These include the level of risk, leverage, investment strategies, the often substantial amount of management and performance fees attached to hedge funds and restrictions on withdrawing funds. A common range is $250,000 and $500,000, which is likely to attract wealthy and sophisticated investors, many of whom are well informed about the distinct features of hedge funds. Many hedge funds require investors to put up a minimum and often a significant amount as the initial investment, ranging from as low as $10,000 to as high as $10,000,000 or more. In contrast to many other investment vehicles and alternatives such as ETFs and mutual funds, hedge funds are not automatically open to all the investors who want to commit funds. This paper investigates how hedge fund attributes affect performance with respect to the decision to offer specific managerial incentive schemes such as a hurdle rate and a high-watermark, which are common incentive schemes in the hedge fund industry. Using three different measures of hedge fund performance in our cross sectional analysis and taking into account the risk profiles associated with different investment strategies, we confirm our results.
Hedge funds that take riskier positions are more likely to offer a hurdle rate and high watermark Controlling for fund size, our results also suggest that hedge funds that collect high performance fees are more likely to outperform those that collect low performance fees.
Our results indicate that hurdle rate and high-watermark act as restrictions on fee collection rather than incentives. We analyze how hedge fund attributes affect performance and the decision to offer a hurdle rate and high-watermark.
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