Hybrid funds have emerged as an increasingly popular way to satisfy investor demand for diversification resulting in exceptional returns. These vehicles are designed to focus primarily (but not exclusively) on illiquid investments through a blend of the longer-term investment strategies of closed-end private equity funds and the trading and hedging strategies of open-end hedge funds. This offers investors exposure to a wide variety of asset types, affording greater flexibility in liquidity options.
While popularity has grown, gauging the market opportunity of hybrid funds is difficult. The opportunities have attracted participants from the hedge fund and private equity worlds. Setting up a hybrid fund requires expertise in both closed-end and open-end funds, which typically requires assembling a team of experts from each side. This combination of sometimes conflicting cultures can create challenges.
As far as operational challenges, hybrids entail complex accounting methods, making it more difficult to strike a reliable and accurate monthly NAV. Fund managers must also be able to demonstrate controls for operational risks and comply with disclosure requirements imposed in the wake of the 2008 financial crisis. The complexity of hybrid funds increases the risk of errors in fund accounting, investor allocations and fee calculations.
These challenges highlight the importance of choosing a fund administrator with expertise in both closed-end and open-end funds, and an ability to facilitate collaboration between experts on both sides. An administrator backed by proven technology infrastructure built around a platform that is sufficiently flexible to adapt for a variety of strategies can alleviate much of the operational, accounting and compliance burden from a hybrid fund’s managers, allowing them to focus more on new opportunities.