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About this book

Alternative investments such as hedge funds, private equity, and fund of funds continue to be of strong interest among the investment community. As these investment strategies have become increasingly complex, fund managers have continued to devote more time and resources towards developing best practice operations to support the actual trade processing, fund accounting, and back-office mechanics that allow these strategies to function. Representative of this operational growth, estimates have indicated that fund managers have seen increased operating budgets of 30% or more in recent years.

In today’s highly regulated environment, alternative investment managers have also increasingly had to integrate rigorous compliance and cybersecurity oversight into fund operations. Additionally, with recent advances in artificial intelligence and big data analysis, fund managers are devoting larger portions of their information technology budgets towards realizing technology-based operational efficiencies. Alternative investment fund service providers have also substantially increased their scope and breadth of their operations-related services. Furthermore, investors are increasingly performing deep-dive due diligence on fund manager operations at both fund level and management company levels.

This book provides current and practical guidance on the foundations of how alternative investment managers build and manage their operations. While other publications have focused on generalized overviews of historical trading procedures across multiple asset classes, and the technical intricacies of specific legacy operational procedures, Alternative Investment Operations will be the first book to focus on explaining up-to-date information on the specific real-world operational practices actually employed by alternative investment managers. This book will focus on how to actually establish and manage fund operations. Alternative Investment Operations will be an invaluable up-to-date resource for fund managers and their operations personnel as well as investors and service providers on the implementation and management of best practice operations.

Table of Contents

Frontmatter

1. Introduction to Alternative Investment Operations

Abstract
This chapter provides an introduction to the subject of alternative investment operations. It begins by defining alternative investments and providing an overview of the importance of classifying fund manager investment and operational activities. As part of this discussion, we provide an overview of the role of operations in facilitating investment activities. We also analyze the dependency of the investment function on the operations function. Next, we discuss several of the unique aspects of alternative investment operations. We also outline how different alternative investment strategies merit specific operational strategies.
Jason Scharfman

2. Trade Operations: Execution, Settlement and Reconciliation

Abstract
This chapter provides an introduction to fundamental concepts in trade operations for alternative investment funds. It begins by outlining the types of securities traded by alternative investment funds. The concept of trade idea generation compared to trading strategy is then discussed. The pre-trade processes including the use of a pre-trade blotter and pre-trade compliance checks are then discussed. Other topics addressed in this chapter include an overview of the trade confirmation, clearing, settlement and reconciliation processes. Finally, we discuss trade allocation- and trade compliance-associated trading risks.
Jason Scharfman

3. Cash Management, Oversight and Movement

Abstract
This chapter provides an overview of the procedures involved in cash management, oversight and movement for alternative investment funds. It begins by providing an overview of the four primary categories of cash: cash for expenses, cash to facilitate investing, cash flow to and from investors and unencumbered cash. In relation to these categories, the concept of where cash is stored will be discussed. Next , we outline common fund structures employed by alternative investment managers and their relation to cash management. These structures include the master-feeder structure, mini master-feeder structure and side-by-side structures. Other topics discussed include alternative investment fund expense policies and cash control best practices.
Jason Scharfman

4. Compliance Operations and Governance Considerations

Abstract
This chapter provides an overview of the compliance operations of alternative investment managers. The concept of mandatory compliance obligations and voluntary compliance obligations will be discussed. As part of this discussion, we outline the sources of mandatory and voluntary compliance obligations. We then outline the distinction between investment and operational compliance obligations. Next chief compliance officer (CCO) models and the duties of CCOs will be discussed. Other topics covered in this chapter include the role of governance in compliance management, compliance documentation including the compliance manual and code of ethics, and common compliance policies.
Jason Scharfman

5. The Role of Service Providers in Alternative Investment Operations

Abstract
This chapter provides an overview of the different third-party service providers utilized by alternative investment firms. The role of fund administrators in areas including accounting, shareholder services, and valuation support will be discussed. Next, we outline the role of third-party valuation consultants and the types of assurance services they provide. We then discuss the common duties of compliance consultants including assisting with personal trading program oversight and electronic communication monitoring. Finally, we discuss the role of legal counsel, auditors and other service providers that may be utilized.
Jason Scharfman

