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Introduction and Overview of 40 Act Liquid Alternative Funds
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The second category of ’40 Act funds to consider are
closed-end funds, or CEFs. These are the most flexible
in terms of investment restrictions, making them the
closest in structure to privately offered hedge funds.
There are three types of CEFs considered bymanagers
of alternative investment products. Exchange-traded
and continuously-offered interval funds are formed
as investment companies (either as a corporation
or as a unit trust). The third type of CEF is formed
as a Business Development Company, or BDC. The
main characteristics of these funds are described in
Chart 4 below.
Alternative Exchange-Traded Funds
Alternative ‘exchange-traded’ closed-end funds
that offer hedge fund-like strategies are a sub-
set of the larger family of exchange-traded fund
products (ETFs). The majority of ETFs are closed-end
mutual fund structures that trade daily on the stock
exchanges and track indices by investing in baskets of
securities. The recent wave of ‘alternative’ ETFs does
not track benchmarks; rather than tracking an index,
they target delivering absolute returns.
These alternative ETF funds raise an initial amount
of capital at inception via an IPO and can then invest
in a range of equity-, bond-, or commodity-related
strategies that are unconstrained and can include
short selling and portfolio leverage (up to 33% of the
value of the portfolio). Each alternative ETF would
pursue its own unique strategy, such as a bear market
fund, a non-traditional bond fund or a commodity ETF.
Secondary trading in alternative ETF shares occurs
when the market is open as if they were stocks or
bonds, but there is no redemption of the original
capital raised. For this reason, many view these as
permanent capital vehicles. The alternative ETF
structure is illustrated in Chart 4. Like the open-end
mutual funds, these products offer 1099 tax reporting
to investors.
Section III: Overview of Alternative Closed-End Funds
Chart 4: Alternative ETFs
Chart 4
Alternative ETFs
Alternative ETF -
Registered Investment Company
Security Listed on Public Exchanges
Key Service
Providers
Independent Board
of Directors
Investment Manager
Single Pool of Assets
Investment Adviser
Distribution Agents
Key Service
Providers
Administration
Issuer via IPO
Primary Market
Capital Raise
Executing
Brokers
Prime
Brokers
Custodian
Investor
Services
Trading & Financing Counterparties