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Liquid Alternative Investing: Everything You Need to Know to Get Started

Arman Salavitabar, CFA - 24 January 2023 - 0 comments

Liquid Alternative Investing: Everything You Need to Know to Get Started

  • Liquid alternative investment strategies (commonly known as hedge funds) can be attractive to investors looking to diversify their portfolios and improve their risk-adjusted returns.
  • When looking to invest in alternative strategies, a range of factors should be considered including the quality, transparency, access, and liquidity of these opportunities.
  • With the right knowledge and tools, investors can successfully navigate the world of alternative investing and unlock the potential benefits of liquid alternative investment strategies.


Liquid alternative investment strategies – also known as hedge fund strategies – have long been known as a popular investment option for high net worth individuals and institutional investors. With the potential to generate strong returns and provide diversification benefits, liquid alternatives can be an attractive option for investors who are looking to expand their portfolios and potentially improve their risk-adjusted returns.

That said, investing in these opportunities can also be complex and challenging, requiring a thorough understanding of the market and the various strategies used. In this article, we’ll provide an overview of everything you need to know to get started with liquid alternative investment strategies. Whether you are a beginner or an experienced investor, this article will provide you with valuable insights and information to help you navigate this segment of the alternative investment universe.

When looking to invest in liquid alternative strategies, there are four key elements that investors should consider:

  • Quality – Investing in strategies with robust investment processes and high-quality returns is critical.
  • Transparency – Accessing clear and transparent information about the fund’s investment strategy and operations.
  • Access – Understanding the barriers to access such as minimum investment amounts that are beyond the reach of many investors.
  • Liquidity – Accounting for varying levels of liquidity and constraints such as minimum holding periods and early redemption penalties.

Quality: Uncovering Liquid Alternative Strategies through Quantitative Analysis and Investment Strategy Validation

The quality of an alternative investment strategy can be assessed through a combination of quantitative analysis and investment strategy validation.

Quantitative analysis involves an assessment of the performance and risk profile of different strategies across a range of factors. This allows investors to identify potential strategies that may be suitable for inclusion in their portfolios. Investment strategy validation, on the other hand, involves conducting a thorough review of the investment philosophy and methodology of a potential strategy. This includes elements such as the reasoning behind the strategy’s investment approach, the quality of its risk management practices, and its alignment with the investor’s risk and return objectives.

By combining both quantitative analysis and investment strategy validation, investors can make informed decisions about which liquid alternative strategies are most likely to generate strong returns and manage risk effectively.

Quantitative Analysis

One common mistake that investors make when assessing the quality of a liquid alternative investment strategy is focusing too heavily on annualized returns or the Sharpe ratio. While these metrics can be useful indicators of a strategy’s performance, they should not be the only factors considered. Annualized returns and the Sharpe ratio do not capture the full picture of a strategy’s risk and return characteristics, and can be misleading if not considered in the context of the overall market and the investor’s specific goals and risk tolerance.

Rather, quantitative analysis should consider a range of attributes including profitability, consistency, stability, and control, to assess the overall quality of returns of a given strategy. We provide a simplified list of key indicators for each category in Table 1.

CategoryCharacteristic being measuredKey indicators
ProfitabilityThe strength of the strategy’s source of alpha and ability to generate returns on a repeatable and persistent basisAnnualised return, duration of verifiable track record, prevailing AUM, estimated capacity
ConsistencyAbility to generate returns throughout market cycles, independent of broader market conditionsMonthly win rate, trade win/loss ratio, correlation to major markets & asset classes
StabilityResilience to market risk, poor liquidity conditions and adverse market environmentsAnnualised volatility, downside volatility, best/worst months
ControlAbility to minimize depth and length of drawdowns in order to maximize the effect of compounding positive returnsAverage/maximum drawdown, average/maximum time in drawdown, average/maximum leverage

Table 1

By considering a combination of profitability, consistency, stability, and control, investors can assess the characteristics associated with different strategies and select opportunities that best meet their desired risk tolerance and return objectives.

Investment Strategy Validation

Once a potential investment strategy has been identified, investors should conduct investment strategy validation to ensure that there is sound reasoning behind the strategy’s investment philosophy and that it aligns with their standards of risk management. This includes qualitative review of the strategy’s investment process, risk management practices, and adherence to strategy restrictions. There should also be a thorough review of the operational aspects of the strategy, including the investment manager’s infrastructure, governance and regulatory compliance.

Transparency: Requesting Key Documents and Materials Can Help You Understand and Manage Your Alternative Investment

Transparency is crucial when it comes to investing in liquid alternatives. It helps investors understand exactly where their money is going and what they can expect in terms of returns. Without transparency, investors may be in the dark about important details of their investment, which can put their money at risk. By requesting the right documents and materials, investors can gain a better understanding of their investment and make more informed decisions.