6. Information Technology Operations

Abstract
This chapter provides an overview of the role of technology in alternative investment manager operations. The role and items typically covered in information security policies will be discussed. We then discuss the role of information technology consultants. In this discussion, we outline the software development life cycle including the process for change management and sandbox testing. The role of data rooms in archiving and distributing management company and fund information will be discussed. We then outline cybersecurity trends with regards to fund operations including the role of penetration testing, software patches and vendor cybersecurity analysis. We conclude the chapter with a discussion of business continuity and disaster recovery planning and the role of big data and artificial intelligence in alternative investment operations.
Jason Scharfman

7. Additional Operational Functions and Tasks

Abstract
This chapter provides an overview on the wide variety of operational functions present at alternative investment managers. It begins with a discussion of operational risk management and fund reporting. We then discuss important fund manager operational policies for human resources management. Next we discuss security master files. As part of this conversation, we discuss the concepts of unique identifiers for securities within files including CUSIP and ISIN numbers. We then discuss operational considerations for fund manager insurance management. We conclude with a discussion of the treasury function.
Jason Scharfman

8. Private Equity Operations

Abstract
This chapter provides an overview of specific private equity operations considerations. It begins by providing an overview of key aspects of private equity structures and operational resource frameworks. This includes a discussion of key private equity terminology including an overview of the role of the general partner. Next, it discusses private equity administration models including a comparison of self-administration and third-party administration. As part of this conversation, we outline unique private equity administrator valuation considerations under the ASC 820 framework. Next, we review a sample private equity valuation policy. We then discuss the private equity funding process including an overview of operations role in developing funding timelines and managing the capital call process. Finally, we discuss private equity operational compliance considerations including the governance role of Limited Partner Advisory Committees (LPACs) and a case study in fee management.
Jason Scharfman

9. Fund of Funds Operations

Abstract
This chapter discusses the unique aspects of fund of funds operations. It begins by discussing the role of operations in fund of funds liquidity management. As part of this discussion, we provide an analysis of key redemption terms including “lockups” and “redemption windows.” Next, we review a redemption timeline management example. During the course of this example, we discuss the role of operations in managing facilities including revolving credit facilities, subscription facilities and NAV facilities. Finally, we discuss the role of separately managed accounts and administrators in fund of funds operations.
Jason Scharfman

10. Documenting and Analyzing Fund Operations

Abstract
This chapter analyzes important considerations relating to documenting alternative investment fund operations. It begins by outlining the three primary purposes of operations documentation. Next, the role of operations documentation in meeting minimum regulatory requirements is covered. We then discuss the demonstrative and memorialization purposes of operational documentation as well as the change management function of operational documentation. The chapter continues with an overview of the purposes and roles of investor facing documentation. As part of this conversation, we outline the historical role of operations manuals and their transition to topic-specific operating policies. Finally, we discuss the preparation of alternative investment fund manager operational due diligence questionnaires and provide an overview of key areas that should be covered in these DDQs.
Jason Scharfman

11. Ongoing Operations Management, Training, Surveillance and Testing

Abstract
This chapter provides an overview of operations training, testing and surveillance. It begins with a discussion of the goals and purposes. It then discusses different types of operations training including initial training, ongoing training, global operational review training, operational change training and operational reinforcement training. We then analyze the role of operational procedures gaps and accompanying gap analysis. The chapter continues with an overview of the distinction between operations testing and surveillance. As part of this discussion, we outline the steps in executing an operational testing program as well as developing operational testing schedules. Finally, we discuss the role of internal audit in ongoing operations oversight as well as a case study in valuation operations oversight.
Jason Scharfman

12. Analysis of Fund Operations and Future Trends

Abstract
This chapter provides an overview of the process by which investors analyze fund operations through the operational due diligence process and future alternative investment manager operations trends. It begins with a discussion of the importance of the operational due diligence process for alternative investment fund managers in securing investor capital. We then discuss which individuals and groups typically perform operational due diligence. Next, we proceed to discuss the operational due diligence process including document collection and analysis, on-site manager meetings, service provider confirmation and review and, finally, report generation and recommendations. Finally, we discuss future operations trends including the continued increasing complexity of fund operations and a likely focus on data privacy and security among both fund managers and their service providers.
Jason Scharfman

Backmatter

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