© 2009 Corgentum Consulting, LLC
Hedge Fund Service Provider Due Diligence:
A Window Into Operational Risk
During the course of the hedge fund due diligence process investors run the very real risk of
falling prey to the notion that the scope of their due diligence need only be contained to the
hedge fund itself. Such an approach understates the nature of hedge fund operational risk.
Operational risk is both internal and external to a hedge fund. While the crux of any
operational due diligence review should indeed be a focused on the hedge fund organization
itself, much can be garnered from performing a review of a hedge fund’s service providers
including the administrator, auditor, custodian, prime broker and legal counsel. Particularly in
light of the lessons of Madoff and Galleon, considerations related to a hedge fund’s
exogenous risk environment, and in particular any risks which lie with its service providers,
can be just as important as those risks which lie within the hedge fund organization itself.
Investing In a Hedge When an investor allocates to a hedge fund manager they are necessarily going long the
Fund Is An Investment fund’s service providers. Without performing due diligence on these service providers
In Its Service Providers investors are effectively making an uninformed decision. Furthermore, it is ill advised to
simply rely on the quality of a certain service provider because of their size or market
reputation. In many instances, particularly with regards to hedge fund administration, the
actual individuals which service the hedge fund’s account on a daily basis may be the
determinative factor in the quality of such work being provided regardless of any
institutional fortitude supporting them. Additionally, the financial stability of a service provider
may also directly impact a hedge funds ability to obtain f