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Megan Leonhardt@MEGAN_LEONHARDT
Cash-strapped Americans struggling with the fallout of coronavirus may soon be able to tap into their retirement savings to cover bills, loan payments and everyday expenses. But experts say that while it's tempting to cash in, Americans should exhaust every other option first.
Late Wednesday, the Senate unanimously passed a $2 trillion stimulus package called the CARES Act — the Coronavirus Aid, Relief, and Economic Security Act — that boosts unemployment insurance payouts and aims to send relief checks to many Americans. To provide additional ways for Americans to access cash, the bill also allows people to take a withdrawal of up to $100,000 from their retirement savings, including 401(k)s or individual retirement accounts, without the typical penalty.
In the past, if you need to access those funds before age 59½, you generally have to pay a 10% penalty on any amount you take. The general exceptions to that rule include education expenses, buying your first home, covering massive medical debts or being ordered by a court to provide alimony or child support. If you're over age 55 and you've lost your job, whether you were laid off, fired, or quit, you can also pull money out of your 401(k) or 403(b) plan from your current employer without penalty.
While the new withdrawal exemption may help cover the short-term expenses associated with coronavirus, experts say Americans should think twice before tapping into their retirement funds."It sends a signal to people that this is a normal thing to do — and up to $100,000 — that's crazy," Monique Morrissey, an economist focused on retirement security at progressive think tank Economic Policy Institute, tells CNBC Make It.
For many, this relief simply isn't an optionOnly about half the workforce has a retirement account, says Olivia S. Mitchell, professor of insurance/risk management and business economics and public policy, and executive director of Wharton's Pension Research Council at the University of Pennsylvania.
And many have far less than $100,000 saved. A recent report found pre-retirees, Americans 56 to 61, had a median balance of $21,000 in their 401(k) accounts in 2016, which is the most up-to-date data on file. That total reflects almost 30 years of savings. Younger generations do not fare much better. Older millennials (32 to 37) have about $1,000 saved in their 401(k)s.Not only that, but employees with retirement accounts tend to be the higher paid, better educated and longer-term workers. "Therefore allowing people to tap into their retirement accounts won't help the millions who have no accounts," Mitchell says. "Those with no accounts are also likely to be the people that will be needing the most help."
Additionally, Mitchell predicts that the U.S. will see an increase in applications for early Social Security benefits, particularly if the recession is long and hard. "People taking early benefits will end up with a lifetime of lower payouts, and if they already ate into their 401(k)s, they'll be more likely to face shortfalls in their later years," she says. Consider the costs of taking retirement moneyGiving Americans the ability to take $100,000 in penalty-free withdrawals is probably rooted in the right place, says Timothy Ellis Jr., a certified financial planner with Memphis-based Waddell & Associates.
But those withdrawals could have a long-term negative impact on retirement plans and needs moving forward, Ellis says.Especially because the worst time to withdraw investment assets is in the middle of a dramatic market downturn. Because the investments are worth less, consumers may have to withdraw a larger percentage of the account, Ellis says.
Then there's the opportunity cost to raiding your retirement savings early. "Accessing retirement plan accounts, especially for younger workers, can put a permanent dent in plan balances," Ellis says. In fact, for an investor who makes steady retirement contributions over their career, the amounts saved during the first 10 years may end up accounting for half of their retirement account balance at age 65.
That's because compounding is one of the most powerful tools to boost retirement savings, and making a withdrawal, especially during the early stages of investing, reduces that ability, Ellis adds. Even a smaller withdrawal adds up in the long run. A $5,000 balance today could be worth $57,900 in 35 years, assuming a 7% annual rate of return.You also can't forget about taxes: While the new rule allows for penalty-free withdrawals, the money isn't totally free. "There will still be ordinary income taxes owed on withdrawals from traditional 401(k) deferral, employer matching and profit sharing balances," Ellis says.
Under the new stimulus package, however, consumers would be allowed to spread out the income taxes over a three-year period, so consumers wouldn't take such a massive hit on next year's taxes. The Senate's CARES Act is expected to pass the House of Representatives on Friday, but there are still steps retirement plan providers will need to take to make this new benefit available to consumers. It's also worth noting that under the recently passed SECURE Act, new parents are able to take $5,000 penalty-free from retirement accounts once regulators and employers provide guidance. But many 401(k) plan providers have delayed access to the new benefit, saying they need additional guidance from regulators and employers.
So while Wednesday's bill aims to expand the ability to take penalty-free withdrawals, there's no guarantee that Americans will be able to immediately take advantage of the benefit immediately during the coronavirus outbreak.
Other options if you need cashIf you are experiencing financial hurdles because of the recent coronavirus outbreak, Ellis recommends exhausting other resources before tapping into your retirement plan balance. First, consider using any emergency savings you may have. "We recommend our clients keep three to six months' worth of living expenses in cash for emergencies, which this would definitely fall under," Ellis says.
