The Performance of Hedge Fund Performance Fees
We study the long-run outcomes associated with hedge funds' compensation structure. Over a 22-year period, the aggregate effective incentive fee rate is 2.5 times the average contractual rate (i.e., around 50% instead of 20%). Overall, investors collected 36 cents for every dollar earned on their invested capital (over a risk-free hurdle rate and before adjusting for any risk). In the cross-section of funds, there is a substantial disconnect between lifetime performance and incentive fees earned. These poor outcomes stem from the asymmetry of the performance contract, investors' return-chasing behavior, and underwater fund closures.
We thank Berk Sensoy, René Stulz, and Cristian Tiu for helpful comments. Ben-David is with The Ohio State University and the National Bureau of Economic Research, Birru is with The Ohio State University, and Rossi is with the University of Arizona. Ben-David is a co-founder and a partner in an investment advisor that manages a small number of friends-and-family accounts for an incentive fee. Until 2016, the investment advisor was a general partner in a hedge fund. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.