COVID-19 is having a widespread impact on financial markets and the global economy as businesses struggle with the disruption caused. Falling values across various asset classes are likely to reduce the overall net asset value of many hedge funds with net long positions. Investors may seek to redeem their investments in order to fulfill their own financial commitments and/or because of loss of confidence in the fund. This may lead to a rush of redemption requests and funds being unable to meet redemption requests in the usual way. A difficult balance may need to be struck between protecting the rights and interests of individual investors whilst trying to maintain the value and future viability of the fund for the benefit of the broader investor base. This article discusses some of the options available to BVI hedge funds facing a run on redemptions.
Hedge funds are collective investment vehicles which pool subscription capital from investors and invest it according to a particular investment strategy or strategies. Many hedge funds are organised as two or three-tier structures (feeder funds and master funds) with the offshore fund vehicles incorporated primarily in the British Virgin Islands or the Cayman Islands (sometimes with an onshore feeder fund, such as a Delaware limited partnership, for a US investor base). The investors enter the structure through the feeder funds, which in turn channel funds into the master fund which makes the underlying investments.
When financial markets crash (as in 2008), or suffer significant losses, investors may seek to redeem their investments in the feeder funds for a variety of reasons including: fulfilling their own financial commitments, cutting their losses following a loss of confidence in the fund, investing elsewhere and changing investment strategy. This can put immense pressure on the fund as it struggles to maintain its value and future viability when experiencing a run of redemption requests. Investors who elect to redeem out of the fund generally rank as creditors of the fund during the period between redemption of their fund interest and payment of the redemption proceeds. As creditors of the fund they rank above the other remaining investors (who rank as shareholders), and the fund may face being wound up.
There are a range of options available to hedge funds with their offshore companies incorporated in the British Virgin Islands. The first point to note is that the company’s articles of association will set out the particular basis on which its shares may be redeemed and there are also statutory limitations on the process. This article is not an exhaustive guide to every particular process as each company’s constitutional documents will have to be reviewed in detail on a case-by-case basis and the statutory rules applied. Urgent legal advice should be sought in all instances in which a fund faces (or anticipates that it may soon face) a litany of redemption requests. Here we set out some options that have been commonly used by BVI hedge funds facing a rush of redemption requests.
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Options for BVI Hedge Funds Fearing a Rush of Redemptions in Light of the COVID-19 Pandemic