Side Pockets

by fundsacademy.com

What is a Side Pocket?

• a type of account used by hedge funds to separate illiquid investments from other more liquid assets

What happens to the funds?

• investors at the time of the creation of the side pocket will be entitled to a share of the proceeds of the side pocket when it is eventually realized

Why are side pockets created?

• Typically side pocket investments are hard to value and do not even have a comparable security/ assets that can be used to price them against

• When this occurs the fund can decide to create a side pocket in order to allow time for the position to be unwound

How are shareholders affected?

• Existing: Issued shares in new side pocket vehicle

• Redeeming: Receives liquid portion now and side pocket share when side pocket realized

• New: No entitlement to side pocket

Considerations when creating a side pocket?

• existing shareholders will receive a pro-rata share of the new class

• documentation of the fund should be amended

• new class of shares will be valued on each dealing day

Some issues around side pockets:

• Some parties feel side pockets are just another way of protecting manager's fees by putting certain investments into a magic box -never to be seen again.

• Complex issues have arisen surrounding the crystallisation of performance fees and the adjustment of High Water Marks. This just serves to highlight the potential conflict of interests that may emerge over time.

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