First-Time Managers Use Founders’ Share Classes to Meet Management Fee Expectations – August 2015

by Janet Chambers

  • 07 Aug 2015
  • HF

Preqin Investor Outlook, H1 2015 revealed that 75% of investors believed management fees had shown the most improvement over 2014 of any fund term associated with a hedge fund. Even though investors have seen improvements in fees, institutions identified fees as the second most important issue for hedge funds in 2015, after performance. In this blog we take a look at the current management fees single-manager hedge funds are offering and how they continue to meet investor expectations through 2015.

As management fees are designed to cover the day-to-day costs of running a fund, investors seek to ensure they are not paying for unnecessary expenses. The pressure for hedge fund managers to continue to offer reduced fees was indicated in the 2015 Preqin Global Hedge Fund Report, with 30% of investors ranking fees as a key factor when evaluating a hedge fund manager. Preqin’s Hedge Fund Analyst tracks terms and conditions for 9,195 constituent single-manager hedge funds, excluding liquid alternatives and CTAs. The chart below shows the mean management fee of all constituent funds by year of inception, comparing first-time funds and those managed by funds with established vehicles. Since 2009, management fees have fallen for single-manager hedge funds, for funds launched in 2015, however, we have seen an increase in the mean management fee of 1.53%. The rise may be attributed to the increasing operational costs of meeting regulatory requirements, such as the AIFMD, Basel III and Dodd-Frank rules.

Higher operational costs relative to the size of a fund make it difficult for first-time fund managers to offer the competitive level of fees necessary to contend with more established/larger outfits for investor capital. Hence, first-time funds must look for alternative methods to encourage initial investment. One such method is to offer access to a founders’ share class where early investors are charged lower fees for a set commitment period. Gaining early investment allows the fund manager to begin investing at a viable size and establish a track record, which will make the fund more accessible for institutional investors. Future investors in the fund will subsequently be more able to assess the performance of a fund and more willing to take on higher management fees once the founders’ share class has closed. In 2015, of the 37 first-time single-manager hedge fund launches, 41% offered a founders’ share class with a mean management fee of 1.30%.

With 68% of hedge fund investors surveyed in the Preqin Investor Outlook, H1 2015 seeking improved management fees in 2015, the increase in management fees for funds incepted in 2015 may be disappointing. Early investment in funds with founders’ shares is one solution to this demand, if investors are willing to forgo their requirements for an established track record, which has become increasingly important since the crisis.

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