The problem with hedge fund fees

Abstract

The structure of hedge fund fees is meaningfully flawed. These imperfections are so great that institutional investors will force substantive change over the coming years. The problem arises when the basis on which fees are calculated serves to break the required clean connection between value and price. Unfortunately, the structure of hedge fund fees when superimposed on how hedge fund portfolios are managed results in a significant breakdown between the value received and the price paid. Moreover, this failure has in large measure remained dormant as a result of the abnormally low returns generated by traditional asset categories. However, eventually, normalcy will return, and equities, credit and commodities will once again generate their traditional returns, and at that time hedge fund clients will revolt -insisting on a reconfiguration of the hedge fund fee structure. This article explores the nature and severity of this issue.