If you own a home, you could look into getting a home equity line of credit since housing values have been on the rise and interest rates are low. "You may have the ability to utilize the equity in your home at a low carrying cost," Ellis says.
If you need cash and don't have any emergency savings or home equity on hand, consider applying for a personal loan from your bank, which is generally used to consolidate debt or make a big purchase. The average interest rate for a two-year personal loan was about 10.2% in November 2019, according to the latest data from the Federal Reserve.
Keep in mind that the rate depends on both your credit and on the length of the loan, as shorter loans tend to have lower APRs. If you have bad credit, you may be facing an interest rate of up to 36%.If you do need to dip into retirement savings, you may be better off taking a 401(k) loan. These loans are not taxed, but you can only take up to half of your vested account balance — and not more than $50,000, no matter how high your balance. All loans need to be repaid within five years with interest (this is set by your plan, based on the prime rate, which is currently about 4.75%), or you'll be hit with taxes. You typically also still need to be working at the company to take a loan, most 401(k) plans do not offer former employees loans.
If those options don't work, you could also tap into a Roth IRA if you have one. With these accounts, you can withdraw any money you've invested at any time, without taxes or penalties. But again, remember there's an opportunity cost to using that money.
Even if you do need to take a withdrawal to cover your expenses, make a plan for next time. Even $5 or $10 a week can add up over time when you're trying to build an emergency savings fund."Some people may actually benefit from this in a modest way," Morrissey says. "But many people will also make bad decisions prompted by this [penalty-free withdrawal] — it will give people ideas they might not otherwise have acted on."
Cash-strapped Americans struggling with the fallout of coronavirus may soon be able to tap into their retirement savings to cover bills, loan payments and everyday expenses. But experts say that while it's tempting to cash in, Americans should exhaust every other option first.
Late Wednesday, the Senate unanimously passed a $2 trillion stimulus package called the CARES Act — the Coronavirus Aid, Relief, and Economic Security Act — that boosts unemployment insurance payouts and aims to send relief checks to many Americans. To provide additional ways for Americans to access cash, the bill also allows people to take a withdrawal of up to $100,000 from their retirement savings, including 401(k)s or individual retirement accounts, without the typical penalty.
In the past, if you need to access those funds before age 59½, you generally have to pay a 10% penalty on any amount you take. The general exceptions to that rule include education expenses, buying your first home, covering massive medical debts or being ordered by a court to provide alimony or child support. If you're over age 55 and you've lost your job, whether you were laid off, fired, or quit, you can also pull money out of your 401(k) or 403(b) plan from your current employer without penalty.
While the new withdrawal exemption may help cover the short-term expenses associated with coronavirus, experts say Americans should think twice before tapping into their retirement funds."It sends a signal to people that this is a normal thing to do — and up to $100,000 — that's crazy," Monique Morrissey, an economist focused on retirement security at progressive think tank Economic Policy Institute, tells CNBC Make It.
For many, this relief simply isn't an optionOnly about half the workforce has a retirement account, says Olivia S. Mitchell, professor of insurance/risk management and business economics and public policy, and executive director of Wharton's Pension Research Council at the University of Pennsylvania.
And many have far less than $100,000 saved. A recent report found pre-retirees, Americans 56 to 61, had a median balance of $21,000 in their 401(k) accounts in 2016, which is the most up-to-date data on file. That total reflects almost 30 years of savings. Younger generations do not fare much better. Older millennials (32 to 37) have about $1,000 saved in their 401(k)s.Not only that, but employees with retirement accounts tend to be the higher paid, better educated and longer-term workers. "Therefore allowing people to tap into their retirement accounts won't help the millions who have no accounts," Mitchell says. "Those with no accounts are also likely to be the people that will be needing the most help."
Additionally, Mitchell predicts that the U.S. will see an increase in applications for early Social Security benefits, particularly if the recession is long and hard. "People taking early benefits will end up with a lifetime of lower payouts, and if they already ate into their 401(k)s, they'll be more likely to face shortfalls in their later years," she says. Consider the costs of taking retirement moneyGiving Americans the ability to take $100,000 in penalty-free withdrawals is probably rooted in the right place, says Timothy Ellis Jr., a certified financial planner with Memphis-based Waddell & Associates.
But those withdrawals could have a long-term negative impact on retirement plans and needs moving forward, Ellis says.Especially because the worst time to withdraw investment assets is in the middle of a dramatic market downturn. Because the investments are worth less, consumers may have to withdraw a larger percentage of the account, Ellis says.
