The Wall Street Journal published an excellent summary of the challenges faced by hedge funds in 2008 a few days ago (available here.)
"One looming problem for many hedge funds is the amount they still hold of hard-to-trade assets, such as loans, real-estate holdings and stakes in small, private companies. These illiquid investments at one time accounted for 20% of some fund portfolios, estimated to total about $400 billion. As financial markets have come under pressure, it has become much harder to get out of these investments, or even to value them accurately. That could hurt hedge funds as they try to attract new investors in 2009.
"Auditors do not, contrary to popular assumption, control a fund's valuation policy; management does," said Espen Robak. "An auditor auditing five different funds may sign off on five different valuations for a single investment."
"On this point, investors should also remember that the auditors of underlying hedge funds are not responsible for those funds' accounting policies: those, too, are set by the management of the underlying fund. As such, different funds holding the same security, audited by the same audit firm, may well hold that same security at different prices, yet still receive unqualified audit opinions. The auditors are not, to be clear, imposing any form of pricing standardization or consistency: the auditors do not have a central master pricing file that they force all hedge funds to use."