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Risks and Complex Investments Under UPIA. FIRMA Conference.

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Risks and Complex Investments Under UPIA


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    1. Risks and Complex Investments Under UPIA FIRMA Conference Excerpts from: Mitigating The Legal Duties Of Fiduciaries An Financial Advisors To Manage Stock Concentration Risk: Conceptualizing And Implementing A “Best Practices” Framework By Tom Boczar used throughout this presentation with permission.

    2. Legal Duties Under The Uniform Prudent Investors Act • Most states have adopted some version of the “prudent investor” rule. • The prudent investor rule adopts Modern Portfolio Theory (MPT). • MPT developed by Harry Markowitz, whose key insight was that the variance of returns (one measure of risk) could be decreased through diversification. • By increasing the number of assets held in a portfolio and by investing in different asset classes (uncorrelated or ideally negatively correlated), investors can reduce risk without sacrificing returns.

    3. Legal Duties Under The Uniform Prudent Investors Act • The prudent investor rule has been codified by the Uniform Prudent Investor Act (UPIA), • which has been adopted in whole or in substantial part by a vast majority of the states. • Even states that have not adopted the UPIA look to the rules set forth therein as persuasive authority. • The UPIA imposes 7 distinct and separate duties upon fiduciaries with respect to managing stock concentration risk.

    4. 1st Duty: Mitigate Unwarranted Stock Concentration Risk • The UPIA states that a trustee shall diversify the investments of a trust unless the trustee reasonably determines that, because of special circumstances, the purposes of the trust are better served without diversifying. • Similarly, the Restatement (Third) of Trusts, which has been cited by many courts in assessing whether a trustee has a duty to diversify, provides that a trustee is under a duty to diversify the assets of a trust, unless it is prudent not to do so.

    5. 1st Duty: Mitigate Unwarranted Stock Concentration Risk • Both the UPIA and the Restatement (Third) of Trusts take the significant step of integrating the diversification requirement into the concept of prudent investing. • In addition, the case law overwhelmingly supports the duty to diversify. • Thus, prudent investing ordinarily requires diversification and fiduciaries clearly have an affirmative duty to mitigate undue stock concentration risk.

    6. 2nd Duty: Consider Hedging As Alternative To Holding Or Selling • Over the past decade or so there has been a changing mindset amongst the courts, fiduciary litigators and legal scholars and commentators regarding whether a trustee may be held liable for breaching the duty to invest prudently by failing to hedge a concentrated single stock position. • The current state of the law will, in most instances, require fiduciaries to fully understand and be able to implement various hedging, monetization and tax deferral strategies. • This duty requires fiduciaries to consider hedging strategies as a possible alternative to either an outright sale or a continued holding of the concentrated position.

    7. 2nd Duty: Consider Hedging As Alternative To Holding Or Selling • This emerging duty (to be informed about the intricacies of various hedging strategies and able to implement them) is a perfectly logical development given the: • rapid growth and maturation of our capital markets over the past decade, including the market for financial derivatives and sophisticated risk management tools, • emergence of risk management as a discipline (and profession) unto itself, • ease of accessibility to information describing risk management tools and techniques and their potential application, • continuing compression of trading commissions and “spreads”, making risk management increasingly affordable, and • perhaps most important, the regular and routine use of derivatives and other risk management tools by corporations and other sophisticated institutional investors, such as mutual funds and pension funds, to manage their financial risks and fiduciary duties under provisions akin to the UPIA.

    8. 3rd Duty: Evaluate Expected Tax Consequences Of Alternative Strategies • TheUPIA requires that trustees consider “the expected tax consequences of investment decisions or strategies”. • The comments to the UPIA go on to state that under our current federal income tax system, taxable investors, including trust beneficiaries, are in general best served by investment strategies that minimize the recognition of income taxes. • This is very significant because, as the put/call parity equation proves, different combinations of financial tools and instruments can be assembled to have financial equivalency to each other.

    9. 3rd Duty: Evaluate Expected Tax Consequences Of Alternative Strategies • For instance, the economics of a collar and a loan (e.g., to achieve hedging, monetization and deferral of the capital gains tax) can be achieved through the following tools or combination of tools:  • Prepaid variable forward (PVF). • Over-the-counter options-based collar combined with a margin loan. • Exchange-traded options-based collar combined with a margin loan. • Equity swap with the optionality of a collar embedded within it combined with a margin loan. • Non-recourse loan combined with the sale of call options. It is critical to note that each of these five strategies is economically equivalent, yet their tax treatment can differ significantly.

