Hedge Fund Data Collection: Where to Start Your Research (Part 1)
So you have narrowed your list of hedge fund candidates. You ran the screens, looked at the charts, compared the numbers. Now what?
Chapter 4 of Travers’s book is where things get practical. You stop looking at databases and start actually talking to hedge funds. And the first step is surprisingly simple: you ask them for their paperwork.
Don’t Fall in Love With Past Performance
Before we get into data collection, Travers drops an important warning. And honestly, this one hit me.
Here’s the thing: the funds that look amazing on paper are often not the best investments in real life. Travers says he has run hundreds of searches like the one in this book, and the funds with the prettiest performance charts frequently disappoint.
Why? Because past performance is just one piece of the puzzle. A fund could have had a great run due to luck, favorable market conditions, or taking on hidden risks. As due diligence analysts, we need to keep an open mind and not let shiny returns blind us.
Picking the Case Study: Fictional Capital Management
In the previous chapter, five fund candidates survived the screening process. Travers concluded that Funds Three and Five looked the most attractive. They both survived the 2008 crash (when the S&P 500 dropped 37 percent) while delivering the highest annualized returns with the lowest volatility.
But here’s the problem, you cannot just pick the two best performers and ignore everyone else. You need to request information from all five candidates and compare them properly.
For the rest of the book, Travers focuses on Fund Five, which he names Fictional Capital Management, or FCM. This fictional hedge fund will serve as the running case study all the way through the due diligence process.
The Initial Data Request
The first request for information is pretty basic. You are not asking for trade-level data or audited financials yet. You just need enough to start understanding who these people are and what they do.
Travers typically asks for:
- Fund presentation - the hedge fund’s pitch deck, basically
- Due diligence questionnaire (DDQ) - a standardized document with detailed Q&A about the fund
- 6 to 12 months of monthly fund letters - and/or quarterly letters
- Organizational chart - who does what at the firm
- Biographies of key professionals - background on the people running the money
You send an email to the fund’s marketer or investor relations contact. Nothing fancy. The information is usually off the shelf, meaning the fund already has all of it ready to go. They just email it back to you. At this stage, you are not doing deep analysis. You are collecting the basics from all five candidates so you can start reading and comparing.
The Due Diligence Questionnaire (DDQ)
The DDQ is the most important document you get in this initial phase. Most hedge funds create them for potential and existing investors, and they follow a similar format across the industry.
A typical DDQ covers these broad categories:
- Firm overview - company history, structure, registration
- Strategy overview - what the fund actually does
- Biographies of key personnel - who are these people
- Investment process - how ideas become trades
- Risk management - how they control downside
- Trading - execution, allocation, reconciliation
- Fund terms - fees, lockups, redemption rules
- Back office and operations - the boring but critical stuff
- Legal and compliance - regulatory status, conflicts
DDQs can be 12 pages or several hundred depending on the organization’s size. Many firms use the template from the Alternative Investment Management Association (AIMA). Travers says he gets most of what he needs from the fund’s own DDQ and follows up with additional questions later.
Meet FCM: The Case Study Fund
Now Travers introduces Fictional Capital Management through its DDQ responses. Let me walk you through the highlights.
Who They Are
FCM is a privately owned investment firm based in New York, founded in July 2006 by Ted Acoff and Jaime Wernick. Both previously worked together at GCH Advisers. The fund launched in December 2006.
They manage a long/short equity hedge fund focused on small to mid-cap stocks, primarily in the United States. The firm has eight employees: two portfolio managers, two analysts, a trader, and three operations staff. Total assets under management: $275 million.
Ownership Structure
The firm is 100 percent employee owned. Ted Acoff and Jaime Wernick each own 40 percent, and Bill Hobson (the COO) owns 20 percent. This is actually a positive sign. When the key people own the firm, their interests are more aligned with investors.
Key People
- Ted Acoff - Portfolio manager. Analyst at Cannon Capital (1992), then GCH Advisers (1998), co-PM in 2003, co-founded FCM in 2006.