Then there's the opportunity cost to raiding your retirement savings early. "Accessing retirement plan accounts, especially for younger workers, can put a permanent dent in plan balances," Ellis says. In fact, for an investor who makes steady retirement contributions over their career, the amounts saved during the first 10 years may end up accounting for half of their retirement account balance at age 65.
That's because compounding is one of the most powerful tools to boost retirement savings, and making a withdrawal, especially during the early stages of investing, reduces that ability, Ellis adds. Even a smaller withdrawal adds up in the long run. A $5,000 balance today could be worth $57,900 in 35 years, assuming a 7% annual rate of return.You also can't forget about taxes: While the new rule allows for penalty-free withdrawals, the money isn't totally free. "There will still be ordinary income taxes owed on withdrawals from traditional 401(k) deferral, employer matching and profit sharing balances," Ellis says.
Under the new stimulus package, however, consumers would be allowed to spread out the income taxes over a three-year period, so consumers wouldn't take such a massive hit on next year's taxes. The Senate's CARES Act is expected to pass the House of Representatives on Friday, but there are still steps retirement plan providers will need to take to make this new benefit available to consumers. It's also worth noting that under the recently passed SECURE Act, new parents are able to take $5,000 penalty-free from retirement accounts once regulators and employers provide guidance. But many 401(k) plan providers have delayed access to the new benefit, saying they need additional guidance from regulators and employers.
So while Wednesday's bill aims to expand the ability to take penalty-free withdrawals, there's no guarantee that Americans will be able to immediately take advantage of the benefit immediately during the coronavirus outbreak.
Other options if you need cashIf you are experiencing financial hurdles because of the recent coronavirus outbreak, Ellis recommends exhausting other resources before tapping into your retirement plan balance. First, consider using any emergency savings you may have. "We recommend our clients keep three to six months' worth of living expenses in cash for emergencies, which this would definitely fall under," Ellis says.
If you own a home, you could look into getting a home equity line of credit since housing values have been on the rise and interest rates are low. "You may have the ability to utilize the equity in your home at a low carrying cost," Ellis says.
If you need cash and don't have any emergency savings or home equity on hand, consider applying for a personal loan from your bank, which is generally used to consolidate debt or make a big purchase. The average interest rate for a two-year personal loan was about 10.2% in November 2019, according to the latest data from the Federal Reserve.
Keep in mind that the rate depends on both your credit and on the length of the loan, as shorter loans tend to have lower APRs. If you have bad credit, you may be facing an interest rate of up to 36%.If you do need to dip into retirement savings, you may be better off taking a 401(k) loan. These loans are not taxed, but you can only take up to half of your vested account balance — and not more than $50,000, no matter how high your balance. All loans need to be repaid within five years with interest (this is set by your plan, based on the prime rate, which is currently about 4.75%), or you'll be hit with taxes. You typically also still need to be working at the company to take a loan, most 401(k) plans do not offer former employees loans.
If those options don't work, you could also tap into a Roth IRA if you have one. With these accounts, you can withdraw any money you've invested at any time, without taxes or penalties. But again, remember there's an opportunity cost to using that money.
Even if you do need to take a withdrawal to cover your expenses, make a plan for next time. Even $5 or $10 a week can add up over time when you're trying to build an emergency savings fund."Some people may actually benefit from this in a modest way," Morrissey says. "But many people will also make bad decisions prompted by this [penalty-free withdrawal] — it will give people ideas they might not otherwise have acted on."
How To Legally Establish a Hedge Fund In the United States
https://www.investopedia.com/articles/investing/040915/how-start-hedge-fund-united-states.asphttps://www.managedfunds.org/wp-content/uploads/2012/03/Starting-a-hedge-fund-GrantThornton-Stonegate-Capital-Dec-2011.pdfhttps://www.wikihow.com/Start-a-Hedge-FundHow To Legally Establish a Hedge Fund In the United States
- What Is a Hedge Fund?
- Articles of Incorporation
- Corporate Bylaws
- Register as an Investment Advisor
- Register t Representatives
- Register the Hedge Fund Offering
- Comply with Consumer Protection
- Market the Hedge Fund
- The Bottom Line
- If you're looking to start a hedge fund, the U.S. has some of the friendliest regulatory and tax environments with which to do so.
- However, you still need to make sure that you follow the correct procedure to legally establish a hedge fund and check all the right boxes.
- Here, we detail the main regulatory tasks that must be done to start a new hedge fund that is in compliance with the SEC and other agencies.
The term hedge fund refers to any type of private investment company that is operating under certain exemptions from registration requirements under the Securities Act of 1933 and the Investment Company Act of 1940. (Ironically, hedge funds may use investment strategies that have nothing to do with hedging.) Given these exemptions, it is much easier to start a hedge fund firm rather than a firm that manages more highly regulated investment options such as mutual funds. The relaxed restrictions for hedge funds have helped bolster the growth of the hedge fund industry.
