If it was for management fees only, hedge funds would barely make ends meet, according to the latest survey from Citi Prime Finance. Unsurprisingly, the bigger the asset base of the hedge fund, the easier it is for it to get by. It appears that hedge funds with $300 million under management, or emerging managers, just break even on their expenses, meaning that it would be the minimum AuM needed to survive. To breathe comfortably, they would at least need $1 billion, says the report.
The survey took responses from 124 hedge funds with over $465 billion under management.
These emerging hedge funds also see a tough time as they are forced to charge lower fees than the standard 2%. The “Business Expense Benchmark Survey” finds that hedge funds with less than $1 billion charge fee between 1.58% and 1.63%. These funds struggle with operating margins and barely match expenses with what they generate from management fees.
Small Hedge Funds: The chunky performance fee
It would seem that it is a tough world for small hedge funds, but all is not lost if these emerging managers net big returns and then charge the much juicer incentive/performance fee, where the industry standard is 18-20%. It is important to mention here that smaller funds average a much higher return and therefore it is more likely that they will charge an incentive fee, however Citi’s survey does not elaborate on this aspect of hedge fund economics.
The larger the hedge fund, the better
The survey also sheds light on the fee structure of larger firms which it categorizes as institutional hedge funds. Citi finds that the average hedge fund charges less than a 2% management fee even in case of larger firms managing between $1.5 billion to $5 billion. Operating margins based entirely on management fees come around 1% for these funds.
Hedge funds with more than $10 billion, or franchise sized firms as Citi puts it, are more profitable based on management fees alone. The report says that the average fees charged by these fund was 1.53%. In Citi’s survey, the average size for the large hedge fund was $36.4 billion. In this data set, only 53% of assets were invested in hedge fund strategies, whereas the rest was dedicated to regulated offerings and private and/or public long-only funds. Citi’s finding is consistent with what Deutsche Bank pointed out in its own survey that larger hedge funds (AUM over $5 billion) tend to focus more on non-traditional approaches than on conventional hedging wisdom.
The report further said that 95% of assets of emerging managers and 90% of assets of institutional fund managers were focused solely on offering hedge fund product, which is in stark contrast to the allocation of franchise-sized firms.