Lakes suffer when the rivers and streams flowing into them run low for a prolonged period. Sometimes it can be seasonal factors; it can be climate change, or increased use of the water upstream, like the River Jordan feeding the Sea of Galilee in Israel. In extreme cases the water course can become a string of ponds separated by dry land if the typical rains do not fall in the right place beyond the minimum amount.
Something analogous can happen on the hedge fund landscape when capital flows dry up. Good returns begat capital flows which begat increasing AUM, and hence an enhanced ability to attract and retain staff (in the virtuous circle). In the vicious circle, once a bad absolute return is seen as a poor relative return in the peer group for the strategy, the investors in the fund put it on ânegative watchâ like the ratings agencies. After review, if there is not a sound basis for staying on board, the flow of capital out can be frighteningly quick: a very profitable business at 10x of capital can be breaking even at 3x of capital and into losses at 2x, regardless of brand name, heritage or even sometimes even of long term track record. âWhat have you done for me lately?â is the rhetorical question in the minds of investors, even if does not cross their lips.
In the September 2009 edition of The Hedge Fund Journal I wrote that:
âOne of the reasons for fund closures is the impact of the high-water mark feature, common to modern-era hedge funds. On an industry index basis, the industryâs price (NAV) peak was as long ago as October of 2007. Based on the NAVs at the end of August 2009, a typical hedge fund still has to show a NAV appreciation of 11% to get to the old high-water markâ¦For some managers it could be years until they earn a performance fee. The impact has already been seen in staff movements â even partners of established funds have a disincentive to stay at funds well below their high-water mark. And there remains the classic incentive of performance fees to entice quality staff to funds at or near their peak NAVs. In this regard it is interesting to see that two founding partners and the head of Asia for The Childrenâs Investment Fund Management (TCI) have left the firm recently, and that on the other side of the coin Brevan Howard has just taken on three senior staff at partnership level. Brevan Howardâs flagship Global Macro Fund was up last year and is up nearly 15% this year.â
http://www.thehedgefundjournal.com/research/simon/blog/big-fish-in-shrinking-ponds.php
Something analogous can happen on the hedge fund landscape when capital flows dry up. Good returns begat capital flows which begat increasing AUM, and hence an enhanced ability to attract and retain staff (in the virtuous circle). In the vicious circle, once a bad absolute return is seen as a poor relative return in the peer group for the strategy, the investors in the fund put it on ânegative watchâ like the ratings agencies. After review, if there is not a sound basis for staying on board, the flow of capital out can be frighteningly quick: a very profitable business at 10x of capital can be breaking even at 3x of capital and into losses at 2x, regardless of brand name, heritage or even sometimes even of long term track record. âWhat have you done for me lately?â is the rhetorical question in the minds of investors, even if does not cross their lips.
In the September 2009 edition of The Hedge Fund Journal I wrote that:
âOne of the reasons for fund closures is the impact of the high-water mark feature, common to modern-era hedge funds. On an industry index basis, the industryâs price (NAV) peak was as long ago as October of 2007. Based on the NAVs at the end of August 2009, a typical hedge fund still has to show a NAV appreciation of 11% to get to the old high-water markâ¦For some managers it could be years until they earn a performance fee. The impact has already been seen in staff movements â even partners of established funds have a disincentive to stay at funds well below their high-water mark. And there remains the classic incentive of performance fees to entice quality staff to funds at or near their peak NAVs. In this regard it is interesting to see that two founding partners and the head of Asia for The Childrenâs Investment Fund Management (TCI) have left the firm recently, and that on the other side of the coin Brevan Howard has just taken on three senior staff at partnership level. Brevan Howardâs flagship Global Macro Fund was up last year and is up nearly 15% this year.â
http://www.thehedgefundjournal.com/research/simon/blog/big-fish-in-shrinking-ponds.php