File the Articles of Incorporation for the Hedge Fund FirmIn order to start a hedge fund in the United States, two business entities typically need to be formed. The first entity is created for the hedge fund itself and the second entity is created for the hedge fund’s investment manager. The hedge fund is typically set up as either a limited partnership (LP) or limited liability corporation (LLC). In comparison, a general investment manager can be set up any type of business structure that meets the needs of the investment manager. In most cases, hedge funds are formed as limited partnerships, in which the investment advisor acts as the primary partner, and an incorporated group of investors acts as the secondary partner.
Contact the secretary of state in the state where you plan to incorporate your firm for guidance about hedge fund business structures. Regardless of the physical location of the firm, many hedge funds incorporate in Delaware because of its business-friendly laws. However, other states have introduced business-friendly provisions to help make their states more competitive with Delaware. Choose your best state for incorporation.
Once the proper business structure has been determined for the hedge fund firm, name the fund and begin using the name to complete the necessary legal paperwork. In addition, the new firm will need to apply for a Federal Employer Identification Number (FEIN) with the Internal Revenue Service. An FEIN number can be obtained for free by applying online through the IRS website, or by filling out IRS Form SS-4. With this information, complete the state articles of incorporation. In the United States, companies can be formed in a very short period of time and with a minimal amount of money.Write the Hedge Fund Firm’s Corporate Bylaws
In today’s more regulated hedge fund environment, representatives for the new hedge fund firm will likely want to complete a host of documents in order to move forward with incorporation, register with the U.S. Securities and Exchange Commission (SEC), and register with the regulatory bodies in the state of incorporation. The level of documentation and regulatory compliance will depend upon the type of hedge fund strategy the firm plans to use. At a minimum, the hedge fund firm’s bylaws should include a mission statement, a compliance manual, an ethical code of conduct, a manual for supervisory procedures, and an advisor portfolio management agreement.
Register the Company as an Investment AdvisorIn order to establish a legal partnership, the company must register as an investment advisor. Do this by going to the Investment Advisor Registration Depository (IARD) website. This process is free and can be completed over the Internet.
A Registered Investment Advisor (RIA) is a firm who advises high-net-worth individuals on investments and manages their portfolios. RIAs have a fiduciary duty to their clients, which means they have a fundamental obligation to provide investment advice that always acts in their clients' best interests.
Register the Hedge Fund Firm’s Representatives as an Investment AdvisorIf the hedge fund is going to operate as a going concern, some of its representatives will likely need to register as an investment advisor with the U.S. Securities and Exchange Commission. The SEC requires such registration if the hedge fund is going to have 15 or more investors. Representatives can register as an investment advisor by visiting the IARD website. Representatives can also check with the secretary of state in the state of incorporation for more information.
In order to register as an investment advisor, the representatives will need to take the Financial Industry Regulatory Authority (FINRA) Series 65 regulatory exam, which will test the representatives’ knowledge of securities laws and practices, as well as their understanding of ethics. After passing the exam, the representatives will be a licensed investment advisor with the state. The fee to take the FINRA Series 65 exam is relatively inexpensive.
Register the Hedge Fund Offering with the SECThe hedge fund will also need to register the offering of the limited partnership with the SEC. Whereas corporations offer stock and LLCs offer memberships, limited partnerships offer interests. To register the hedge fund with the SEC, complete SEC Form D in each state in which the hedge fund will be offered.
This offering will name the key partners in the firm, as well as identify large investors and the fund's primary investment strategy and investment approach.Comply with Consumer Protection Provisions
As a result of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, hedge fund managers are subject to registration and reporting requirements. However, if the manager has less than $25 million dollars in assets under management, the manager is not eligible for SEC registration and must look to the laws of the adviser’s home state to determine registration and licensing requirements. Advisers registered in their home state can avoid SEC registration until they reach $100 million dollars in assets under management. Once they reach this level, hedge fund managers will need to complete Form ADV, which contains basic information about the adviser’s owners and affiliates, certain business activities that may give rise to conflicts of interest with clients, information about the private funds the adviser manages, and disciplinary information about the firm and its employees.
If the manager registers with the SEC as an investment advisor, the representative will need to complete SEC Form PF if the hedge fund has at least $150 million dollars in private fund assets under management. SEC Form PF is a comprehensive document that will take a fair amount of time to complete and requires a fee for filing.
Hiring good legal counsel is an investment. An experienced hedge fund lawyer can help you avoid pitfalls and build relationships and bring you into networking events such as private-capital introduction dinners.It will also show others in the industry that you are investing in your own business because you aim to be in the industry for the long haul.
