Redder Red FlagsPlaying with matches and quantifying risk.

When it comes to money manager due diligence, some flags are redder than others.  Investment process and expense ratios are important, but making sure your money manager didn’t just settle with the federal regulators for $5 million and get barred from trading by the futures industry FOR LIFE is probably a pretty big freaking box you’ll want checked.

Disgraced former head of MF Global, Jon Corzine, is fundraising for a new hedge fund.  This guy misplaced $1.6 billion of investor funds for two years and got barred from the futures industry for the rest of his life.  While it takes uh…guts?… for him to raise funds, it’s even crazier that people are actually going to hand over their money for him to manage via whatever loopholes were built into his deal with the feds.

It’s important not only to identify danger, but to have an understanding of the size and nature of the danger.  Investing funds with someone who has a dodgy (to say the least!) financial history is like playing with matches.  The potential for destruction is stored like the head of a match.  It won’t take much to ignite and burn investors.

It’s relatively easy to vet mutual fund managers since fund information is pretty transparent and there are several databases that collect and organize that data.  With hedge funds, it’s more difficult.  The due diligence must dive deeper.  There are firms that do collect and organize information on private investments, but I have found that a simple Google search can turn up information that spikes a potential investment.

Googling the names of the general partners for a private fund can uncover information that one might not find in the presentation deck.  One of our clients got pitched a fund where the manager had just come out of a divorce and then declared bankruptcy.  This hit a couple of red flags: divorce (distracted manager), bankruptcy (an obvious red flag), and the red sports car that now belongs to his ex-wife (exotic cars point to a change in risk tolerance in the manager).  I’ve also found myself in supposedly password protected areas of hedge fund websites.  If a manager can’t secure his own website, why would you invest with them?

Taking some time to understand a potential investment can save you from getting burned.  Sometimes that’s as easy as a quick Google search.