Due Diligence on Alternative Investments: An Institutional Investor's Perspective

Abstract

This research paper focuses on due diligence on alternative investments, specifically hedge funds and private equity funds, from the perspective of institutional investors. It summarizes findings in some of the important research publications on the subject, showing highlights from industry surveys conducted among top managers of alternative investments and top institutions that invest in alternatives, and then presents the findings from a series of interviews conducted with investment officers of several pension funds and endowments. The paper subsequently makes recommendations on improvement opportunities in the field of due diligence. This work intends to enable high-level knowledge sharing among institutional investors and may also be useful for investment managers and third-party consultants. The complicated nature of due diligence and the requirement of more transparency in investment process came to the fore. Other issues that emerged in this study are the importance of people or management due diligence, difficulty in valuations of alternative investments, differences and similarities between hedge fund due diligence and private equity fund due diligence, manager access vs. manager selection issues, significance of compensation in limited partner teams, and liquidity problems.