Market the Hedge Fund to Potential InvestorsThe rules that govern the marketing activities for hedge funds have changed as a result of the Jumpstart Our Business Startups Act of 2012 (JOBS Act).(Related Can you invest in hedge funds?) As a result of these changes, hedge fund managers have greater flexibility in marketing their hedge fund to potential investors. In the United States, hedge funds can be legally marketed to investors that satisfy certain standards of sophistication (Rule 506(b), Securities Act of 1933). In addition, hedge funds can be marketed to the general public, provided all purchasers are accredited investors and certain other conditions are met (Rule 506(c), Securities Act of 1933). According to the SEC, an issuer cannot rely on both Rule 506(b) and Rule 506(c) in the same offering, except in a case of limited transition provision.
The Bottom LineThe complexity of starting a hedge fund firm is dependent upon the number of investors invested in the fund, the amount of assets under management, and the complexity of the hedge fund’s strategy for investors. There are a few hoops and hurdles to establishing a hedge fund firm in the United States, but these are easily understood. The greater challenge will be raising the necessary investment capital to operate the hedge fund firm as a going concern, and generating consistent hedge fund investment returns that outperform their representative benchmark proxy on a net-of-fee basis over time.
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How to Form a Hedge Fund
https://www.investopedia.com/articles/financial-theory/11/how-to-legally-form-a-hedge-fund.aspHow to Form a Hedge Fund
By TROY SEGAL Updated Oct 6, 2020TABLE OF CONTENTSSo you want to start a hedge fund. These alternative investments use pooled funds and a variety of strategies to achieve returns for investors. They are generally formed to identify and take advantage of specific investment opportunities, many of which come with a great deal of risk. But how do you go about setting yourself up to become a hedge fund mogul?
Getting a hedge fund up and running is a bit more challenging than forming a corporation or a limited liability company (LLC) for a private business. It involves navigating investment compliance laws, and you'll need professional legal help at some point along the way.
State Laws Vary
The laws governing the business are different for every country and state in which you do business. They may also differ—sometimes drastically—based on where your potential investors are located, how you may contact new investor leads, what you are investing in, and how many investors in total your fund attracts. Wherever you're doing business, these are the basics of getting a hedge fund up and running.KEY TAKEAWAYS
- Starting a hedge fund can be time-consuming and expensive due to the many regulatory and legal hurdles you'll encounter, along with the need to raise capital from investors.
- You can hire an experienced hedge fund attorney to handle the cumbersome paperwork involved.
- A hedge fund incubation platform can get you started cheaper and more quickly.
- A legal template service is a less expensive, do-it-yourself option.
How To Legally Form A Hedge Fund
The GroundworkBefore you put your hard-earned money into the venture, do some hedge fund due diligence. This is a costly and time-consuming process, so you want to make sure you've thought it through thoroughly.First things first: Do your research and become an expert. This isn't like jumping into the stock or bond market. It's much more complicated with very nuanced steps that you'll have to take. And there are, of course, a number of risks that hedge fund managers need to understand.Read up on hedge funds and how they operate and talk to experts in the field so you become an expert, too.Names Are ImportantYou'll want to choose a name for your fund—one that best describes your investment style and your strategy. This is more difficult than it seems. You want to attract investors, and your name may help draw them to you.
Then determine how you're going to do business. Are you going to set yourself up as an LLC, a trust, or a limited liability partnership (LLP)? The LLP is generally the most popular option.Initial Costs
Hedge funds are expensive ventures with burdensome startup costs that can reach well over the six-figure range. Startup costs for a standard equity fund can run approximately one million dollars in the first year. Start-up costs for more complex credit and systematic funds can run around two million dollars.1
Most hedge fund managers will spend the majority of their money the first year on costs related to salaries and for fees for third-party services, such as lawyers and consultants. The chief operating officer (COO) will be a key hire the hedge fund will need right away. The annual salary range for a COO is $130,000 to $190,000.1 Get your strategy in place and raise some startup cash before you take the legal steps.You’ll want to secure a significant amount of capital to manage and make running a hedge fund worthwhile. Raising capital is one of the biggest challenges for hedge fund startups, as potential investors will want to see that you have a significant amount of assets under management (AUM) before entrusting you with their money.
There's no real prescribed target, but you should aim to have at least $5 million in AUM to be successful, while $20 million will make you noticeable to investors. Having $100 million will get you noticed by institutional investors. In general, hedge funds can only operate successfully with large amounts of assets under management due to the powers of leverage and economies of scale.
Raising Capital
You may find one or all of the following good sources to go to first for initial investment capital:- Your own savings
- Family and friends
- Colleagues
- Hedge fund seeders
- Endowments or foundations
Create a Website
Hedge fund managers are hampered in their efforts to raise funds by regulations that prevent them from publicly advertising a specific fund. They can, however, set up informational websites that explain their investment strategies and experience. Fund managers often seek a wider audience by offering specific trading ideas on these websites.Hedge funds are often marketed by the fund manager, who networks with friends and business acquaintances or through third-party placement agents. The agents are individuals or firms that act as intermediaries for pension fund managers and similar professional and institutional investors.
