Road to starting a L/S fundamental equity hedge fund?

I'm a senior graduating next spring and going to a well-known LO AM to do equity research. My wet dream is to eventually start my own L/S fundamental equity hedge fund or be the #2 or #3 at a startup fund. I understand the heyday of hedge funds is over and starting a fund takes a massive amount of money and resources, but if I was to go down this route, what would it look like (milestones, skills needed, etc)?

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  • Intern in Consulting
7d

I'm gonna get flack for this, but here's my experience:

There are many different ways to go about this. Before I list the steps, I wanna share what a friend of mine and Manager told me. Here's a bit of background: 

- He currently manages $3.5b, he started with $2m AUM in 2012, his largest client was his mother back then. His strategy is L/S technology and retail. He's produced exceptional returns since then (nearly 40% annualized). He's been mentioned many times throughout the media and he's somebody I aspire to be one-day. He worked at UBS for 3 years on the buyside and he graduated summa cum laude from a non-target. Never got the CFA, never worked in a hedge fund, never did a MBA

- An uncle of mine is a fairly large client of his, this is how I got introduced to him. I was fortunate enough to attend lunch with him. I told him that one-day I want to be a manager 'just like you'. I asked him about getting a job after college. He said the following, "I met these people, they're gonna sit you down and tell you to do nothing for years, if you want to be a good hedge fund manager, start early." 

- I was pretty skeptical, I thought that getting work experience is what make you a much better manager, so I asked him, "Doesn't gaining some work experience in a hedge fund make you more marketable? Doesn't it help?" 

- He responded, "They're just going to teach you how to run their hedge fund, not yours. If you're truly meant to be a manager, your results will speak for itself, for better or worse." After this he said that If I want to be a manager, start my own fund ASAP, preferably out of college. 

- I was take aback, I didn't expect this response. 

I'm not recommending to start your hedge fund out of college. I just wanted to share a different perspective for once. Everybody thinks that you need 5-10 years of experience to be a manager, this is purely false and a tremendous waste of time. The best managers today all started right out of college. 

Fast forward 2 yrs. 

- I graduated college and started my own fund. The process was tedious and very expensive (Spent $100k between lawyers, filing fees, auditors, administrators and other miscellaneous items.) If you can't afford this, you can setup an underwriting agreement with the Lawyers. This is very common.

- I spend the first year in an incubator, which means we couldn't surpass $20m AUM. We ended up surpassing $20m AUM within 9mos (because of capital growth, not new clients). Therefore, we were forced to exit the incubator. 

- We've produced great results so far and we're in a position to start hiring analysts and subscribing to alternative data. Things are going well for us, but it's been extremely difficult. 

My advice to you for getting started:

- Don't get bogged down by the notion that you need at least 5yrs+ of hedge fund experience to setup your own shop successfully. This is false. Your results will speak for itself. Investors don't pile into Citadel because Ken Griffin has great work experience (newsflash: He doesn't), they pile in because his results are incredible. The same can be true for you. 

- Enter stock-pitch competitions, get your name out there. Enter as many as you can.

- Subscribe to the MIT Endowment Emerging Managers Program (it's free and anybody can do it). They'll walk you through all of the steps of starting a fund. They'll recommend the best Administrators, Lawyers and Auditors for fledging funds. Here's the best part: If you impress MIT with your results, they will invest in your fund. 

- Keep networking. A sizeable chunk of our clients I met at networking events (i.e Nantucket Project, Berkshire Hathaway Annual Meeting etc.) The rest are just family and friends.

- Produce research. If your research is differentiated and good, people will become followers of your fund (maybe even clients). 

- Keep attending events: We attend the BRK annual meeting every year, CFA Society luncheons and other analyst conferences. 

Skills You Need:

- Analytical Abilities need to be top-tier: (Financial Modeling, Statistics, Linear Programming etc. and you also need to be quick.) I recently completed the CFA program. It helped a lot in terms of credibility.

- Writing Abilities: You're going to be engaged in a lot of write-ups. These write-ups are then shared with clients. You don't want your clients to think that it's been written by a 10 year old. You need to be able to articulate your thoughts well.

- Social: You need to be able to network with complete strangers. You need to know how to build rapport. 

- Presenting: Your presentation skills need to be stellar. You'll be presenting your pitchbook to institutional investors. If you're not great at presenting, it's unlikely they'll take you seriously. 

- Most importantly - EXTREMELY THICK-SKIN - You're going to be rejected by people 99% of the time, try your best to not take it personally. An investment may not work out the way you hoped, then a client might call you and chew you out. You can't let things like this ruin your day / mood. Stay focused, do your homework and don't let short-term price movements deter you. 

There are many other small things that you need, but those will come naturally. I also want to congratulate you for landing an ER position, that's great. Don't let what people say deter you from starting a fund. If you're truly great at what you do, it doesn't matter what other funds are doing. Once you produce good results, network effects and compound interest will do the rest! 

Hope this helps.

Best of Luck. 

