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CFA Level I · CFA Level I Exam · Hedge Funds

A hedge fund begins the year with USD 100 million. It earns a gross return of 15% before fees. The management fee is 2% of beginning assets, and the incentive fee is 20% of profits after the management fee, with no hurdle rate. Fees are paid at year-end. The investor's net return is closest to:

The net return is about 10.4%. Gross profit of USD 15 million less a USD 2 million management fee leaves USD 13 million. The 20% incentive fee on that amount is USD 2.6 million, so the investor keeps USD 10.4 million on USD 100 million invested.

  1. A10.4%Correct
  2. B11.0%
  3. C12.0%

Explanation

Gross profit is 15.0 million. Management fee is 2.0 million, leaving 13.0 million. Incentive fee is 20% x 13.0 = 2.6 million. Net profit is 10.4 million, a 10.4% return. Charging the incentive fee on the 15.0 million gross profit would give 15 - 2 - 3 = 10.0%, and ignoring the management fee in the base gives a different result.

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