Sometimes fund managers offer seed investment arrangements to initial investors. In exchange for a substantial investment in the fund, the investor receives a discount on fund management fees or partial ownership interest in the fund. These initial investors often do their own networking to solicit other investors.
Hedge fund managers generally produce brief marketing materials to give to prospective investors. Known as a "pitch book" or "tear sheet," this covers the basic information on the fund's strategy and manager, and its terms for investing.
3 Ways to Get the Legal Work Done
Once you've secured the capital, you have to work through the legalities of setting up the fund.If you're going to give out investment advice, first pass a test and register with the Securities and Exchange Commission (SEC). This is legally required under certain circumstances and it's a good idea in any case as future investors will see this as a positive sign.2 You'll also need to set yourself up with the Internal Revenue Service (IRS) to get an employer identification number.There are three possible ways to take it from there, depending on your budget and your need for professional hand-holding.Hire a Lawyer
You may consider hiring an experienced hedge fund attorney to help you sort through the paperwork, which can be cumbersome. It will also save you from making any costly mistakes like misfiling a form or forgetting one.Granted, this is the most expensive option. An experienced hedge fund attorney will charge between $20,000 and $150,000 just for the legal formation of your fund.3Experienced attorneys come with a long list of client recommendations and good reputations. Still, you'll be paying top dollar for work that is mostly completed on document templates by junior staff.
Use an Incubation Platform
Another option is to try to find a hedge fund incubation or emerging manager platform solution instead of fully forming your own hedge fund.The emerging manager platform's business model allows you to start trading in your hedge fund and seeking investors while building an audited track record within its larger legal structure.If you decide this is the way to go, network with people in the field to identify which platform to use. They seem to come and go and you want a stable and competent place.This method significantly cuts down your startup expenses and allows you to spend more money on talent, systems, and other service providers such as fund administrators, prime brokers, auditors, and third-party marketers.
Use a Template Service
The final option is to use a hedge fund formation template service, which could cut costs and reduce your startup expenses by 60% to 90%. These services get you access to the same legal templates the high-end attorneys use. Hedge fund formation templates give you the freedom—and responsibility—to establish your fund hands-on.Don't discount the fact that you may need legal representation down the road. You still have the option of retaining a full-blown, high-end attorney as your ongoing compliance and legal counsel. But you may be able to put it off until a later date.
This option is growing in popularity. As long as the fund is formed correctly, there is often a better payback by investing more of the startup money in operations and advisors rather than lawyers.
How to Start Your Own Private Equity Fund
https://www.investopedia.com/articles/markets/100515/how-start-your-own-private-equity-fund.aspHow to Start Your Own Private Equity Fund
By JAMES GARRETT BALDWIN Updated Mar 4, 2020Private equity firms have been a historically successful asset class and the field continues to grow as more would-be portfolio managers join the industry. Many investment bankers have made the switch from public to private equity because the latter has significantly outperformed the Standard & Poor's 500 Index over the last few decades, fueling greater demand for private equity funds from institutional and individual accredited investors.1 As demand continues to swell for alternative investments in the private equity space, new managers will need to emerge and provide investors with new opportunities to generate alpha.
KEY TAKEAWAYS
- Private equity firms are growing thanks to their outperformance of the S&P 500.
- Starting a private equity fund means laying out a strategy, which means picking which sectors to target.
- A business plan and setting up the operations are also key steps, as well as picking a business structure and establishing a fee structure.
- Arguably the toughest step is raising capital, where fund managers will be expected to contribute 1% to 3% of the fund’s capital.
Today's many successful private equity firms include Blackstone Group, Apollo Global Management, TPG Capital, Goldman Sachs Capital Partners, and the Carlyle Group.2 3 4 5 However, most firms are small to midsize shops and can range from just two employees to several hundred workers. Here are several steps managers should follow to launch a private equity fund.
