Allocating capital to a third-party fund — whether private equity, hedge funds, venture capital, private credit, or real estate — requires a deeper level of due diligence than analyzing the underlying assets themselves.
Why?
Because the manager is the product.

The strategy, the risk controls, the culture, the operational infrastructure, the team — these determine whether your investment succeeds or fails. A brilliant strategy in the hands of a weak manager is still a bad investment.

This article presents a comprehensive fund due diligence checklist, mirroring the framework used by pensions, endowments, sovereign wealth funds, and top-tier family offices.
Every item on this list is a critical datapoint for assessing fund quality and avoiding hidden risks.

1. Understanding What Fund Due Diligence Really Means

Fund due diligence is an evaluation of the manager, their strategy, and their ability to execute.
It covers:

• investment philosophy
• risk management
• operational infrastructure
• financial stability
• fee structure
• transparency
• governance
• alignment with LPs
• historical performance
• team quality

A fund can only be as strong as the system behind it.

2. The Five Pillars of Fund Due Diligence

Professional allocators analyze funds through five core pillars:

1. Strategy & Mandate

2. Team & Governance

3. Investment Process

4. Performance & Track Record

5. Operations, Compliance & Risk Management

Within each pillar are specific questions and red flags.
Let’s break them down.

3. Strategy & Mandate

A. What is the fund’s strategy?

• Buyout, venture, long/short equity, private credit, macro, real estate, etc.
• Is it clearly defined and consistently applied?

B. What is the investment universe?

• Geography
• Sector focus
• Deal size
• Asset type
• Liquidity profile

C. What is the competitive edge?

Does the manager have:

• proprietary sourcing?
• specialized expertise?
• unique technology or analytics?
• superior operator networks?

D. Is capacity reasonable?

Some strategies lose alpha as AUM grows.
Understand when the fund becomes too large to perform.

Red Flags

• Vague mandate
• Strategy drift
• No clear edge
• Capacity far above realistic market opportunity

4. Team & Governance

A. Team Structure

Evaluate:

• senior leadership
• division of responsibilities
• analyst and associate pipeline
• turnover history

B. Key-Person Risk

Does the strategy depend on a single star manager?
If that person leaves, does the firm fall apart?

C. Incentives & Alignment

Important questions:

• How is the team compensated?
• Do they invest personal capital in the fund?
• Are incentives tied to long-term results?

D. Culture

Is the environment:

• disciplined?
• ethical?
• collaborative?
• stable?

Red Flags

• Constant turnover
• Overreliance on one person
• Misaligned incentives
• No co-investment from GP

5. Investment Process

Sophisticated investors want clarity on how decisions are made.

A. Sourcing

Where do deals or ideas come from?

• proprietary networks
• industry relationships
• data systems
• intermediaries

B. Underwriting / Analysis

• research methodology
• valuation discipline
• due diligence scope
• scenario modeling
• sensitivity analysis

C. Position Sizing / Capital Allocation

• how are investments sized?
• how is risk balanced across the portfolio?

D. Execution

• how deals are negotiated
• speed and certainty of closing
• governance rights

E. Portfolio Monitoring

• frequency of review
• KPI tracking
• problem intervention process

Red Flags

• No documented process
• Decisions made by instinct, not analysis
• Lack of repeatability
• No formal risk controls

6. Performance & Track Record

A. Historical Returns

Evaluate:

• gross vs net returns
• IRR, MOIC, TVPI, DPI
• returns across cycles
• consistency

B. Benchmarking

Does performance exceed:

• public market equivalents?
• strategy-specific benchmarks?
• peer funds from similar vintages?

C. Attribution

Where did returns come from?

• beta exposure?
• leverage?
• market timing?
• genuine alpha?

D. Loss Rate / Write-Off Rate

For VC & PE:

• what % of investments failed?
• how concentrated are winners?

E. Persistence

Do past results predict future capability?

Red Flags

• performance driven by a single large win
• heavy reliance on leverage
• inconsistent vintage-year returns
• excessive write-downs

7. Fees, Terms & Alignment

Evaluate:

• management fee
• performance fee / carried interest
• hurdle rate
• catch-up structure
• GP commitment
• liquidity terms
• redemption rights (for hedge funds)
• fund expense policy

Questions to ask:

• Are fees justified by strategy complexity?
• Are terms aligned with long-term performance?
• Are expenses charged fairly between fund and GP?

Red Flags

• Hidden fees
• Excessive fund expenses
• GP investing no personal capital
• Opaque reporting

8. Operations, Compliance & Risk Management

This pillar determines whether the fund is capable of running safely.

A. Service Providers

Who is the:

• auditor?
• fund administrator?
• legal counsel?
• custodian?

High-quality providers = lower operational risk.

B. Valuation Policies

Especially important for illiquid holdings:

• Are valuations independent?
• Are methods consistent?

C. Compliance

• internal controls
• regulatory registrations
• Code of Ethics
• personal trading restrictions

D. Risk Management Framework

Evaluate:

• leverage controls
• concentration limits
• liquidity stress testing
• hedging policies

Red Flags

• no independent administrator
• weak or unknown auditor
• lack of risk oversight
• opaque valuation methods

9. Transparency & Reporting

Investors should understand:

• portfolio holdings
• performance attribution
• risk metrics
• fund-level financials
• audit results

Better transparency = stronger investor protection.

Red Flags:

• inconsistent reporting
• unexplained valuation changes
• resistance to LP inquiries

10. Legal Structure & Documentation

Review:

• Limited Partnership Agreement (LPA)
• Private Placement Memorandum (PPM)
• Subscription documents
• Side letters

Focus on:

• investor rights
• withdrawal/redemption rules
• indemnification language
• key-person clauses
• conflict-of-interest policies

11. Red Flags That Indicate “Do Not Invest”

• inconsistent or manipulated performance reporting
• poor responses to due diligence questions
• major compliance violations
• inexperienced team running complex strategies
• weak service providers
• no independent valuation
• excessive leverage
• cultural issues in the organization
• lack of transparency
• unclear investment process

One major red flag is enough — fund selection is asymmetric:
avoiding bad managers matters more than finding perfect ones.

Final Takeaway

Fund due diligence is one of the most critical responsibilities of any serious investor.
The goal is not just to find good managers — it’s to eliminate unacceptable risk.

A robust due diligence checklist examines:

• strategy
• team
• process
• performance
• operations
• governance
• alignment
• transparency

In alternative investing, the manager IS the asset.
Understanding their capabilities, controls, incentives, and integrity is essential for protecting capital and generating strong long-term returns.