7d
mtnmaster1, what's your opinion? Comment below:

Your friend is a statistical anomaly out out the majority of successful fund launches over the last decade. It is great that it worked out for him but the odds of that working out for most are extremely low. Read Ted Seides' books and he talks about successful launches, and then go back and look at the background of any real launch over the last decade. Majority are either a spin out of the pod shops or senior analysts/partners at single managers (a lot from the tiger cubs). 

What this poster fails to mention is why you deserve to be in business - take the business analysis skills of being an analyst and look at the product you are pitching. Why is your product (your fund) differentiated, what is the competitive advantage to stay in business and scale, etc.? Majority of real institutional money will not be interested in an unconstrained high net exposure fund with no repeatable process other than "I pick good stocks and returned +25% for two years in a row". 

Experience is important because differentiated alpha within specific risk structures is not an easy product to deliver. If you can figure it out right away, great go for it, but you probably won't. Returns itself don't really matter. Tiger cubs were the last of "we will give you money because of pedigree and sure you can run high net exposure" but even that is finding problems now. Also they argued they had a special process and then the whole privates stuff - anyways I digress. 

The reason why experience is needed is being an analyst and picking stocks is different than being a PM and executing judgement when it comes to deploying and sizing risk, and that is still largely a mentorship thing that cannot be learned by as easily by reading books. Then on top of that, it requires the whole raising money, building a team, etc. - basically a shit ton of normal business acumen. Also expensive. Anyways, just hope this gives you a better idea of why just start today may not be the 100p best advice. I could keep going but I need to go to bed. 

  • Intern in Consulting
7d

"Returns itself don't really matter"

They absolutely do, you try to pitch a fund that consistently underperforms and see how far work experience and "pedigree" get you. Not a single person will invest in your fund.

I understand where you're coming from, but I looks like we have a different perspective. I think you're overestimating how difficult it is. I'm going on year 3 of being a Manager, and it's gotten considerably easier from a raising capital perspective.

By next year we'll likely become a SEC registered firm, which is a huge stamp of approval.

  • Investment Analyst in HF - Event
5d

Edit: I'm probably wrong that the friend in OP was CAS. Edited to remove.

Leaving this part up: it's easy to be convinced as a long-term concentrated discretionary investor that you have more skill than you really do, given low number of reps, hidden factor exposures, benign macro conditions.

Not a knock on any of the advice you gave…but important not to confuse luck and skill, and not to confused 2012 to today with the future.

  • Investment Analyst in HF - Event
5d

Apologies - my reply above was meant for the parent comment but somehow got posted to you.

I will say that I agree 100% with what you said though. I cover financials, where my firm often thinks most businesses are commodities, and I joke that if we analyzed our own fund, we'd be extremely skeptical of it as a business. Indeed, we might not even think it has the right to exist!

One funny thing is that, in many cases, just like for a bank or a lender, a fund's liability structure is its biggest advantage: sticky or patient or flexible capital enables it to take positions or harvest risk premiums (illiquidity, dislocations) that others can't. In that way, the LPs themselves are actually providing much of the alpha-generation capabilities and much of the economic value of the manager, in a similar way that the deposit franchise of a bank really can be its most significant economic asset (I know - that's an old-timer, high-interest-rate world view, but bear with me!).

5d
iridescent007, what's your opinion? Comment below:

Great write up, but one question: how do you get the startup capital as a fresh grad, or someone who hasn't been working for many years ? Just saying, my parents could probably put down 10K and that's it. 2mn is an astronomical number for them

Persistency is Key
  • Analyst 3+ in HF - Other
7d

Go to Citadel, make bank, start your own fund, make bank 

  • Intern in ER
7d

This is unrelated to your question so ignore if uninterested, but I read this piece by M&I on starting a PE firm. Might find it useful, who knows

  • Research Associate in HF - Event
5d

I'm gonna get flack for this, but here's my experience:

There are many different ways to go about this. Before I list the steps, I wanna share what a friend of mine and Manager told me. Here's a bit of background: 

- He currently manages $3.5b, he started with $2m AUM in 2012, his largest client was his mother back then. His strategy is L/S technology and retail. He's produced exceptional returns since then (nearly 40% annualized). He's been mentioned many times throughout the media and he's somebody I aspire to be one-day. He worked at UBS for 3 years on the buyside and he graduated summa cum laude from a non-target. Never got the CFA, never worked in a hedge fund, never did a MBA

- An uncle of mine is a fairly large client of his, this is how I got introduced to him. I was fortunate enough to attend lunch with him. I told him that one-day I want to be a manager 'just like you'. I asked him about getting a job after college. He said the following, "I met these people, they're gonna sit you down and tell you to do nothing for years, if you want to be a good hedge fund manager, start early." 

Damn mah boi really just use cliff sosin who is down unbelievably bad off horrible bets on cvna and prty as leading example of starting a fund?

https://mcusercontent.com/f5a7230dae50d1cfb73937209/files/3ef44e48-ce2b-5b2f-e00d-1e572aaa4857/CAS_Investment_Partners_April_2022_Letter_to_Investors.pdf

image-20221125142307-1

5d
TechBanking, what's your opinion? Comment below:

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