Litigation finance — also known as legal financing or third-party litigation funding — is one of the most distinctive and uncorrelated alternative investments available today. Instead of backing companies or real estate, investors provide capital to plaintiffs pursuing lawsuits in exchange for a share of the settlement or judgment. Returns depend on legal outcomes, not market cycles, making litigation finance a unique diversifier within private credit and alternative assets.

This article explains how litigation finance works, why demand for it is growing, how returns are generated, and what risks investors need to understand before getting involved.

1. What Litigation Finance Is

Litigation finance involves a third-party investor providing capital to a plaintiff (or law firm) to fund a lawsuit. These funds can be used to cover:

• Legal fees
• Expert witnesses
• Discovery costs
• Court filings
• Operating expenses during lengthy trials

In return, the investor receives an agreed-upon percentage of any settlement or judgment.

If the case is unsuccessful?

The investor typically receives nothing.

This non-recourse structure introduces high risk — but also the potential for high, uncorrelated returns.

2. Why Litigation Finance Is Growing

Litigation finance has expanded dramatically over the last decade due to structural changes in the legal and financial industries. Several major forces are behind this growth.

A. Legal Costs Are Rising

Modern lawsuits — especially commercial disputes, intellectual property claims, and class actions — can cost millions of dollars to pursue. Many plaintiffs simply cannot afford to continue litigation without financial support.

Litigation funding fills that gap.

B. Law Firms Prefer Non-Recourse Financing

Contingency fee arrangements place heavy financial strain on law firms, who must front enormous costs and wait years for resolution.

Litigation funders allow firms to:

• Take more cases
• Smooth cash flow
• Reduce risk on high-cost litigation

C. Courts Are Accepting the Model

As the industry grows, courts and regulatory agencies have gained familiarity with litigation funding. In many jurisdictions, it is now a fully accepted practice — with rules governing disclosure and conflicts of interest.

D. Investors Want Uncorrelated Returns

Litigation outcomes depend on legal merit, not:

• Interest rates
• Stock market volatility
• Real estate cycles
• Commodity prices

This makes litigation finance one of the few alternative assets with almost zero correlation to traditional markets.

E. Massive Opportunity in Class Actions

Class actions create some of the largest payouts in the legal system, especially in:

• Consumer protection
• Environmental damage
• Securities fraud
• Pharmaceutical liability
• Data breaches

These cases require significant upfront capital — creating investment opportunities with asymmetric payoff profiles.

3. How Litigation Finance Works

Although the structure varies by fund or platform, the typical process follows four general steps.

Step 1: Case Evaluation

Litigation finance firms conduct deep due diligence, analyzing:

• Strength of legal claims
• Precedent and probability of success
• Damages estimate
• Quality of legal counsel
• Defendant financial strength
• Jurisdiction and legal timelines

This due diligence requires legal expertise combined with financial modeling.

Step 2: Funding Agreement

If the fund is confident in the case, it offers the plaintiff (or law firm):

• A non-recourse advance
• A negotiated share of future proceeds
• Funding for legal expenses
• Sometimes additional working capital

Funding agreements are highly customized.

Step 3: Active Case Monitoring

Litigation funders stay updated on:

• Motions
• Hearings
• Discovery developments
• Settlement negotiations
• Procedural changes

However, they do not control litigation strategy — that remains with the attorneys.

Step 4: Resolution and Payout

If the plaintiff wins or agrees to a settlement, the funder receives:

• A percentage of the award
• Or the agreed-upon return multiple

If the case is lost:

• The funder loses its investment
• The plaintiff owes nothing

This high-risk, high-reward structure is why litigation financing yields can be substantial.

4. Types of Litigation Finance Investments

There are several categories of litigation financing, each with unique risk/return characteristics.

A. Commercial Litigation Funding

Funds support large-scale business disputes, including:

• Contract breaches
• Intellectual property (IP) litigation
• Trade secrets cases
• Antitrust disputes

These cases often involve millions in potential damages and multi-year timelines.

B. Class Action Funding

Class actions require enormous capital and typically involve:

• Consumer groups
• Environmental harm
• Securities violations
• Employment disputes

While riskier and slower to resolve, class actions can produce extremely large settlements.

C. Portfolio Funding

Rather than financing a single case, funders invest in a bundle of cases handled by a law firm.

Benefits:

• Spreads risk
• Reduces binary outcomes
• More predictable return streams

Portfolio funding has become the core strategy for many institutional investors.

D. Pre-Settlement Consumer Funding

This is the retail-facing version of litigation funding.
Investors fund plaintiffs in personal injury or workplace injury cases.

Returns can be high — but so is individual case risk.

E. Law Firm Financing

Some funders provide capital directly to law firms to:

• Expand operations
• Hire staff
• Manage large cases
• Smooth uneven cash flow

This is often structured as secured lending with downside protection.

5. Why Litigation Finance Is Attractive to Investors

Investors allocate to litigation funding for several reasons:

A. High, Uncorrelated Returns

Returns are typically not tied to interest rates or stock market performance.

B. Asymmetric Payoffs

A single large case can generate an outsized return relative to capital deployed.

C. Strong Diversification Benefits

Litigation finance provides exposure to a completely different economic engine — the legal system.

D. Shorter Duration in Some Cases

Not all cases take years; many commercial cases settle within 12–24 months.

E. Increasing Institutional Adoption

Pension funds, sovereign wealth funds, and endowments now allocate to litigation finance as a standalone alternative asset class.

6. Key Risks Investors Must Understand

Despite its appeal, litigation finance carries substantial risks. Investors must approach it with realistic expectations.

A. Binary Outcomes

Cases can be won or lost — meaning investors may receive:

• A large return
• Or nothing at all

B. Long and Unpredictable Timelines

Even strong cases can take years to resolve.

C. Legal and Regulatory Risk

Changes in disclosure rules or funding regulations can impact returns.

D. High Due Diligence Requirements

Success depends on accurately assessing legal merit — something that requires specialized expertise.

E. Liquidity Constraints

Most litigation finance funds:

• Are closed-end
• Have multi-year lockups
• Offer no early redemptions

This is a long-term investment.

7. What Investors Should Evaluate in a Litigation Finance Manager

Before allocating capital, consider the following:

A. Track Record of Case Underwriting

Experience in:

• Commercial litigation
• IP disputes
• Class actions
• Portfolio cases

Matters far more than fund size.

B. Diversification Strategy

The best managers:

• Avoid concentration
• Build portfolios across legal categories
• Manage cases with staggered timelines

C. Legal Expertise

Top litigation funders employ:

• Former litigators
• Legal analysts
• Industry specialists
• Financial modelers

Expertise is everything in this asset class.

D. Fee Structure

Understand:

• Return multiples
• Carried interest
• Waterfall structures
• Case-level vs portfolio-level fees

E. Alignment With Plaintiffs and Law Firms

Look for transparent, ethical funding structures that avoid conflicts of interest.

Conclusion: Litigation Finance Is a High-Conviction, High-Expertise Alternative Asset

Litigation finance stands apart from other alternative investments. It offers:

• Unique return drivers
• True diversification
• High potential yields
• Access to one of the most resilient economic systems — the legal system

But it also demands:

• Patience
• A high risk tolerance
• Confidence in a skilled manager
• Understanding of legal complexity

For investors willing to embrace a specialized, non-market-correlated asset class, litigation finance can be a powerful addition to a diversified portfolio.