Portable alpha strategies: Legal and structural considerations

While insurance dedicated funds and rated feeders dominated specialized fund formation activity in the hedge funds market throughout 2025, portable alpha strategies are of growing interest. Favored by certain sovereign wealth investors looking for one-stop-shop solutions, they allow investors to simultaneously capture alpha and beta returns within a single investment vehicle. We expect to see more demand for them in 2026.

Portable alpha strategies allow investors to capture alpha and beta returns within a single investment vehicle.

Understanding portable alpha

The term “portable alpha” is something of a misnomer. Rather than truly “porting” alpha, these strategies import beta market returns using swaps or futures from one investment source and combine those returns with alpha exposure from the manager’s actively managed fund(s).

Portable alpha is increasingly relevant in today’s investment landscape, with clients frequently inquiring about its implementation and structure. These strategies are designed to allow investors to enhance returns by capturing alpha independently while maintaining traditional market exposure via beta returns.

Structural options and risk considerations

Structuring portable alpha strategies involves balancing efficiency against fiduciary and legal risks. One key concern from a structuring standpoint is contagion risk, or the possibility that adverse movements in beta exposure might spill over and impact the alpha component.

Three principal structural approaches exist to deliver these strategies. First, managed accounts and funds-of-one present few legal or fiduciary issues and are easy to set up. They do, however, bring in additional costs and complexities when replicating alpha trades, and the only capital used to support the beta exposure is the single investor’s capital.

Another option is the class structure, which is the most cost-efficient option because everything resides in the same fund. Simply creating a new class presents the most contagion risk of the three options due to the proximity of the alpha and beta components.

Finally, separate feeder funds are also being used, which can provide a balance between legal risks and capital efficiency, especially if some amount of cash is held back at the feeder fund or intermediate fund level. While cross-class risk can still raise concerns with a separate feeder fund model, the cash provides a cushion should the beta component need additional capital during market turmoil.

Mitigating fiduciary risks

If a manager builds a fund-of-one for an investor to employ their portable alpha program, no novel fiduciary issues will be presented. However, if a manager seeks to bolt on a portable alpha program to an existing fund, important fiduciary concerns must be addressed because some (or all) of the remaining investors will not participate in the portable alpha strategy. The risk would be the potential for the portable alpha strategy to impact the existing fund and its investors in some adverse way.

Fund managers employ various approaches to address fiduciary concerns in these strategies, including limiting the size of portable alpha classes or feeders to control exposure, implementing fee arrangements where portable alpha investors compensate other investors for structural benefits, or establishing clear margin call procedures.

Managers must also document risk disclosures comprehensively. However, these measures only mitigate – and cannot eliminate – the inherent risks of these portable alpha strategies.

Fee structures and new trends

Fee arrangements for portable alpha strategies remain nonstandardized, reflecting their evolving nature. Some managers apply traditional hedge fund fees solely to the alpha component while others charge fees on net returns across the entire structure. We also see the use of hybrid approaches, with incentive fees on alpha and management fees on both components. Managers will need to ensure offering documents accurately reflect the fee calculation methodology.

One new trend is the offering of multiple beta options by managers. Each investor can choose which beta they wish to import and blend into their alpha returns. The manager must structure these options carefully to avoid cross-class liability, which could be created between classes in a single legal entity.

As these strategies continue gaining traction, market standards remain fluid and structures reflect the bespoke requirements of managers and investors.

The evolution of separately managed accounts

Separately managed accounts (SMAs) have undergone a profound transformation in recent years, evolving into an essential component of the fundraising and investment management landscape. As portfolios of securities managed on behalf of single investors, SMAs give investors direct ownership and custody of underlying securities.

Investment managers of varying sizes, vintages, and investment strategies now routinely manage significant amounts of capital in SMAs. This represents a marked shift over the past decade, prior to which SMAs were often viewed as secondary to commingled fund structures and funds-of-one.

While capital providers such as seed and anchor investors previously invested primarily in commingled fund structures (with side letters), they now frequently deploy capital via SMAs. We also see large investors in commingled funds negotiating for a right to convert some or all of their commitment to an SMA.

The use cases for SMAs have also expanded dramatically. These vehicles have become extraordinarily common in securing initial capital for emerging managers, and large multistrategy managers often use these structures to deploy significant capital to external managers to fill strategy gaps.

Further, while SMA structures are often best suited to liquid strategies, such as investments in publicly traded securities, they are now being considered for, and utilized in, more co-investment structures and less liquid strategies. That is something we did not see a decade ago.

Legal and commercial considerations

One reason for the growing adoption of SMAs has been the market shift to align liquidity terms, including termination rights and the ability to decrease notional trading value, with those of parallel commingled funds and other SMAs.

Historically, SMA clients often demanded preferential liquidity compared to parallel commingled funds, creating fiduciary complexities and operational challenges for managers. Now, more aligned liquidity terms are more commonly agreed, reducing the risk of misalignment and ensuring fair treatment across investor types.

The contractual terms of SMAs have also become more sophisticated. Parties now devote significant attention to leverage and financing mechanics, including how the cost of financing is allocated and how those costs are factored into management and performance fees.

Expense allocation is another area of focus. Historically, SMA investors often paid fewer expenses than their commingled fund counterparts, leaving managers to absorb the shortfall. That is no longer the case. We have also seen an increasing customization of how fees are calculated, including hurdle rates, which may be gauged against benchmark or absolute returns.

The SMA has evolved into a flexible, institutionally accepted investment structure that is attractive to both asset managers and investors. Whether as part of launch capital, a platform deployment tool, or a bespoke co-investment arrangement, we believe they will remain popular, offering tailored solutions in an increasingly complex investment landscape.

Conclusion

As we move into 2026, we expect more demand for portable alpha strategies that allow investors to capture both alpha and beta returns. Sovereign wealth investors looking for one-stop-shop solutions prefer portable alpha strategies because they can be structured in several ways to address different cost and risk concerns.

SMAs will also continue to be a popular tool, as investors increasingly seek bespoke arrangements as they deploy capital into private markets. With the terms of SMAs evolving and being hotly negotiated, managers will be paying close attention to market trends.