Hedge fund valuations have always been a fickle and inconsistent process. Previously, the hedge fund industry never established a standard process for determining the fair market value of over-the-counter, private, and illiquid assets. That all changed during the 2008 financial crisis. Investors suffered significant losses, and the industry faced increasing pressure to adopt a more streamlined valuation process.
Post-crisis hedge fund investors demanded the valuation process to be more transparent while also being upheld to stricter regulations. Accurate hedge fund valuations are critical. If a hedge fund’s assets are misrepresented, that will lead to inaccurate fees and erroneous performance expectations. Additionally, inaccuracies can also result in flawed redemptions, which can severely hurt investors.
To provide investors with valuation assurance, hedge funds can hire third-party valuation firms that understand the nuanced aspects of hedge fund valuations. Investing in a hedge fund structure is a complex procedure. It varies significantly from private equity assets, which can benefit from closed-end investment structures. Hedge funds, however, usually manage liquid investments wherein redemptions by investors can happen quarterly. For hedge fund managers, their fees are determined either monthly or on a quarterly basis on unrealized market values. This is why accurate hedge fund valuations are so important.
To safeguard against inaccurate valuations, hedge fund managers should have strict policies to price their portfolios. The valuations should be detailed, compliant, and specifically outline the primary, secondary, and tertiary pricing sources. As more hedge fund managers seek the expertise of third-party valuation firms, investors need to understand the role they play in the process. It is also important that investors are paying close attention to procedures so that they can know, with certainty, that everything is well-monitored.
A few services that a third-party valuation firm can provide hedge fund managers are negative assurance, positive assurance, and a full valuation. Each of these services varies, and the one you opt for depends on your specific circumstances. Talk with a valuation firm you trust, one that can prove that they have a great track record working with hedge funds. If you are not working with a qualified third-party valuation firm, then you risk providing inaccurate valuations to investors or bearing the risk of such valuations internally.
At Appraisal Economics, we have been performing valuations for leading hedge funds private equity funds across the nation for 30 years. You can see our full list of services on our website, and can contact us today if you would like to learn more.