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FRM Part II · FRM Exam Part II · Performing Due Diligence on Specific Managers and Funds

An investor reviewing a hedge fund's liquidity terms wants to limit the risk that early redeemers gain at the expense of remaining investors during stress. Which term would most directly address this concern?

A redemption gate best addresses first-mover advantage because it caps withdrawals at each dealing date, limiting forced sales of liquid assets and protecting remaining investors from being left with an illiquid portfolio. Shorter notice, fee changes or unaudited marks do not manage this mismatch.

  1. AA higher management fee with no performance fee
  2. BA redemption gate limiting total withdrawals per dealing date to a percentage of fund capitalCorrect
  3. CA requirement that the manager's marks be unaudited
  4. DA shorter redemption notice period than the liquidity of assets

Explanation

Gates cap redemptions per period, reducing forced fire sales and preventing first movers from draining liquid assets and leaving the rest with illiquid holdings. Shorter notice worsens the asset-liability mismatch. Fee structure and unaudited marks do not address redemption fairness.

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