of the Financial Services Practice at Anchin.

One hurdle many emerging managers need to overcome is reaching the USD150 million threshold, the point at which they need register with the SEC. This is a line in the sand drawn by many larger institutional investors as the smallest sized fund they will look at for potential investment.

In view of this, Rosenthal advises: “Emerging managers need to engage seed investors, such as high net worth investors or family offices who have an appetite for investing in small emerging managers. Once they raise enough capital to get them closer to USD150 million, they can afford to allocate more to build the infrastructure and therefore have a better chance of attracting funds from larger investors.”

He cautions that although startup managers should be grateful for those initial seed investors, they need to tread carefully: “I recommend they seriously consider the concessions the investors may be asking for including an ownership stake or a portion of any performance allocation. These investors want to partner with the managers but the manager needs to have some control over the relationship. You need to consider exit strategies for the seed investor and limiting their upside along the way, for example.”

The market volatility has translated into greater opportunity for returns; however, investors remain on edge. In this environment, Rosenthal recommends: “One of the worst things a manager can do is lose their conviction. I have seen it happen too many times with startup managers and they change their strategy or second-guess themselves because they are afraid of losing money. Managers should keep calm, play to their strengths and talk to their investors about their conviction and their vision for the markets.”

There is never a right time to start a fund, but Rosenthal believes as long as emerging managers are well prepared and have a good story to tell investors as to why they should invest, they can find success: “You need to be prepared for the future, develop a strategy for growth and develop a budget to control your costs.”

Rosenthal expects startup funds to be in a better position to show their benefits, due to the volatility: “Those nimble USD50 million to USD75 million funds who can generate good returns in this environment and get their assets up to that USD150 million mark will be able to market their strategy more broadly.”

To support this segment of the market, Anchin, the recent winner of Hedgeweek’s award for best US Accounting Firm for Start-up and Emerging Managers, is formalising its own emerging managers platform to assist these managers in taking the right steps in positioning their funds for success. 

Jeffrey I. Rosenthal, CPA, CFP, CGMA
Partner, Anchin, Block & Anchin

Jeffrey Rosenthal is the Partner-In-Charge of Anchin’s Financial Services Practice. Jeffrey specialises in providing accounting, tax, and business advice to a wide array of financial services entities including broker/dealers, investment partnerships (domestic and offshore), funds-of-funds, mutual funds, private equity funds, and investment advisors. He has extensive experience advising newly formed entities and assisting with start-up considerations such as form of practice, structure of agreements, compensation arrangements, compliance, and regulatory matters.

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