- Jaime Wernick - Director of research. Investment banker at Jenners Blakely (1995), then GCH (2001), co-PM in 2003, co-founded FCM in 2006.
- Bill Hobson - COO. Controller at Bellman Capital (1997), then GCH as COO (2003), co-founded FCM in 2006.
Average experience for the key investment professionals: 17 years. Solid.
Key Person Clause
If Acoff and Wernick cannot manage the fund for 90 consecutive days, the fund fully liquidates and returns capital to investors. This protects you from a scenario where the key decision makers disappear and someone less qualified takes over.
How Ideas Become Trades
The investment team meets every Monday to discuss positions and the pipeline. Ideas usually start with Jaime Wernick, but anyone can bring something to the table. Once an idea is formed, someone becomes the lead analyst, builds financial models, and presents a recommendation. Ted Acoff then decides position sizing with specific upside and downside targets.
Portfolio turnover averages about 2 times per year. Longs are held 1 to 18 months, shorts typically 1 to 6 months.
Risk Management at FCM
Here is where things get interesting.
Maximum long position is 10 percent of the portfolio, though most longs sit at 4 to 6 percent. Maximum short is 6 percent, with average shorts at 2 to 3 percent. No formal limits on sector or geography.
They have informal stop-loss rules for longs: when a position drops 20 percent, they review the thesis. For shorts, there is a hard stop-loss at negative 20 percent, introduced in mid-2007.
One thing worth noting: before 2009, Ted Acoff handled risk management himself. After 2009, Bill Hobson (the COO) took over. That is a meaningful change. Having a separate person manage risk, rather than the same person making the bets, adds a real layer of oversight.
Operations, Compliance, and the Boring Stuff That Matters
The DDQ also covers operational details that many investors skip over. But here’s the thing, operational failures have blown up more funds than bad stock picks.
FCM’s key operational facts:
- Compliance: Handled by a third-party firm, Excel Compliance, Inc., since 2011. Before that, Bill Hobson (COO) was also the compliance officer, which is not ideal for a firm of any size.
- Trading: Jacob Holder handles execution with 10 years of experience. Trades are reconciled daily by both the trader and admin staff, then reviewed by the CFO.
- Personal trading: Employees are not allowed to trade stocks in personal accounts. Instead, they are encouraged to invest in the fund itself (with fees waived). This is a clean way to handle conflicts.
- Insurance: They carry general liability, workers comp, short-term disability, and errors and omissions coverage.
- Legal: No criminal, civil, or regulatory proceedings against the firm or principals. Clean record.
Fund Terms: What You Pay
FCM has two share classes:
- Class A: 1.5 percent management fee, 20 percent performance fee, high water mark
- Class B: 1 percent management fee, 20 percent performance fee, high water mark, one-year hard lockup
Class B was offered to early investors at a discount. Quarterly redemptions with 90 days notice. When you redeem, you get 90 percent within 30 days and the rest after the annual audit. No gates.
These are fairly standard hedge fund terms. Nothing alarming here.
What to Take Away From This
Chapter 4 Part 1 is really about the mechanics of starting your research. The key lessons:
- Don’t let performance seduce you. The best-looking fund on paper is not always the best investment.
- Start simple. Your first data request is basic: presentation, DDQ, fund letters, org chart, bios.
- The DDQ is your best friend. It gives you a structured overview of everything from strategy to compliance.
- Read between the lines. Things like who handles risk management, whether compliance is in-house or outsourced, and how trades are reconciled tell you a lot about how seriously a fund takes its operations.
- Ownership alignment matters. When the principals own the firm and invest in the fund, incentives are better aligned.
In Part 2, we will continue through the rest of FCM’s DDQ and get into the investment strategy details, fund administration, and the service providers that support the fund behind the scenes.
Previous: Chapter 3: The Due Diligence Process Next: Chapter 4: Data Collection (Part 2)