Somewhere Down There
Something something hedge funds and private equity.
This is a filing to register a new non-listed closed-end fund that’s effectively a private placement available to accredited investors.
Boring, but the reason this filing caught my attention is because, unlike a lot of filings to register a new closed-end fund, it disclosed an expense ratio. And it’s a doozie: 7.38%.
That’s really high even for a non-listed closed-end fund. So I started digging. As it turns out, the new closed-end fund, Destiny Alternative Fund, will replace an existing registered fund, Destiny Alternative Fund LLC, that’s being merged into the new closed-end fund once it launches. The new fund will be virtually identical* to the existing LLC, so it appears to mainly be a change in legal and tax structure.
The LLC is a “master” fund. It receives assets from at least one registered “feeder” fund, Destiny Alternative (TEI) LLC, via an unregistered offshore fund, Destiny Alternative Fund Limited, that the feeder allocates its assets to.
The master fund, Destiny Alternative Fund LLC, then pours most of those assets into an array of unregistered hedge fund, private equity, and venture capital limited partnerships. Some of those LPs, in turn, might allocate their assets to other LPs.
So here’s what the org chart looks like from the standpoint of an investor in the feeder fund:
Needless to say, this is bonkers.
I couldn’t seem to find an expense ratio for the current master fund (annual report shows it charged 2.30%** for year ended Mar. 31, 2025, but that excludes the fees its underlying LP holdings levied), so figure it’s somewhere north of 7%, which will be the new master fund’s expense ratio. It looks like the feeder also charges a fee of around 0.66% (i.e., the difference between the feeder’s and the master’s total return over the year ended Mar. 31, 2025). That’s about 8% in annual fees right there.
(This still probably understates the fees being incurred by feeder fund investors. If some of the master fund’s LP holdings are in turn allocating to other LPs, it’s possible the fees charged by those underlying LPs are netted against returns. This would also apply to the master fund’s investments in private equity and venture LPs, which have been known to saddle portfolio companies with various financing and other costs.)
Predictably, those massive fees throttled returns: The feeder fund reported gaining 9.2% per year from its June 30, 2022 inception through Mar. 31, 2025, the date of its most recent annual report. That beat bonds (+2.3% p.a.) and cash (+4.7% p.a.) but badly lagged the S&P (+17.2% p.a.) and the U.S. 60/40 mix (10.7% p.a.).
(Note the returns I’ve quoted for the Agg and S&P don’t match the table shown above—which is a screencap from the fund’s most recent annual report—because it appears the fund reported the wrong figures for those benchmarks in the report.)
These are accredited investors. Big boys and girls, as it were. But it’s hard to look at this and conclude anything other than that they’re getting hosed for “access” to some of the more sought-after hedge fund and private equity managers. That access is so byzantine and costly that they’d almost certainly be better off keeping it simple, allocating to low cost index funds and calling it a day.
Somewhere down there these investors’ assets find a productive use. But it’s an awfully long and circuitous route to take for some bragging rights.
Endnotes:
* The board’s rationale for the merger is a study in self-reinforcing logic. In recommending it, the board states that combining the funds “is expected to promote efficiencies in distribution and economies of scale”. This despite the fact that the merger will yield no cost savings to investors for the foreseeable future. Making matters worse, the potential for “efficiencies in distribution and economies of sale” was invoked to justify sticking investors in the two funds with $275,000 in merger-related costs.
As the Members of each Fund are expected to benefit from the Reorganization, the Fund and the Acquiring Fund will each bear its pro rata portion of the expenses of the Reorganization, which are estimated to be approximately $275,000.
** The fund’s fees actually came out to 2.07%, excluding acquired fund fees. However, the manager, First Trust Capital Management, saw fit to recoup $80,308 of “previously waived fees and reimbursed expenses”, which added another 23 basis points to the expense ratio.
The views and opinions expressed in this blog post are those of Jeffrey Ptak and do not necessarily reflect those of Morningstar Research Services or its affiliates.
Thanks for doing all this homework. A question if you don’t mind:
This is for an unlisted fund for accredited investors, right? I spent my career in retirement plans (pension actuary) and am wondering if these multiple layers of fees is what we’ll see if 401(k)s start investing meaningfully in alts. As I understand things, that would likely be effectuated with semi-liquid/evergreen alts funds used inside a target date fund. Would those evergreen funds have similar layers and levels of fees, do you think? (And then you’d add a small amount for the TDF.)
Heartening to see how the gardens of hedge funds and PE is getting nurtured through elaborate and intricate money channels.