Define the Business Strategy
First, outline your business strategy and differentiate your financial plan from those of competitors and benchmarks. Establishing a business strategy requires significant research into a defined market or individual sector. Some funds focus on energy development, while others may focus on early-stage biotech companies. Ultimately, investors want to know more about your fund's goals.As you articulate your investment strategy, consider whether you will have a geographic focus. Will the fund focus on one region of the United States? Will it focus on an industry in a certain country? Or will it emphasize a specific strategy in similar emerging markets? Meanwhile, there are several business focuses you could adopt. Will your fund aim to improve your portfolio companies' operational or strategic focus, or will this center entirely on cleaning up their balance sheets?Remember, private equity typically hinges on investment in companies that are not traded on the public market. It's critical that you determine the purpose of each investment. For example, is the aim of the investment to grow capital for mergers and acquisitions activity? Or is the goal to raise capital that will allow existing owners to sell their positions in the firm?Business Plan, Operations Setup
The second step is to write a business plan, which calculates cash flow expectations, establishes your private equity fund's timeline, including the period to raise capital and exit from portfolio investments. Each fund typically has a life of 10 years, although ultimately timelines are up to the manager's discretion. A sound business plan contains a strategy on how the fund will grow over time, a marketing plan to target future investors, and an executive summary, which ties all of these sections and goals together.Following the establishment of the business plan, set up an external team of consultants that includes independent accountants, attorneys and industry consultants who can provide insight into the industries of the companies in your portfolio. It's also wise to establish an advisory board and explore disaster recovery strategies in case of cyberattacks, steep market downturns, or other portfolio-related threats to the individual fund.
Another important step is to establish a firm and fund name. Additionally, the manager must decide on the roles and titles of the firm's leaders, such as the role of partner or portfolio manager. From there, establish the management team, including the CEO, CFO, chief information security officer, and chief compliance officer. First-time managers are more likely to raise more money if they are part of a team that spins out of a previously successful firm.
On the back end, it's essential to establish in-house operations. These tasks include the rent or purchase office space, furniture, technology requirements, and hiring staff. There are several things to consider when hiring staff, such as profit-sharing programs, bonus structures, compensation protocols, health insurance plans, and retirement plans.Establish the Investment Vehicle
After early operations are in order, establish the fund’s legal structure. In the U.S., a fund typically assumes the structure of a limited partnership or a limited liability firm. As a founder of the fund, you will be a general partner, meaning that you will have the right to decide the investments that compose the fund.Your investors will be limited partners who don't have the right to decide which companies are part of your fund. Limited partners are only accountable for losses tied to their individual investment, while general partners handle any additional losses within the fund and liabilities to the broader market.Ultimately, your lawyer will draft a private placement memorandum and any other operating agreements such as a Limited Partnership Agreement or Articles of Association.
Determine a Fee Structure
The fund manager should determine provisions related to management fees, carried interest and any hurdle rate for performance. Typically, private equity managers receive an annual management fee of 2% of committed capital from investors. So, for every $10 million the fundraises from investors, the manager will collect $200,000 in management fees annually.6 However, fund managers with less experience may receive a smaller management fee to attract new capital.Carried interest is commonly set at 20% above an expected return level. Should the hurdle rate be 5% for the fund, you and your investors would split returns at a rate of 20 to 80.7 During this period, it is also important to establish compliance, risk and valuation guidelines for the fund.Raise Capital
Next, you will want to have your offering memorandum, subscription agreement, partnership terms, custodial agreement, and due diligence questionnaires prepared. Also, marketing material will be needed prior to the process of raising capital. New managers will also want to ensure that they have obtained a proper severance letter from previous employers. A severance letter is important because employees require permission to boast about their previous experience and track record.All of this leads ultimately leads you to the biggest challenge of starting a private equity fund, which is convincing others to invest in your fund. Firstly, prepare to invest your own fund. Fund managers who had had success during their careers will likely be expected to provide at least 2% to 3% of their money to the fund's total capital commitments. New managers with less capital can likely succeed with a commitment of 1% to 2% for their first fund.8
In addition to your investment track record and investment strategy, your marketing strategy will be central to raising capital. Due to regulations on who can invest and the unregistered nature of private equity investments, the government says that only institutional investors and accredited investors can provide capital to these funds.
Institutional investors include insurance firms, sovereign wealth funds, financial institutions, pension programs, and university endowments. Accredited investors are limited to individuals who meet a specified annual income threshold for two years or maintain a net worth (less the value of their primary residence) of $1 million or more. Additional criteria for other groups that represent accredited investors are discussed in the Securities Act of 1933.9
Once a private equity fund has been established, portfolio managers have the capacity to begin building their portfolio. At this point, managers will start to select the companies and assets that fit their investment strategy.
The Bottom Line
Private equity investments have outperformed the broader U.S. markets over the last few decades. That has generated increased demand from investors seeking new ways to generate superior returns. The above steps can be used as a roadmap for establishing a successful fund.SPONSOREDProtect Your Retirement With the Right StrategyWant a better way to maximize your retirement income? A comprehensive financial strategy can help you make smart investment decisions. To develop a strategy that’s right for you, use SmartAsset’s free tool to get matched with fiduciary financial advisors in just 5 minutes. Learn more about how SmartAsset can help you reach your financial goals and get your advisor matches now.