    10. Tax Comparison Of Hedging & Monetization Techniques For Stock Acquired After 1983 Straddle Rules Apply 1. A single instrument collar is an OTC options-based collar where both the put and call are combined into one contract with a net premium of zero. 2. Assumes long-term holding period (e.g., at least one year) has been achieved for the stock. The holding period of the hedge is not relevant due to the applicability of the straddle rules.

    11. How Should This Revelation Impact the Action of Fiduciaries Charged With Managing Concentrated Stock Positions?   • It should first be noted that, because each of these five strategies is economically equivalent, the dealer (e.g., the counterparty on the other side of the trade) will likely hedge its exposure in the same manner under each case. • In addition, the dealer will be subject to a “mark to market” taxation regime. • Therefore, the dealer should be indifferent as to how a particular hedging transaction is documented, giving the investor flexibility to decide which form of hedge to utilize.

    12. Let’s Look at a Very Common Fact Pattern • Assume a trust holds a concentrated position in a single stock • And the trustee has determined that either hedging or disposing of the stock might be prudent. • The trustee must first determine if the trust allows for hedging • If not, client needs to be contacted • Document requires an amendment • Many professional fiduciaries who consider themselves on the cutting edge would probably engage in an analysis that compares the tax implications of an outright sale to the use of a PVF. • The comparison of an outright sale solely to the PVF (and not to any of the other four tools mentioned above) would likely be made because Wall Street has “anointed” the PVF as the tool to hedge and monetize a concentrated stock position.

    13. Let’s Look at a Very Common Fact Pattern • This heavy promotion of the PVF by Wall Street has been based primarily on the fact that the PVF has the fewest moving pieces of the five alternative strategies in that the collar and loan are combined into a single instrument. • As a result, the PVF is the simplest product for Wall Street to sell. • In addition, it is the easiest structure for dealers to “bury” their fees into. • For instance, since there is no margin loan (e.g., a PVF is a form of off-balance sheet financing) the investor cannot readily determine what spread over LIBOR it is being charged. • In addition, the cost of the embedded collar is not readily determinable.

    14. Let’s Look at a Very Common Fact Pattern • Because of their general familiarity with the PVF structure, many fiduciaries would merely compare the tax implications of an outright sale to a PVF. • However, of the five tools mentioned previously, in most situations the PVF is the least tax-efficient tool that is available. • Therefore, merely comparing an outright sale to a PVF, which is currently what most professional fiduciaries do, is clearly a deficient analysis and does not go nearly far enough to satisfy the requirements of the UPIA. • Given that the UPIA requires that trustees consider the expected tax consequences of investment decisions and strategies, it seems perfectly clear that fiduciaries should compare and contrast the expected tax consequences of each of the five alternative strategies (and not just a PVF) to an outright sale. • All things being equal, the objective should be to select and utilize the tool that has the greatest likelihood of delivering the optimal after-tax result.

    15. 4th Duty: Evaluate Non-Tax Consequences Of Alternative Strategies • In addition to considering the potential tax advantages and disadvantages of the various tools, prudence requires that the trustee engage in a thorough analysis of the potential non-tax advantages and disadvantages of each tool or combination of tools. • The UPIA states that the trustee shall make a reasonable effort to verify facts relevant to the investment and management of trust assets.

    16. 4th Duty: Evaluate Non-Tax Consequences Of Alternative Strategies • Thus, in the context of selecting the most appropriate hedging tool, non-tax considerations such as those listed below should be considered: • Impact of the margin rules. • Counterparty credit risk. • Ability (or inability) to close out a transaction prior to its stated expiration. • Price discovery. • Price transparency. • Flexibility of documentation (e.g., terms and conditions). • Minimum size constraints. • What entity has custody of the shares being hedged? • Can the identity of the investor remain anonymous to the marketplace? • Yet, based on experience working with fiduciaries, this type of thorough analysis (e.g., comparing and contrasting both the tax and non-tax advantages and disadvantages of the various tools that could be used) is generally not done until the fiduciary is made aware of the possible implications of not doing so.

