  This paper aims to extend downside protection to a hedge fund investment
portfolio based on shared loss fee structures that have become increasing
popular in the market. In particular, we consider a second tranche and suggest
the purchase of an upfront reinsurance contract for any losses on the fund
beyond the threshold covered by the first tranche, i.e. gaining full portfolio
protection. We identify a fund's underlying liquidity as a key parameter and
study the pricing of this additional reinsurance using two approaches: First,
an analytic closed-form solution based on the Black-Scholes framework and
second, a numerical simulation using a Markov-switching model. In addition, a
simplified backtesting method is implemented to evaluate the practical
application of the concept.
