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Returns among hedge funds over the last 12 months have been extremely varied. Close to 45% of respondents report their funds to be down last year. More than 20% of those hedge fund employees surveyed say their fund was down between 10% and 25%.
But 25% of respondents have enjoyed returns of more than 10%. Such variation is to be expected given the volatile investment environment since September 2008. Shorting strategies may have benefited initially, but as markets have risen since March 2009, it is long investment strategies that would have seen the greatest performance.
Essentially managers have had to remain flexible in their strategies in order to quickly adapt to the changing markets.
Assets under management are also a significant contributor to performance. Nervous end investors pulled money out of hedge funds over the financial crisis which, in many cases, forced the realization of losses. Towards the middle of 2009, however, investors returned from the sidelines and hedge funds once again had net inflows which enabled portfolio managers to get back to the business of investing.
It is largely believed that compensation is tied to fund size and performance. Given 55% of hedge fund employees’ total cash compensation is bonus related, performance and increases in assets under management are key. If a fund performs well, bonuses will naturally be higher as hedge funds charge a performance fee which is passed on to the employees. That is clearly how portfolio managers, traders and quant/programmers view it.
Only at those funds which reported stellar performance of returns upwards of 25% do differences in compensation truly emerge, and fit the perceived notion that better performance results in better compensation. Respondents at those funds report earnings of almost $500,000 on average.
Yet the results of the survey indicate that hedge fund performance has less of a bearing on overall compensation that one might think. The average employee does not seem to be impacted. Employees who work at funds that have had returns from flat all the way to positive 25% report little difference in earnings, taking home between $260,000 and $280,000. Yet employees at funds that that produced negative returns of 1% to 25% earned more than those employees at firms in positive territory – between $290,000 and $390,000.
We saw a similar disconnect last year, where the highest pay was at the flat fund performance level. It is a bit more concerning in this year’s results as the actual pay was higher when funds lost money. We believe that, just as many of the respondent have commented, compensation policies are not based on purely objective criteria and do not always align with the best interest of the investors.
In some cases, it could be simply a function of talent retention. In tough markets, the most talented team members are more open to changing firms in search of higher pay. Some firms may break the connection between current fund performance and bonuses in order to keep these players happy. Finally, guaranteed bonus programs, although discouraged, surely contribute to the disparity.
Back to the 2010 Hedge Fund Compensation Report
