Hedge fund operational due diligence since 2009.

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How formal is your hedge fund manager’s counterparty risk management process? 

At a hedge fund or any boutique asset manager, counterparty risk management is typically handled by the PM and the CFO, in that the PM selects the custodians and trading counterparties, and the CFO typically negotiates the terms and executes the counterparty agreements. When the relationships are up and running, the PM typically selects which counterparty to add risk to. For larger hedge fund managers, in the multi billion dollar range, there is often a more formal counterparty risk management process, whereby an analyst tracks credit spreads, stock prices, and company news in order to help management assess the ongoing credit risk of each counterparty. They may also have a dedicated trader who adds another layer of insight and decision making into selecting who the fund will add custody, repo, or ISDA counterparty risk to. At large credit and/or multi strategy hedge fund managers, one sometimes may find a dedicated treasurer in-house. This person is a typically a senior credit executive level professional with sell side treasurer experience, and this person leads the process of managing counterparty risk decisions supported by their often detailed credit risk assumptions of each counterparty.

The importance of counterparty risk management is real, and even heightened when financing, ISDA trading, and leverage is used by the fund. Terms and conditions should be assessed and compared to market in order to make a reasonable assessment of the counterparty and liquidity risk profile.  PRISM believes that counterparty risk management is an area of the operational framework that could use some improvement across the industry.

Hedge Fund and Private Equity Fund Operational Due Diligence

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