There are numerous risks associated with hedge funds, which employ various strategies to achieve capital appreciation for their investors. The SEC estimates that there are presently over 8,000 hedge funds today, and the SEC has expressed concern that these private investment funds, largely unregulated, need to be properly organized and managed in compliance with the numerous federal and state securities laws that apply.

Hedge funds are generally illiquid, use leverage and other speculative investment practices, and may involve complex tax structures and hedging techniques that are proprietary to the investment manager of the hedge fund. Disparate rules apply to hedge funds and certain private equity funds domiciled in different states. For instance, if a hedge fund's principal place of business is in California, it must register there as a California Registered Investment Adviser before it begins to conduct its business. A New York hedge fund need not.

Unlike hedge funds, other types of private equity funds such as funds of funds and buy-out, venture capital and real estate funds are typically longer term investments (with an investment cycle of ten to twelve years) that do not permit investors to redeem their interests during the term of the fund. Under current SEC regulations, the investment managers for such funds generally are not required to register with the SEC as investment advisers provided that they otherwise qualify for certain statutory exemptions from registration.

There are numerous documents necessary to form a hedge fund or a private equity fund, including a private placement memorandum, a limited partnership agreement (if the fund is a limited partnership) or an operating agreement (if the fund is a limited liability company), and investor subscription agreements. Private placement memoranda must contain risk factors and material disclosures about the investment manager and the strategy to be employed by the hedge fund.