Understanding Hedge Fund Fees: Implications for Hedge Fund Managers
K&L GATES
HURDLE RATES AND BENCHMARKS
Certain Performance Fees incorporate a "hurdle rate" mechanism, intended to reduce
or reverse the Performance Fee if performance during the current Performance Fee
calculation period does not exceed certain levels.
There are two types of hurdle rates - "hard hurdles" and "soft hurdles." Hard
hurdles are dollar-for-dollar deductions from the profits achieved during a calculation
period; "soft hurdles" censor the payment of a Performance Fee that would result in
the performance recognized by the investor during the calculation period not equaling
at least the hurdle rate.
For example, if the hurdle rate is $5, the profit (assume over the HWM) is $10 and the
Performance Fee percentage is 20%, with a hard hurdle the Performance Fee would
be $1 i.e., 20% of $5 ($10 minus $5) - while with a soft hurdle the Performance Fee
would be $2 as after reducing $10 by $2 the return for the period ($10 minus $2)
would still exceed $5.
With a "soft" hurdle, a performance fee is charged on the entire annualized
return if the hurdle rate is cleared. With a "hard" hurdle, a performance fee is
only charged on returns above the hurdle rate.
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