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FRM Part II · FRM Exam Part II · Risk, Regulation and Organizational Structure

An investor performing operational due diligence on a fund finds that the fund's auditor is a small unknown firm, the administrator is affiliated with the manager, and the CFO is the manager's spouse. Which concern is most significant from an organizational-structure perspective?

The most significant concern is the lack of independence among service providers. An affiliated administrator, a related-party CFO and an obscure auditor mean no credible outside party verifies NAV or asset existence, which leaves the fund exposed to misreporting and fraud.

  1. AThe fund's performance fee is above the industry average
  2. BThe service providers lack independence, weakening external checks on reported NAV and assetsCorrect
  3. CThe fund uses a master-feeder structure
  4. DThe fund reports returns monthly rather than daily

Explanation

Affiliated administrator, family-linked CFO and an obscure auditor remove independent verification of assets and NAV, a classic fraud red flag as in the Madoff case. Fee level, structure and reporting frequency are not independence failures.

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