A group of institutional investors, led by the Teacher Retirement System of Texas, has written an open letter to the hedge funds industry, calling for managers to adopt “cash hurdles”, which must be reached before management fees are charged.
In a letter titled Regarding the Usage of Cash Hurdles in Incentive Fee Arrangements, the group of allocators questioned why they should be expected to pay “significant incentive fees” for “skill-less returns” that could be “easily obtainable” for free in the current higher interest rate environment.
“We believe incentive payments on true value-add fixes a misalignment that has been present in fee structures throughout the maturation of the hedge fund industry,” the letter stated.
The investor group suggests that hedge funds should only charge fees on returns that beat the markets, by switching to a “cash hurdles” model that would see them paid for generating higher returns than “risk-free” investments.
“In 2023, a $1bn market neutral hedge fund could have earned ~$52m (5.25%) returns just by holding cash, and if that fund charged a 20% incentive fee on absolute returns, would have taken home $10.5m in compensation for taking zero risk,” the open letter says.
“This is not sustainable, especially as it seems the risk-free rate may remain elevated for the foreseeable future; and it is not what LPs are asking GPs to do. “Earning cash returns is not the reason institutional LPs invest in hedge funds.”
“Earning cash returns is not the reason institutional LPs invest in hedge funds.”
The letter was signed by 29 allocators including pension funds, corporate defined benefit pension funds, endowments, sovereign wealth funds and foundations, as well as investment consultant firms Aksia, Albourne and Verus.
