What is a Gate Provision?
A gate provision is a declaration in a fund’s offering documentation that allows the manager to limit or stop redemptions. The prospectus or offering documentation may specify gate provisions, such as redemption restrictions or halts.
Gate measures aim to avoid a run on a fund, particularly one with illiquid assets that are difficult to redeem rapidly. Regardless of the conditions or the advice, it is up to the fund’s management to determine whether or not to employ the gate provision.
Knowing Gate Provisions
Gate provisions limit redemptions and prevent fund runs. While hedge funds hold complicated investment instruments, unwinding positions may be time-consuming. The fund offering includes a gate feature to prevent redemption requests from triggering liquidation in a lousy market.
The Gate Provision in Action
When using the provision, fund managers must notify investors in writing. The notification explains why the provision is needed and how much investors can redeem. Despite being in most fund papers, activating the gate clause is severe and typically requires an attorney. Fund managers can apply a gate provision at their discretion, so investors who lose money can dispute their judgment.
Gate provisions don’t always affect all investors equally. Institutional investors and selected clients may have a side letter with the fund, ensuring their funds are never locked in. Because gate provisions don’t protect most of the fund’s capital, several hedge funds have deleted them.
Famous Gate Provision Example
In most cases, gate provisions in funds result in adverse outcomes. A fund manager occasionally employs the provision to guarantee cash flow during an essential plan portion.
In the movie “The Big Short,” Michael Burry delays making his bet on the housing market until the mortgage market crashes by employing a gate clause to prevent redemptions. His investors made significant returns due to his use of the provision. According to all reports, the announcement about the gate provision was highly upsetting for everyone.
