The economics of hedge funds

Yingcong Lan, Neng Wang and Jinqiang Yang

Journal of Financial Economics, 2013, vol. 110, issue 2, 300-323

Abstract: Hedge fund managers trade off the benefits of leveraging on the alpha-generating strategy against the costs of inefficient fund liquidation. In contrast to the standard risk-seeking intuition, even with a constant-return-to-scale alpha-generating strategy, a risk-neutral manager becomes endogenously risk-averse and decreases leverage following poor performance to increase the fund's survival likelihood. Our calibration suggests that management fees are the majority of the total compensation. Money flows, managerial restart options, and management ownership increase the importance of high-water-mark-based incentive fees but management fees remain the majority. Investors' valuation of fees are highly sensitive to their assessments of the manager's skill.

Keywords: High-water mark (HWM); Alpha; Management fees; Incentive fees; Liquidation risk; New money flow (search for similar items in EconPapers)
JEL-codes: G11 G12 G2 G32 (search for similar items in EconPapers)
Date: 2013
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Citations: View citations in EconPapers (39)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:110:y:2013:i:2:p:300-323

DOI: 10.1016/j.jfineco.2013.05.004

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