Hedge Funds Caving to Investor Demands on Fees

Managers are increasingly offering hurdle rates, sliding fees, “clawbacks,” and discounts, according to an AIMA survey.

Institutional investors have voiced their discontent over hedge fund fee structures—and the hedge funds are listening.

Hedge fund managers are adjusting their business models to offer arrangements better in line with investor interests, according to a survey by the Alternative Investment Management Association (AIMA).

The survey included 120 managers with assets ranging from below $100 million to more than $20 billion. Respondents said they are taking several measures to create fee structures that better appealed to investors.

For example, nearly all (97%) said they used a high watermark, meaning performance fees are only paid on net new increases in the fund’s asset value. Others (33%) offered a hurdle rate, or a minimum performance level required before charging incentive fees.

While two-thirds of managers reported that they did not employ hurdle rates, AIMA said its usage has increased “significantly” over the last few years.

The survey noted another emerging trend, “clawbacks,” a practice of allowing investors to take back incentive fees paid in profitable years if performance turns negative. Though the trend is “not by any means widespread,” AIMA said some investors and managers are exploring it.

Other more common practices included offering fee discounts in exchange for longer lock-up periods, rewarding early investors in the fund with cheaper founder share classes, and giving preferential terms to investors who make the largest allocations.

More than three-quarters (77%) said they offered or are considering implementing a tiered management fee structure, in which fees decrease as assets under management increase.

While more than 80% charged investors for service-provider costs and fund expenses such as audit fees and tax expenses, over 90% said they did not charge operating expenses such as employee compensation and regulatory reporting costs.

“Managers want to build sustainable businesses and investors want the right kind of performance at a fair price,” said Jack Inglis, AIMA CEO. “These are the interests that are being ever more closely aligned.”

Related: Hedge Funds Ramp Up Investor Incentives with Fee Discounts & Hedge Funds Buckling Under Fee Pressure, LP Apathy