    17. 5th Duty: Apply Special Skills • In general, the standard of prudence for a professional fiduciary is that of a prudent professional fiduciary. • However, both the UPIA and the Restatement (Third) of Trusts make clear that a fiduciary who has special skills or expertise, or is named trustee in reliance upon the trustee’s representation that the trustee has special skills or expertise, has a duty to use those special skills or expertise. • As a result, a trustee will be held liable for a loss resulting from the failure to use such skill. • The case law strongly supports the concept of a higher standard of care for a trustee that represents itself to be expert in a particular area.

    18. 5th Duty: Apply Special Skills • Many, if not most, professional fiduciaries market and hold themselves out as having acquired special expertise in the area of managing stock concentration risk. • Assuming this is true (unfortunately it is not in most instances), too often this special skill is either not applied at all or is applied inconsistently to the fiduciary’s client base. • Therefore, if the fiduciary holds itself out as having special skills in this area: • Should formalize or institutionalize the delivery process, should assure that these special skills are applied to each client through a uniform and consistent methodology, and • Should therefore not be held liable for a loss resulting from the failure to use such special skills.

    19. 6th Duty: Maintain Loyalty To Beneficiaries • The UPIA imposes an absolute duty of loyalty upon the trustee. • Put simply, the trustee must work solely in the best interest of the beneficiaries, as opposed to acting for its own interest or that of third parties. • Thus, any course of action smacking of either self-dealing or conflict of interest is strictly prohibited.

    20. 6th Duty: Maintain Loyalty To Beneficiaries • Professional fiduciaries that have in-house derivative dealers and who rely on their internal desks to execute hedging transactions on their behalf need to be especially cautious. • At a minimum, the fiduciary must procure competing bids from a number of dealers to assure that robust price discovery has in fact been achieved and must be prepared to execute a transaction with an outside dealer if the pricing, terms and conditions of their in-house desk are not as favorable.

    21. 7th Duty: Minimize Transaction Costs And Fees • The UPIA specifically addresses investment costs and states that a trustee may only incur costs that are appropriate and reasonable in relation to the assets, the purposes of the trust and the skills of the trustee. • Wasting beneficiaries’ money is imprudent. • In devising and implementing strategies for the investment and management of trust assets, trustees are obliged to minimize costs. • In particular, it is important for trustees to make careful cost comparisons, particularly among similar products of a specific type being considered for a trust portfolio. • Therefore, achieving full price discovery is not optional! • Is required by both the UPIA and the Restatement (Third) of Trusts.

    22. The Status Quo • Most professional fiduciaries utilize an informal, antiquated, ad hoc approach to managing stock concentration risk. • Portfolio managers and trust administrators are periodically reminded to be on the lookout for highly concentrated positions. • A portfolio manager or an employee who has some background in either options or taxation might be anointed as the firm’s stock concentration expert and expected to develop the necessary expertise to handle these situations. • Or a small group might be formed in an attempt to develop the necessary expertise. Sometimes each client-facing investment professional or team within a firm is expected to have the necessary expertise to address these situations as they arise.

    23. A Five Step Plan Designed For Fiduciaries To Satisfy Their Duties To Manage Stock Concentration Risk • The five step process described within has been formulated specifically to allow fiduciaries to satisfy their multiple legal duties under the UPIA while delivering a tailored solution for each and every client. • The use of this “best practices” framework should allow fiduciaries to not only systematically manage stock concentration risk in a uniform and consistent process and thereby satisfy its fiduciary duties, but deliver the optimal solution for each and every client that is served.

    24. Step 1: Objectives Must Be Identified & Established • The precise objective (or combination of objectives) of the trust must be identified and established. Possible objectives include: • hedging • monetization (generate cash for re-investment) • yield enhancement • wealth transfer • charitable planning

    25. Step 2: Tools & Techniques That Can Satisfy These Objectives Need To Be Identified • All of the investment tools (or combination of tools) that can potentially be used to satisfy the objectives need to be identified.   • Currently available techniques, in addition to an outright sale and continued holding of the concentrated position, include: • Various types of equity derivatives: • exchange-traded options, including equity-flex options • over-the-counter derivatives: • options • swaps • forwards • single stock futures

    26. Step 2: Tools & Techniques That Can Satisfy These Objectives Need To Be Identified • Various forms of borrowing: • margin loans • recourse or non-recourse • loans embedded within a derivative (e.g., prepaid variable forward) • fixed or floating rate • Other tools include: • exchange funds • certain forms of short sales not prohibited by the constructive sale rules • restricted stock sales • 10b5-1 plan for affiliates • certain risk-pooling methodologies to inexpensively hedge stock • capital markets-based transactions such as DEC offerings • “exotic” options (put spreads, put spread collars, etc.)

