How Fund Fees Are Calculated and Which Terms Matter

# How do funds assess fees to investors?


# How do funds assess fees to investors?












I am trying to understand how funds incur fee onto its investors.

I found out that a typical fund fee structure is 2% of AUM and 20% of the excess profit.

If fund received 10MM capital from an investor and created 10MM long, 10MM short portfolio (20MM GMV dollar-neutral portfolio), will fund charge investor 2% of 20MM or 10MM capital invested?

Thank you!

## Answer by Nilsson Hedge (score 2, accepted)

https://quant.stackexchange.com/a/73794

Management fees are commonly charged on the asset base, in this case, the 10MM. There might be exceptions to this rule, but they are rare. FOr mutual funds, management fees are typically charged on a daily basis, say 2%/260 (260 being the proxy for the number of trading days in a year) of the prevailing net asset value at the of the day. Monthly funds charge 2%/12 etc.

The performance fee is charged on "net new profits", i.e the dollar that the fund has earned for you. Performance fees come with more variations than management fees.

## Answer by databento (score 3)

https://quant.stackexchange.com/a/73796

It will typically be on the net asset value (NAV) of the fund, which has a precise definition, and in your hypothetical case, is around the $10M value.

The long answer is: it depends on how it's legally drafted.

And your question broadly asks "how funds incur fee[s] onto its investors", so I should note that there are many factors that determine the "true" incentive or management fee/allocation load on the fund investors that an allocator or LP should be aware of. In my experience, the combination of these things are actually more important than the percentages of the management and performance fees:

- Crystallization frequency. The frequency at which the investment manager updates the highwater mark and assesses the performance fee.

- Monthly, quarterly, or annual management fees. The frequency at which the investment manager gets paid the management fees. Monthly favors the manager. Quarterly is most common.

- Hurdle rate. Fixed or variable rate that a fund should generate before it charges a performance fee. In the past decade, these didn't matter much because of the zero or negative interest rate environment in much of the world, but this becomes more important in the current climate.

- Claw-back provision. Ability for an investor to claw back fees paid if losses are incurred.

- Arrears vs advance. Fees paid in advance usually benefit the manager. It's common for management fees to be paid in advance.

- Which administrative expenses are included? Typically, the fund is responsible for paying the bare minimum of operating expenses, including third party fund administration, tax, legal, and audit. However, some funds may assess management fees after a wider scope of fees, including those for regulatory filings or even "research costs" that one might assume should be paid by the manager.

- Fee vs allocation. Depending on the tax character of fund's profits or revenues, it may benefit the manager to "allocate" the management and/or incentive "fee" to the capital account of the general partner, which is typically a subsidiary or affiliate of the manager. Most typically, the management fees are expensed as a fee and the "performance fee" is handled as an incentive allocation.

- How are formation costs amortized? Due to the complexity and considerable legal costs of formation, and the chicken-and-egg problem where the fund vehicle needs to be set up first before investors can subscribe, the manager typically pays upfront for the formation costs and then later amortizes those costs over the first few years of operation of the fund. What can be considered formation costs has some wiggle room for interpretation, although this is more straightforward than "administrative expenses" and regulatory auditors tend to have a very narrow definition. The most typical amortization schedule is monthly over 60 months.

- Liquidity provisions (gates, lock-up, subscription and redemption frequency, redemption notice period). These are usually glossed over during the good and normal times, and it's not uncommon for the manager and investor to waive some of these provisions slightly in favor of the investor from time to time. But they become even more important than everything else during the worst of times. For example, an investor might've wired the capital for a subscription a few days late, but the manager may still consider the capital as having been received. On technicality, this hurts the other investors in the fund on a period ending in gains, but so long as there's some communicated knowledge of this matter and no systematic pattern of benefitting some favored investor(s), it's not something that regulators will pick you apart for.

## Answer by user84893 (score 2)

https://quant.stackexchange.com/a/68549

From a managed fund operation perspective, the 2% charge is on how much funds one investor controls not the total FUM of the fund.

## Answer by JoshZ (score 2)

https://quant.stackexchange.com/a/68553

In fund accounting, it each hedged position you open as an asset & liability that has to be netted off.

Management and Performance Fees are incured will be based on the AUM after netting off all the assets and liabilities of the positions.