The landscape of hedge fund investing has undergone a profound transformation over the past two decades. What began as a relatively straightforward fund-of-funds model has evolved through separately managed accounts (SMAs) and now into sophisticated multi-strategy platforms. This evolution raises an important question: Has hedge fund investing reached its pinnacle, or are we witnessing just another stage in its ongoing development?

In this article, I'll share key insights from my recent in-depth conversation with Mark van der Zwan, CIO of Hedge Fund Solutions at Morgan Stanley Investment Management. We explored the transformation of hedge fund investing, the implications of the platform model, and the future of alternative investment strategies. You can listen to the full episode on YouTube, Spotify or Apple Podcasts.

 

From Fund of Funds to Platforms: A Fundamental Shift

Two decades ago, institutional investors primarily gained exposure to hedge funds through the fund-of-funds model. This approach provided access to a diverse range of managers but came with high fees and limited transparency. The 2008 financial crisis was a turning point, leading many investors to seek greater control and liquidity. As a result, SMAs gained popularity, allowing investors to customize their exposures while benefiting from improved transparency and cost efficiency.

However, SMAs had their own limitations, particularly in managing volatility and optimizing capital allocation. This set the stage for the rise of the multi-strategy platform model—often referred to as 'Hedge Fund 3.0.' These platforms provide investors with a more sophisticated approach to risk management and return generation while maintaining the advantages of diversification and efficiency.

 

Why Have Platforms Taken Over?

The appeal of the platform model lies in its ability to deliver skill-based returns with a structure that institutional investors find attractive. Successful platforms offer three critical advantages:

  1. Granular Control – Platforms enforce strict guidelines on portfolio managers, ensuring that exposures remain within predefined risk parameters.
  2. Real-Time Transparency – Unlike traditional hedge funds, which report end-of-day or even monthly data, platforms operate with near-instantaneous risk monitoring, allowing for dynamic adjustments.
  3. Scalability and Efficiency – Platforms leverage their size to optimize financing costs, trading execution, and prime brokerage relationships, leading to improved capital efficiency.

 

Specialization: The Rise of Highly Focused Portfolio Managers

One of the most notable changes brought by the platform model is the extreme specialization of portfolio managers (PMs). Unlike the generalist fund managers of the past, today’s platforms hire specialists who focus on highly specific market segments or strategies. This specialization allows platforms to optimize returns by leveraging deep expertise in narrow investment areas. However, it also means that PMs operate under tight constraints, with risk management controls limiting their exposure to broader macro trends.

 

Are There Drawbacks to the Platform Model?

While platforms have proven to be highly effective, they are not without challenges. The most significant risks include:

  • Complexity and Cost – Running a platform requires significant investment in infrastructure, technology, and talent, making it a costly endeavor.
  • Liquidity Risks – Platforms work best in highly liquid markets, but as they expand into less liquid strategies, challenges can emerge.
  • Platform Beta Risk – As platforms grow, they increasingly resemble one another, raising concerns that a market-wide deleveraging event could lead to correlated losses across the industry.

 

Not Every Strategy Is Suited for a Platform

Despite their growing dominance, platforms are not a one-size-fits-all solution. Certain strategies do not align well with the platform model, particularly those that require longer investment horizons or involve complex, illiquid positions. Examples include:

  • Less Liquid Credit Strategies – Many credit-focused hedge funds rely on long-term asset appreciation and cannot easily adjust exposures daily. This lack of liquidity makes them less compatible with the platform structure.
  • Lower Sharpe Strategies Like Global Macro – Global macro funds often involve high-conviction, discretionary trades that do not fit within the risk-controlled environment of a platform. The need for flexibility and the potential for long drawdown periods can make these strategies less viable in a tightly structured framework.
  • Generalist Investors – Extreme specialization is a defining feature of platform investing, which means that generalist fund managers—who rely on a broad, discretionary approach—may struggle to fit within the platform model. To illustrate this point, consider Warren Buffett—arguably the most successful investor in history. Despite his extraordinary track record, Buffett's approach of making concentrated, long-term investments based on fundamental business analysis would likely not fit within a modern platform structure, which demands more frequent performance evaluation and stricter risk parameters.

 

What Should Investors Consider Before Allocating to a Platform?

For investors evaluating hedge fund platforms, four key factors should be assessed:

  1. Playbook – What strategies does the platform focus on, and how does it construct a diversified return profile?
  2. Talent Acquisition Strategy – How does the platform attract and retain top-performing managers?
  3. Technology & Infrastructure – Does the platform have the necessary risk management and operational capabilities to support its strategies?
  4. Fee Structure – What percentage of returns is passed on to investors versus retained by the platform?
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Looking Ahead: The Future of Hedge Fund Investing

While platforms represent today's hedge fund pinnacle, the industry continues to evolve. AI and machine learning are gradually transforming investment processes and risk management, potentially enabling approaches that will enhance or challenge the current platform model. Meanwhile, the distinction between public and private markets is blurring, suggesting future hedge fund structures might seamlessly integrate both to capture opportunities across the liquidity spectrum.

Additionally, technological advances are democratizing access to sophisticated strategies, which may lead to new platform models with different liquidity profiles and fee structures designed for a broader investor base.

Final Thoughts

So, has hedge fund investing reached its zenith? Not quite. While platforms have revolutionized the industry, there is still room for innovation. Whether through advances in technology, alternative fee structures, or new investment strategies, hedge fund investing will continue to evolve in response to market forces.

If you're interested in exploring this topic further, be sure to listen to my full discussion on the Resonanz Spotlight podcast with Mark van der Zwan on YouTube, Spotify or Apple Podcasts.

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