    27. Step 3: Tax Advantages & Disadvantages Of Each Strategy Need To Be Identified • As mentioned previously, a fiduciary can have one or more objectives that need to be achieved (hedging, monetization, enhancing yield, etc.) when managing stock concentration risk. • For each of these objectives, there are various tools that can be used to achieve the desired economics and the tax advantages and disadvantages of each tool must be identified. • Because of constraints on the length of our time together, we’ll focus on the “best practices” framework a fiduciary might wish to follow if the objective is to monetize a concentrated position.

    28. Monetization • A fiduciary of a trust that holds a concentrated single stock position would ideally like to sell the stock if it were not for the capital gains tax (federal and possibly state) that would be triggered. • The fiduciary would like to hedge, monetize and defer the capital gains tax. • How can a fiduciary accomplish these objectives under the current tax law in the most tax-efficient manner?

    29. The Paradigm • Prior to the Taxpayer Relief Act of 1997 and the “constructive sale rules” promulgated thereunder, the short against the box (SAB) was the preferred monetization strategy because it was the cheapest and most tax-efficient method to achieve these objectives.   • In a SAB the investor is simultaneously long and short the same number of shares of the same stock and therefore completely hedged. • The fully hedged position earns close to the risk-free rate of return on 100% of its value. • Because the position is fully hedged the investor can typically borrow up to 99% of its value and there is no limitation on the use of proceeds. • Because the income generated by the perfectly hedged position greatly offsets the cost of borrow, the cost monetization is very inexpensive when compared to other alternatives.

    30. The Paradigm • Prior to the constructive sale rules, the long and short positions were treated separately for tax purposes and the capital gains tax was deferred. • Because the long shares qualified for a step-up in basis at death, an investor who kept a SAB open until death completely eliminated the capital gains tax. • EXHIBIT A illustrates the economics of the SAB (e.g., combining exactly opposite payoff profiles) and EXHIBIT B summarizes its tantalizing results

    31. 1)LONG POSITION2)SHORT POSITION3)COMBINED LONG AND SHORT POSITIONS EXHIBIT A: Payoff Profile For Short Against The Box 2) Short Position PROFIT 3) Combined Long And Short Position CURRENT STOCK PRICE LOSS 1) Long Position _ + STOCK PRICE

    32. EXHIBIT B: Historical OverviewBefore The Taxpayer Relief Act Of 1997 • Results of Short Against The Box: • Stock position perfectly hedged • Risk-free rate of return (less small dealer spread) earned on 100% of value of position • Very high loan to value ratio possible (up to 99% monetization) • Very inexpensive monetization / diversification • Capital gains tax deferred and potentially eliminated because of stepped-up basis of long shares

    33. The Paradigm • Unfortunately, the constructive sale rules have generally eliminated the use of the SAB. • However, it is important to have a basic understanding of the economics of the SAB for two reasons. • First, it remains possible to utilize the SAB in certain limited situations. • Second,the five alternative monetization strategies that are available today each attempt to replicate the cash flows and economics of the SAB as closely as possible without violating the constructive sale rules.

    34. Structuring Objective: Replicating The SAB Without Triggering A Constructive Sale • Since the enactment of the constructive sale rules, a particular type of collar, known as an “income-producing collar”, has emerged as the preferred monetization strategy because it is possible to fairly closely replicate the cash flows of a SAB while avoiding a constructive sale. • By structuring a collar with a fairly tight band around the current price of the stock, an investor can: • Minimize exposure to the underlying stock (within the limits imposed by the constructive sale rules), • monetize the position, • generate positive cash flow that can be used to offset or subsidize the cost of monetization, • while deferring the capital gains tax and • possibly eliminating it (by qualifying for a stepped-up basis at death). EXHIBIT C depicts this structuring process.

