Jurisdictions may be like funds in taking advantage of opportunities—the smaller ones act faster, adapt more quickly. About $3 trillion are managed in Luxembourg funds, says Pierre Reuter, a lawyer with the Luxembourg office of Benelux law firm NautaDutilh. Why Luxembourg?

The place is certainly not cheap, so there has to be another reason. It does not lack regulation. Luxembourg provides, where possible, a little more flexible regulation, taking advantage of European Union directives a bit earlier than other jurisdictions, according to Mr. Reuter. The domestic market is small. Promoters go there to raise capital globally.

Now that everybody is used to Luxembourg funds, they favor these structures. Since 2007 Luxembourg has had a separate category, specialized investment funds, for hedge fund, private equity and other private placement money raising from well-informed investors. The regulator is responsive to the players and takes more of a consensus approach, Mr. Reuter says.

But there is plenty of competition for hedge funds from other smallish European locations, from Ireland to Malta.

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