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Hedge Fund Fee Structure Study eVestment Alternatives Research August 2013 Hedge Fund Fee Structure Study Figures 1-2: Average management and incentive fee by strategy and fund inception date Overview The eVestment alternatives database contains information on hedge fund and fund of hedge funds (FoHF) returns, assets under management, and a wide range of qualitative characteristics. Our commercial dataset, which includes both currently active and liquidated funds, covers over 23,000 products. The following study investigates historical trends in fee structures based on product inception. 1.9% 1.7% 1.5% We utilize three time frames separated by periods of high industry churn: pre- 1.3% 2002, 2002 to 2007, and post-2007. Average hedge fund management fees have increased from 1.38% pre-2002 to 1.55% in the pre-financial crisis lull and finally to 1.58% post-2007. Fund of hedge funds management fees have decreased over the years, averaging 1.32% pre-2002 to 1.28% from 2002-2007 to 1.26% post-2007. Although the current 1.1% 0.9% trend seems likely to continue for some time, this should shift given rising management fees for underlying funds must be funded to some degree by stable revenue from funds of hedge funds’ end investors. Aggregate changes in incentive fees have shown an inverse relationship to Pre-2002 changes in management fees. Average incentive fees were 19.82% for hedge 2002 - 2007 Post-2007 funds which launched before 2002. Incentive fees from the 2002 – 2007 period decreased to an average of 19.58% and fell again to 19.25% after 2007. Price 21% 13.0% 20% 12.5% 19% 12.0% 18% 11.5% 17% 11.0% competition among hedge funds seems to have manifested on the incentive fee side while demand for institutional infrastructure has subtly raised management fees since the financial crisis. Funds of hedge funds raised incentive fees from 11.13% prior to 2002, to 11.47% from 2002-2007, and to 12.73% after 2007. Average fee structure data for fund of hedge fund products may be misleading in some respects; formal studies and anecdotal evidence suggest an increase in willingness from FoHF firms to cater to their clients via bespoke solutions and negotiable fee structures. We posit the emergence of a two tiered client base for FoHF firms with the bifurcation caused by larger allocators’ supplier power and FoHF firms’ attempts to maintain margins. Institutional investors continue to command flexibility in the structure of their allocations and are generally not constrained to the average fees of commingled FoHF products. Price-taking smaller investors have benefited from increased competition among FoHF houses on the management fee side, but contribute indirectly, via higher incentive fees, to the marginal dollar offset for the increased infrastructure costs Pre-2002 of FoHF firms’ bespoke services. © eVestment, LLC - All Rights Reserved 2002 - 2007 Post-2007 1 Hedge Fund Fee Structure Study Figures 3: Percentage of currently active funds with specific fee structures Strategy-Specific Analysis 2 & 20 1.5 & 20 Other 32.8% 35.0% 25.5% 39.6% 36.0% 47.2% 26.2% 52.4% 37.9% 28.7% 44.4% 23.9% 45.0% 24.1% 35.4% 26.0% 17.6% 34.1% 4.5% 23.6% 19.1% 28.6% 43.4% 20.0% 50.4% 25.0% 38.0% 35.2% 39.7% 43.2% 38.6% 52.2% 27.0% 1.5 & 10 1 & 10 Other 9.0% 20.9% 70.1% On a strategy basis, changes in fee structures have varied as seen in figure 2. All Hedge Funds Convertible Arbitrage Credit Strategies Distressed Event Driven/Special Situations Global Macro Long Short Equity Managed Futures Multi-Strategy Non-Directional Equity Securitized Credit hedge fund strategies, with the exception of managed futures, experienced different degrees of increasing management fees moving from the pre-2002 period to the 2002-2007 period. Movement in incentive fees were mixed across both strategies and periods. Credit strategies saw a sharp drop in the most recent period in both average management and average incentive fees. Distressed and securitized credit funds experienced rises in average management and incentive fees in the post-2007 time frame; we note that the number of new distressed funds was relatively low during this period. Growing investor interest, a more acute willingness to allocate to niche and/or illiquid strategies, and market conditions post-financial crisis may Funds of Hedge Funds have benefited these strategies and their ability to set fees higher. Equity strategies including event driven/special situations, long short equity, and nondirectional equity did not experience much change in incentive fees. Macro and managed futures funds launched post-2007 with smaller fees, an unexpected Figures 4: Distribution of management fees for currently active funds result given their outperformance during 2008 and 2009. For the hedge fund industry as a whole, 2-and-20 continues to be the most 100% 0.6% 2.1% popular fee structure arrangement accounting for close to a third of all funds; 1.5-and-20 is a close second representing 23.9% of all currently active hedge 24.1% 80% 39.2% 60% 34.0% 39.9% 31.0% 40% 22.8% The fees charged by alternative investments will continue to be an oft debated topic amongst investors, hedge fund firms, and the media. We find fee 20% impetus for further evolution including, inter alia, the “retail-ization” of alternative strategy territory and hedge fund platforms/wrappers) and increasing geographic diversity. 0% 18.5% 7.9% Hedge Funds < 1.0% Credit Strategies ≥ 1.0% & < 1.4% © eVestment, LLC - All Rights Reserved 37.3% 23.4% 24.4% structures have been receptive to change on the whole and see no lack of alternative strategies (from both the encroachment of mutual funds into 2.6% 49.7% have an incentive fee of 20%. We highlight management fee distributions for Conclusion 0.9% 27.3% 34.6% funds. Variation is more common in management fees as 80.7% of hedge funds select strategies in figure 4. 3.5% 21.1% 28.7% 15.7% 2.3% 3.2% 5.2% Global Macro Long Short Equity Multi-Strategy ≥ 1.4% & < 1.8% ≥ 1.8% & < 2.2% ≥ 2.2% 2 eVestment - LOCATIONS COMPANY DESCRIPTION eVestment provides a flexible suite of easy-to-use, cloudbased solutions to help global investors and their consultants select investment managers, enable asset managers to successfully market their funds worldwide and assist clients to identify and capitalize on global investment trends. With the largest, most comprehensive global database of traditional and alternative strategies, delivered through leading-edge technology and backed by fantastic client service, eVestment helps its clients be more strategic, efficient and informed. Atlanta 5000 Olde Towne Parkway Suite 100 Marietta, Georgia 30068 United States +1 (877) 769 2388 www.evestment.com [email protected] New York 58 W 40th Street 4th Floor New York, New York 10018 United States +1 (212) 661 6050 London Candlewick House 120 Cannon Street London, England EC4N 6AS United Kingdom +44 (0) 20 7651 0800 www.evestment.co.uk [email protected] Sydney Level 26 1 Bligh Street Sydney NSW 2000 Australia +61 (0) 2 8211 2717 www.evestment.com.au [email protected] Hong Kong Level 18 Wheelock House 20 Pedder Street Central, Hong Kong +852 2293 2390 Media Contact Kwittken & Company Jon Brubaker [email protected] +1 (646) 747 0156 eVestment – RESEARCH DIVISION Peter Laurelli, CFA Vice President [email protected] +1 (212) 230 2216 Minkyu Michael Cho Analyst [email protected] +1 (212) 230 2209 Tony Kristić Analyst [email protected] +1 (646) 747 6177 © eVestment, LLC - All Rights Reserved 3