    35. EXHIBIT C: Synthetically Replicating The Short Against The Box W/o Triggering A Constructive Sale • Steps: • 1st Eliminate as much exposure as possible without violating the constructive sale rules • Generates positive cash flow • Constructive sale rules (Code Section 1259) • 2nd Borrow against the hedged position • Explicit versus implicit loans • 3rd Use income to partially offset cost of borrow • 4th Minimize after-tax cost and tax risk • Straddle rules (Code Section 1092 and 263) • Securities Lending rules (Code Section 1058) • Qualified Dividend Income rules (Code Section 1 and 246) • Choice of tool is the key consideration • 5th Achieve full price discovery

    36. Structuring Objective: Replicating The SAB Without Triggering A Constructive Sale • Most tax practitioners believe that in order to avoid a constructive sale, an income-producing collar should be no tighter than a 15% band around the current price of the stock. • For instance, if a stock is currently trading at $100 per share, an investor might buy protection below $95 and sell-off all upside potential above $110. • The Senate Finance Committee Report and the House Ways and Means Committee Report with respect to the constructive sale rules each contain this example of a collar with a 15% band. • Although the committee reports express no view on whether this collar is “abusive” (and would therefore trigger a constructive sale), most tax practitioners believe this example was most likely included to give investors practical guidance as to what type of collar would not trigger a constructive sale. • In sum, the cash flows of an income producing collar, when combined with a loan of some sort against the hedged position, resemble a short against the box but should not trigger a constructive sale.

    37. Different Tools Deliver The Same Economics But Different Tax Treatment • As prefaced earlier, the desired economics can be achieved through the use of five different tools or combination of tools.   • Prepaid variable forward (PVF). • Over-the-counter options-based collar combined with a margin loan. • Exchange-traded options-based collar combined with a margin loan. • Equity swap with the optionality of a collar embedded within it combined with a margin loan. • Non-recourse loan combined with the sale of call options. It is critical to understand that each of these tools can result in very different tax consequences. Fiduciaries and financial advisors should engage in a thorough analysis to insure that the tool that is utilized is the one most likely to minimize the investor’s after-tax costs. • To begin our analysis, let’s take a quick look at how each of these tools could be used by an investor to establish a collar with a $95 put and $110 call combined with monetization.

    38. Prepaid Variable Forward • A PVF is an agreement to sell a security at a fixed time in the future, with the number of shares to be delivered at maturity varying with the underlying share price. • The agreement has the economics of a collar, as well as a borrowing against the underlying stock embedded within it. • For instance, an investor holding ABC Corp. shares currently trading at $100 might enter into a PVF that requires the dealer to pay the investor $88 at the inception of the contract in exchange for the right to receive a variable number of shares from the investor in three years pursuant to a preset formula that embodies the economics of a collar (e.g., a long put with a $95 strike and a short call with a $110 strike).

    39. Prepaid Variable Forward • The formula requires the investor to deliver all its ABC Corp. shares if the price of ABC in three years is less than $95. If the price of ABC is greater than $95 but less than $110, the investor must deliver $95 worth of shares. If the price of ABC is above $110, the investor must deliver $95 worth of shares plus the value of the shares above $110. • Alternatively, a PVF could be cash-settled. • For instance, if the price of ABC was less than $95 three years from now, the investor could pay the dealer the then-current value of ABC in cash. If the price of ABC was between $95 and $110, the investor could pay the dealer $95 in cash. If the price of ABC was above $110, the investor could pay the dealer $95 plus the difference between the then-current price of ABC and $110.

    40. Listed or OTC Option-Based Collar Combined With Margin Loan • Options-based collars involve the simultaneous purchase of puts and sale of calls on the underlying stock. The options eliminate the potential for loss below the put strike price and for profits above the call strike price. • For instance, an investor holding ABC Corp. shares that currently trade at $100 might buy a put with a strike price of $95 and sell a call with a strike price of $110 and then borrow against the hedged position to monetize the position. • Options can be either listed or over-the-counter (OTC). • Listed options trade on a regulated options exchange and are cleared and guaranteed by the Options Clearing Corporation (OCC). • Listed options include Equity FLEX options which are options that have customized terms including strike prices, expiration dates and exercise style (European or American). • OTC options are negotiated privately with a single counterparty.

    41. Swap With Embedded Collar Combined With Margin Loan • A swap is an agreement between the investor and a highly rated dealer with payments referenced to the price of a particular stock and covering a particular dollar amount (e.g., the notional amount). • Under a swap, the investor could agree to pay the dealer any appreciation above a specified share price (e.g., the strike price of the embedded short call). • The dealer in turn could agree to pay the investor any depreciation below a specified share price (e.g., the strike price of the embedded long put) plus an interest-based fee on the notional amount. • For instance, an investor holding ABC Corp. shares currently trading at $100 could enter into a swap agreement to pay the dealer any appreciation above $110 while the dealer could agree to pay the investor any depreciation below $95 plus an interest-based fee on $100. The investor could then borrow against the hedged position (or against other marketable securities) to monetize the position.

