More on Performance Fees vs. Beta

Yesterday, I discussed changes in the fee structure of hedge funds.

In researching for the column, I reached out to several different managers who employ a variation of straight up fees. Joel Greenblatt of Gotham Funds, Andrew Wellington of Lyrical Asset Management, and Eddy Elfenbein, who runs the AdvisorShares Focused Equity ETF (NYSE: CWS).

I (of course!) ran long, and the editors cut my blathering down to a more manageable 800 or so words. But some background of how this came about, along with a few things that did not make the final cut are worth sharing.

First, Peter Boockvar introduced me to Andrew Wellington a while ago (Andrew is Lyrical’s CIO and co-founder). I have been mulling over his thoughts for a while. Lyrical charges a 0.75% management fee, and 25 percent of the outperformance versus the benchmark (there is also a bigger cap weighted 0.45% + 25% of alpha version).

I like the 0.75% + 25% of alpha versus 2.00% plus 20% of beta + alpha

And, the combination of outperformance and $9 billion in assets impressed me, making me think these fees could be a bigger force in both active management and alternative investments.

Exchange traded funds are not immune from this fee pressure either: I also spoke with Eddy Elfenbein, who manages the first ETF that charges a variable fee. The active concentrated CWS (Crossing Wall Street!) fees flex as they either beat its index or not. He is aligned with his shareholders in that he makes less when his model does not out-perform.  “I wanted to show our investors that I have skin in the game, and my interests are aligned with theirs. If we beat the index, I get a bonus. If we fall short, they get a savings. It’s that simple.”

I have been found of mocking the of paying performance fees for beta with the snarky line, “Come for the high fees, stay for the under-performance.” Paying for alpha via variable performance-based (Fulcrum) fees is turning the old 2% & 20% model on its head.

My own firm, RWM, does not aim for alpha, but rather, a risk-adjusted global beta. Our twist on traditional fee structure is that we discount our management fees by about 15% after 3 years to reward clients who have demonstrated a commitment to good investing behavior. The thought process is if we incentive people to not do anything untoward with their portfolios, they are more likely to achieve long-term success.

Andrew sums up the fee debate as it applies to his firm thusly: “We believe our investors hire us based on our past performance, but should compensate us based on our future performance.” I would be surprised if we don’t see more adoption of this type of fee int he future. In an era of indexing, the rest of the active management world should take notice.



Paying Alpha Prices for Beta
Barry Ritholtz
TBP, May 9, 2018

A Hedge-Fund Fee Plan That Only Charges for Alpha (Bloomberg)


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