How Difficult Would It Be to Start A Hedge Fund After Two Years As Analyst?
This is under the assumption that I have accumulated $250k of capital on my own, also assume that I have a network developed where I could get an additional $1 mm at least. Thoughts? I also have a super specialized strategy.
I'll bite. Let's assume no employees but you.
BBG Terminal - $25K / year Office Space (to convince investors you are real) - $50K / year Insurance - $20-$30K / year Let's assume you live like a 23 year old finance guy in NY, so maybe you pay yourself $100K / year (~$60K after tax)
Great - we have $1.05M to invest.
But we forgot hedge fund structuring costs (one time in nature, but real). Have little experience setting up and marketing a new fund, but between entity formation in the Cayman Islands, partnership agreement drafting and negotiating with LPs, side letters, T&E to travel and market, you are probably looking at $500K - $1M.
So we have $50K to invest. $4K / year of 2% fees. Hope your returns are good!
Side note - the reality is your investors will not be willing to pay to set up your hedge fund, so you'll need to find that capital yourself.
Then you are not running a hedge fund, you are day trading and asking you family and friends for some money. The difference is one of scalability and legal liability - I'm not sure and what size you have to be SEC registered -Properly dealing with your "investors" taxes will not be easy -You will have no legal protection / formalization of the relationship between you and your "investors", which will cause you all sorts of headaches.
Even if you knock out legal formation costs, it is very very hard to make a living on $1M of principal. Let's say you actually are the next great hedge fund manager and can generate 20% returns - that's $40K of annual fees (before tax) if you convince your friend and family you deserve a 20% override. $40K is okay, but still would not be enough for you to formalize your "hedge" fund.
What they don't tell you about the legendary hedge fund managers who founded funds in their dorm rooms is they almost universally got big $ from family (a lot more than $1M in today's terms). Great to be ambitious, but the best thing you can do is get into a hedge fund role so you can understand how they actually operate, the cost to operate, and how people actually make capital allocation decisions.
This should be highlighted and posted up top somewhere.
So many "legends" were well positioned to do well. This is not to say they are not smart or talented or ambitious.
But life if much easier when mom/dad/gramma and co can pony up a lot of change for you to punt markets and tell their similarly well off friends about it and then back you even more when you have the first 1-2 good years. It also helps when the market is less crowded, there is more information asymmetry and there are fewer MENSA/WSO types fighting tooth and nail to be interns (much less getting into/running HFs).
This does not mean one cannot do it, but it is a much steeper hill to climb than before. If one is truly talented, may be best to join a platform, do well, and then try to get seeded by said platform. Guys used to come from bank prop desks but that doesn't work anymore.
Or maybe you just know some rich people who will help you out and give you money, office space, a free BBG and legal services. That's more a family office set up but can emerge into a HF...
There are really only 2 hard parts to starting a hedge fund (there are lots of things you'll need to do...but only 2 are "hard")
1) raise money 2-5 million dollars is usually the bare minimum, depending of the potential returns of your strategy...could possibly be much much more. 2) a strategy that can generate at least 200k/year of profit to the manager (thats you).
if you think your strategy can make 20-30% per year with max 10% drawdown (thats a home run) then 2mm * 20% = 400k. Assume you get 20% of the 400k = 80k to you
So, 2mm is gonna me too small...you'll need 5mm to start so that if you make 20% investing, you'll get paid 200k (which you will use for all firm expenses, in addition to your salary)...so keep asking more investors to invest in you. This really is the hard part.
Your 1st investors will get preferable terms 0/20 probably. You get paid nothing if you don't make investing returns.
Then after 1 year of actual returns managing investor money, if you really do make 20%, you'll be able to go on the road and try to raise 50mm of investor capital...and this 50mm will be 2/20 terms...you'll make 1mm/year just sitting on the money..plus 20% of investing profits. Everything you plan on doing is to get to this point, where the real money is made. You'll need a story to tell investors, to distinguish you from every other hedge fund who also wants that investor $$.
lots of other stuff needs to happen, but sure, you can start with an account at interactive brokers with a couple million bucks. When you get big enough (50 million is the minimum i think) then you can open a prime broker account with Credit Suisse.
For tax reasons, hedge funds are structured as 2 entities 1) LLP partnership 2) LLC management company
investors write a check to the LLP partnership. your LLC mgmt co also has a % ownership in the partnership (assuming 20% performance fee...then 20%) and the mgmt co makes the investing decision s for the LLP. For tax reasons, you never want more than 99 members to each LLP partnership. This is why as hedge funds grow, their tax bills increase...they need to keep creating new funds/LLPs so they never have more than 100 partners in a fund (i forget the tax rule, but its out there..a penalty for size). You need this structure to make carried interest...its annoying, but otherwise your tax bill is sky high.
So anyway, you'll need this structure...it doesn't cost 50k to create...you can do it with legal zoom and 2-3k on the cheap at forst. If you want to take in non-US investor $, then you''ll need a caymen LLC for non-US investors to invest into (costs you 3k to setup)...and then the caymen LLC invests into your Deleware LLP entity. annyoying as fuck...but it is what it is.
If you only have US investors to start, then you could just open an mgmt account with interactive brokers...but that limits what you can invest into (for example, no swaps).
You'll need to get registered as an investment advisor to take in investor money...thats not cheap..and its annoying. You can work from home to start...lots of small funds start out that way..and use a wework rented office conference room for the rare times you need a physical location to talk with investors in person.