  • Offering documents – These outline the terms and conditions of the investment, as well as any supplement materials that provide additional information about the fund.
  • Due Diligence Questionnaire (DDQ) – Provides valuable insight into a fund’s operations, strategy, risk management, and performance. It typically covers a wide range of topics, from the fund’s organizational structure and investment team to its fees and potential conflicts of interest.
  • Presentation – There is typically a slide deck or other visual aids that provide an overview of the fund’s investment strategy and track record. It can help investors understand the fund’s philosophy and approach to generating returns, as well as its key strengths and risks.
  • Factsheet – A concise summary of the fund’s key information, including its investment strategy, performance, fees, and portfolio holdings. It can provide a quick snapshot of the fund’s key attributes and help investors compare it to other funds.
  • Third-party historical performance verification – Provides independent confirmation of the fund’s past performance. This can be especially important for strategies that have a limited track record or rely on complex or opaque investment strategies. By verifying the fund’s performance with a reputable third party, investors can have greater confidence in the accuracy of the fund’s track record.

Access: Know What You’re Agreeing To

When investing in an alternative investment fund, it’s important to carefully consider the key terms of access. These terms can have a significant impact on your investment and should be carefully reviewed before making a decision.

  • Minimum investment size – This is the minimum amount of money required to invest in the fund. The minimum investment size can vary depending on the fund and its investment strategy, but it’s important to understand how much you need to invest in order to participate.
  • Cash controls – This refers to the rules and processes in place for managing the fund’s cash balances. It’s important to understand how cash is managed in the fund and what controls are in place to ensure safety, such as dual signatories of accounts as well as independent directors.
  • Independent valuations – Alternative strategies sometimes invest in complex or illiquid assets, which can make it difficult to determine their value. As a result, many funds use independent valuations to determine the value of their assets. It’s important to understand how these valuations are performed and who performs them, as this can impact the accuracy and reliability of the fund’s performance reporting.
  • Service providers – Alternative funds often use a variety of service providers, such as administrators, prime brokers, and custodians. It’s important to understand which service providers the fund uses and how they are selected.
  • Segregation of assets and liabilities – This refers to the separation of the fund’s assets and liabilities, which is intended to protect investor interests. It’s important to understand how the fund’s assets and liabilities are segregated and how this is monitored, as this can impact the safety of your investment.
  • Fees – Liquid alternative funds often charge a variety of fees, including management fees and performance fees. Management fees are typically a percentage of the assets under management and are used to cover the fund’s operating expenses. Performance fees, on the other hand, are charged based on the fund’s returns which may be subject to a pre-defined hurdle rate. It is important to understand the fees that will be charged and how they will impact your returns.
  • TER: The total expense ratio (TER) is a measure of the total costs associated with investing in a fund, including management fees, performance fees, and other expenses. A higher TER can eat into your returns, so it is important to compare the TER of different funds to ensure that excessive and unnecessary costs aren’t being charged to the fund’s assets.

Liquidity: Navigating the Liquidity Landscape of Alternative Investing

Liquidity is an important factor to consider when investing in an alternative investment fund. This refers to the ability to quickly convert an investment into cash. There are several factors that can affect the liquidity of a fund investment.

  • Redemption frequency – The frequency that an investor can request to redeem their investment in the fund. Some funds may allow investors to request redemptions on a monthly or quarterly basis, while others may only allow redemptions once per year or even less frequently. The more frequently redemptions are allowed, the more liquidity the investment will have.
  • Minimum notice period – The amount of time that an investor must give the fund manager before requesting to redeem their investment. This can range from a few days to several months, depending on the fund. The shorter the minimum notice period, the more liquidity the investment will have.
  • Lock-up periods – A specific amount of time during which investors are not allowed to redeem their investment. This is common in alternative funds that invest in illiquid assets. The longer the lock-up period, the less liquid the investment will be.
  • Early redemption fees – Charges that are applied if an investor requests to redeem their investment before the end of the lock-up period. These fees can range from a few percentage points of the investment amount to a much more significant proportion of the investment, depending on the fund. The higher the early redemption fees, the less liquidity the investment will have.


Alternative investing can be a complex and challenging endeavor that requires a thorough understanding of the market and the various strategies used by liquid alternatives. By considering key elements across quality, transparency, access, and liquidity, investors can make informed decisions and choose opportunities that align with their investment objectives. With the right knowledge and tools, investors can successfully navigate the world of alternative investing and unlock the potential benefits of liquid alternative investment strategies.

Disclaimer – FundFront Ltd., does not provide advice and the information in this article should not be construed as such. FundFront Ltd., is registered in England and Wales, and its Registered Office is at C/O Zeeta House, 200 Upper Richmond Road, London, United Kingdom, SW15 2SH. Company Number: 13711456. FundFront Ltd., is an Appointed Representative of Brooklands Fund Management Limited, which is authorised and regulated by the Financial Conduct Authority with the firm reference number 757575 and the Securities and Exchange Commission with the registered number 286221.

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