    42. Non-Recourse Loan Combined With Sale Of Call Options • An investor holding ABC Corp. shares that currently trade at $100might borrow $95 against the shares on a non-recourse basis. • With this type of borrowing, only the pledged shares of ABC Corp. are at risk. • That is, there is no further recourse with respect to the principal of the loan. To replicate the economics of a PVF, the investor could sell calls with a strike price of $110.The investor is economically protected below $95, has forfeited any upside above $110 and has immediate access to $95 in cash.  • Because the economics (e.g., hedging and monetization) of an equity collar can be achieved through the use of several tools (e.g., options, swaps and forwards) and each of these tools can result in very different tax consequences depending on an investor's particular situation, investors and their professional advisers must engage in an analysis to ensure that the derivative tool that is utilized is the one most likely to minimize the investor's after-tax cost of implementing the collar.

    43. Potential Impact Of “Dividend Holding Period Rules” • The provisions of the Jobs and Growth Tax Relief Reconciliation Act of 2003 (the “2003 Tax Act”) impact investors who are desirous of hedging and monetizing a dividend-paying stock. • The 2003 Tax Act lowered the tax rate on dividends to 15% for individuals if they hold the shares for at least 61 days. • However, the rules require that investors hold their dividend-paying shares unhedged during this 61-day holding period. • This requirement applies to every dividend period.   • If investors hedge the stock during this period, they will not be eligible for the reduced 15% tax rate. • More specifically, if an investor hedges with an options-based collar, a prepaid variable forward swap-based collar or swap-based collar, any dividends paid will be taxed at the 35% rate, not the 15% rate.

    44. Potential Impact Of "Straddle Rules" • Whether or not the "straddle rules" of the Internal Revenue Code apply is critical in the selection of the most appropriate tool. • Code Section 1092 applies to "straddles." • A straddle exists when holding one position substantially reduces the risk of holding another. • Because a collar substantially reduces the risk of owning the underlying stock, the stock and collar together should be treated as a straddle for federal tax purposes.

    45. Potential Impact Of "Straddle Rules" • Investors face two negative ramifications from their stock and collar being deemed a straddle. • First, investors can easily get “whipsawed” by the straddle rules. • That is, any loss realized from closing one leg of a straddle must be deferred to the extent there is unrealized gain on the open leg. • More specifically, as a collar expires, is terminated, or is rolled forward, any losses must be deferred as long-term capital losses. • On the other hand, gains must be currently recognized as short-term capital gains. • Second, interest expense incurred to "carry a straddle" must be capitalized, as opposed to being currently deductible. • If the stock that is being hedged was acquired after 1983, the straddle rules apply. • On the other hand, if the stock was acquired before 1984, the straddle rules should not apply.

    46. Alternative Investments/ Hedge Fund Risks

    47. Alternative Investments/Hedge Fund Risks • In theory, hedge funds provide a diversification opportunity, coupled with the possibility of outperformance of traditional asset classes. • Successful investing, however, requires effective managers. • The selection process should thus focus on risk control and transparency, as well as relative performance and qualitative aspects such as integrity, reliability, and experience.

    48. AlternativeInvestments/Hedge Fund Risks • Researching hedge fund managers is difficult. • Example, transparency and regulatory issues complicate quantitative and qualitative evaluations. • Furthermore, even if top-tier managers can be identified and trusted to provide accurate performance data.

    49. Alternative Investments/Hedge Fund Risks • Many are not accepting new investments, particularly by smaller investors, and if they are, minimum investments can range from $1 million to $5 million. • A 10% allocation (commonly cited as the minimum to achieve any meaningful impact in a portfolio), therefore, would require at least a portfolio of $10 million to $50 million.

    50. Alternative Investments/Hedge Fund Risks • Costs of investing in hedge funds • In addition to unseen fund costs such as brokerage commissions and borrowing costs that will rise and fall alongside interest rates, investors are faced with: • high management fees (typically 1%–2%), • performance fees, and • additional costs