How To Create Your Own ETF
How To Create Your Own ETF
By STEPHAN A. ABRAHAM Updated Aug 23, 2020How to Start an ETF
Many beginning investors face two key questions when determining where to invest their hard-earned dollars: how much disposable or investable assets are available, and which investments to choose when building a portfolio. When it comes to deciding where to invest their hard-earned dollars, investors can browse a range of options, from mutual funds to exchange-traded funds (ETFs), stock purchases, and more. However, many advanced investors with predilections towards certain companies, industries, or regions have asked: How do you create your own ETF?
KEY TAKEAWAYS
- To create your own ETF, you will need to carefully consider which assets to include in your fund. Those planning on including mostly large-cap stocks may be better off putting their money in an existing fund that tracks the S&P 500.
- Advanced investors and value-based investors researching how to start an ETF must recognize that doing so requires significant startup capital: upwards of $100,000.
- For investors ready to create their own ETF, companies like ETF Managers Group and Exchange Traded Concepts can help you get started.
Creating an ETF: ConsiderationsFor starters, anyone who is thinking of how to start an ETF needs to realize that this is a big-ticket wish: starting an ETF requires upwards of $100,000, up to a few million dollars of seed money in order to kick off the fund.
To create your own ETF, you will need to carefully consider which assets to include in your fund. If you are planning on including mostly large-cap stocks from companies such as Google and Apple, you may be better off putting your money in a fund that tracks the S&P 500 or other popular ETFs that track the stock market at-large. This means that those looking to seed their own ETF need to have a really clear-cut reason to invest in certain funds. Be prepared to learn new vocabulary and discover lots of advice and information on investing.
At some point, you must also select the class of assets that best suits your investment needs. In other words, what percentage of your investable assets should be allocated toward bonds instead of stocks, or bonds instead of real estate? Once you determine your asset allocation, then you have to determine which type of investment accounts to set up: a brokerage and/or a retirement account. Investments are either tax-deferred or tax-exempt in retirement accounts, whereas all gains and losses are a yearly taxable event in a regular brokerage account.
As you have probably gleaned so far, these are serious financial decisions that shouldn’t be taken lightly. Diversification is another buzzword or tenant of investing that is familiar to most people. Generally, ETFs are highly diversified investments with many assets of the same class or even a mix of stocks and bonds. As a result, rather than going out and researching stock sectors and recommended asset allocations, you can simply find an ETF that meets your investment needs. For example, if you have an interest in just buying an ETF that mirrors the overall market indices, you could purchase the SPDR S&P 500 ETF (SPY).1 SPY is also already pre-weighted, so the largest companies make up a larger portion of the investment fund than smaller ones. This built-in feature alleviates concerns about appropriately balancing investments according to company size.
Platforms to Create Your Own ETFFor investors ready to dive into creating their own ETF, they can choose companies like ETF Managers Group and Exchange Traded Concepts to get started.While a company named Motif Investing was the relatively new kid on the do-it-yourself investing block, most popular for starting your own ETF, Motif announced it was closing its doors in May 2020. Akin to ETFs, Motif’s investment options existed as baskets of stocks that mirror certain themes or motifs. For example, let’s say you believed that clean eating is the way of the future and you expected it to grow significantly. Based on this, with Motif, investors could select a basket of stocks that specialize in the production, marketing, distribution, and selling of healthy and organic foods.
The Bottom LineInvesting can be a daunting task. Assessing your overall financial situation and then selecting the right investments given a variety of factors requires some thought. Exchanged-traded funds are a good choice for beginning investors given their ease of transaction, high liquidity, and relatively low cost of ownership. Whether investing in an existing ETF or creating your own--after considerable capital is accumulated and considerations made--selecting an ETF as a core investment vehicle makes sense for a lot of investors.
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1. Motley Fool
2. Morningstar
Morningstar is one of the biggest names in investment research. They are very focused on the fundamental side of investing. They dig deep into the financial health of a company so you can make well-informed investment decisions. If you like to follow the charts and base your investment choices on technical analysis then Morningstar won’t be the best fit for you.
3. Investopedia
If you are just beginning to learn about the world of investments, Investopedia is your one-stop shop for anything and everything. Here, you can look up definitions of terms, register for newsletters with valuable information, use their stock simulator to see how much an investment earns or loses over time, and much more. You can research stocks by company name or ticker symbol and get quite a bit of information about a desired company. They also have a neat “Financial Edge” section, which can help you with some of the important fundamental principles of personal finance and the markets.
5. The Street
For decades, the Wall Street Journal newspaper has been a staple for information and research for investors.
7. MSN Money
10. Seeking Alpha
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MetaStock. ...
Morningstar. ...
Bloomberg.com. ...
Alpha Vantage. ...
Seeking Alpha.
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