The concept of strength in numbers often applies to investing. That's why umbrella funds, which pool investment resources, are so popular. An umbrella fund is an investment fund that contains multiple sub-funds. The legal structure of an umbrella fund can be complex and generally consists of various "feeder funds" that invest their assets into an individual master fund, which then executes on all investment activities and decisions.
Umbrella fund uses
In some cases, multiple employers will use a single umbrella fund to pool their collective retirement-benefit investments. Hedge funds may also set up umbrella funds, establishing feeder funds that channel resources into a master fund. That master fund, with all of its investments and trading activity, is then managed and overseen by a single investment advisor.
In either case, the master fund invests these combined assets with the goal of making money for shareholders. Any profits that are made from the master fund's investments are distributed proportionately to the various feeder funds under the umbrella based on the percentage of investment capital each has put into the master fund. Investors pay any applicable management and performance fees to the feeder funds they invest in.
Benefits of umbrella funds
One major benefit of umbrella funds is that they can reduce trading and operating costs for individual funds and their investors. Because trading and other such activity is conducted at the master fund level, certain transaction costs are reduced or eliminated at the feeder fund level. And thanks to their larger size, umbrella funds can often obtain better service and more favorable terms from prime brokers and other institutions that facilitate financial transactions. This can help reduce fees that eat away at investors' profits.
Drawbacks of umbrella funds
One disadvantage of umbrella funds is that the feeder funds under a given umbrella structure are bound by whatever investment decisions the master fund makes. Those decisions don't always match the investment style of the individual investors or funds that fall under the umbrella. Furthermore, because umbrella funds are often used by hedge funds to pool the assets of both onshore and offshore investors, this structure can result in some legal and tax-related complications. Finally, setting up an umbrella fund structure can be onerous, time-consuming, and costly.
While the benefits of an umbrella fund can trickle all the way down to investors, there are costs and complexities involved that need to be considered. In some cases, an alternate structure may be the best solution for managing investment assets and resources.
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