I don't expect any WSO'ers to have some inside scoop here... but I was just doing the math and I don't 100% understand how the economics of a hedge fund work. Lets take a simple example.
PM manages a $1bn book
- Has 2 Jr PMs working under him, 2 Sr Associates and 2 Associates; so 7 people total
- Fund a structured as 8% hurdle, 20% carry
- In a given year you hit a 30% return; that means you generated $220 million of value for investors subject to carry; 20% or $44 million in carry generated by the PM and his group; now some subset of that goes to the team...
Let's assume its 50% (FYI, its generally about one-third for professional services, Asset Management, consulting, lawyers etc). That's $22m, applying some not stupid carry pie distribution you get to the below.
Person_________$m__________% total
PM____________14___________63%
Jr. PM__________2.420________11%
Jr. PM__________2.420________11%
Sr As.__________1.100________5%
Sr As.__________1.100________5%
As_____________0.550________3%
As_____________0.550________3%
Now don't get me wrong, its preposterous for a 30-something year old to make $2.5 million or a PM to make $14 million a year. But that just doesn't strike me as stupid money... as in PM of a $1bn book and one of his few henchmen type of money. Obviously the difference between $14m and everyone else is a big big difference but still... throw in the volatility, lifestyle, pressure etc... and what the fuck?
And this is very large book at a 30% return run by a handful of people.
Thoughts?
If you know anyone on the operations side, they can probably pin point it much better than I can (I do more PE but my company does HF consulting as well). I just asked my colleague who does HF Ops since it will vary by strategy over a 15 second chat and got a few nuggets (I'm doing a ton of guesswork here and would love to be corrected). Let's break this down but keep it very simple. The main point will be to establish how much money is left over for comp for senior people...
You have a $1bn in the Fund. Usually there is no hurdle according to my colleagues (ala PE, there is High Watermark though). Let's assume 2/20 structure and that you have 7 investment staff and 6 back-office staff (including an assistant/receptionist).
The 2% from management fees (ie 20%) goes to staff costs (ie. salaries), rent and systems. Ok, let's say you are kind of going to go baller and rent costs $200k/month (I'm based in HK so I glanced at IFC rents in the mid-larger spaces). That's $2.4m/year. Let's assume that you have 8 Bloomberg terminals (1 for each investment professional and 1 to be shared amongst others). A Bloomberg terminal is around $24k/year (from the first google response I got). That's $192k/year. Let's just round that up to $200k/year. Now there is more to systems than just Bloomberg. Everyone needs phones/blackberries, laptops, servicing, monthly costs. Let's just throw down $100k/year for that (assume nice laptops, top notch phones and servicing) - I could be way off here since there are probably all kinds of other systems used as well (depending on strategy) - someone feel free to correct me. You are now at $2.7m/year of expenses with $17.3m left. Heck - let's just round it up to $3m, to say you have $17m left for staff costs (ie. salary).
So - $17m for 13 staff, of which 6 are back-office (1 is a receptionist/assistant). I DO NOT know typical salaries in this space, so the rest I am going to make up.
Receptionist/Assistant - $150k/year (she's been around a while, is well known/good, people like her). IT Guy - $200k/year Accountant - $200k/year Ops (settlements etc) - $200k/year CFO - $600k/year COO - $800k/year
Associates - $350k/year - x2 Sr. Associates/VP - $600k/year x2 Jr. PMs - $1m/year x2 PM - $10.95m/year
Note that this is BEFORE carry or performance or anything like that. Some people on the above list may make much more or much less than I have stated (feel free to use your own numbers to play around). But even if you had a $2m budget for systems (instead of my $100k) and doubled everyone else's salary, the top guy would make $3.3m or so (ie. assuming the same rent and Bloomberg costs, but increasing cost of systems from $100k to $2m, unrealistic, I know, and then doubling everyone else's salary)...
Then you have "fund expenses" this is for lawyers, accountants, administrators etc. This is charged to the fund, rather than from the management fee (ie. 20bps of NAV is pretty standard or so, I've been told for L/S funds). So let's say you start with $1bn fund. $20m is taken out for management fees (as listed above). Now you have $980. Let's say Day 1 NAV is 980 (since you need to set up all of these accounts and services) and this costs 20bps, that's $1.96m, let's just say $2m. Now you have $978m to invest. Let's assume you blow it out of the water and make 30% on invested... $978*1.3 = $1271.4 (or $1.2714bn)... That is $291.4m of profits from trading/investing/whatever. Take 20% of that for the HF, that's another $58.28m to go around to all of the staff in the HF.
The investor ends up seeing $233.12m ($291.4-58.28) of profit from activities post fees and carry, which is a net return of 23.3% or so after fees and carry (ie. management fees, fund expenses, carried interest).
Of course there are lots of wrinkles that I have not put in here. Managed accounts, early investors, big investors will often negotiate hard on management fees (ie. pay 1% or less instead of 2), fund expenses may be higher than what I stated, systems costs may more performance-based compensation (ie. PMs probably have to invest their own money into their own book, may be an "eat what you kill culture").
I am sure that I am missing a lot, that the calculations are imprecise, that there is all kinds of rounding and back of the envelope stuff going on here, but hopefully this provides some kind of guideline to how it works and you (or others) can plug in the numbers yourselves. Remember that at a lot of funds, that they money all flows up (people make a lot of money but the 1 or few guys at the top make by far the most).
Hope this helps
Cheers
I was thinking of it more on terms of a PM and his team sitting inside a Milennium or Bridgewater on a long/short strategy. So I assumed the mgmt fee essentially covers all the G&A and infrastructure and so an addition 7 person team is largely all variable costs (ie comp).
Good point though; the lack of a hurdle adds $16m, and the mgmt fee is another $20m. Sitting inside a Millennium, it's hard to imagine that the 2% mgmt fee is exhausted on SG&A and support staff comp. So apply my 50% COGS scenario and that gets you to an additional $18 million to divy up, which is quite substantial since it's mostly going to the PM anyway. So maybe make the PM comp $25m, and throw another $2-3 each to the jr PMs, and throw the scraps to the stray dogs. I guess that's closer to what I would think a top HF guy should make... given that my view of what they "should" make is pure conjecture and my numbers could very well be completely off.
Assisstants and accountants earn pretty well in the States, but in Europe (south) just around E20k. In Spain there are lots of cheapskates. The IT guy maybe 4000 a month. If you go to the "East Realm", figure it out by yourself since the average wage is well below 500 euros a month.
I'll ask a friend who used to be a PM at one of the big shops (~$30B AUM) but we've talked about it before and from what I remember your numbers are pretty accurate. He ran about $3B and it was him and 3 analysts under him (I'm sure there were different titles and seniority amongst the analyst but he lumped them together) and they had to pay out a trader from their carry pool (they weren't a big trading sub fund, more research based buy and hold) and had more execution traders that were shared among a few strategies. For some reason 45% is sticking in my head regarding their cut of the carry but they had a pretty big back office behind them which also allowed for the smaller team. I believe he also said he personally as the PM took about 60%. He was the PM for about 4-5 years, they were doing 25-30% on what ended up as more than $3B and he was making sick money in his mid 30's and retired at 38. I'll ask him for the true numbers.
Edit: they never saw the 2%. That went to the house.
Holy fuck. So your friend was easily making 8-figures in his 30's. Is compensation like that common at the big hedge funds ($10 billion+ AUM)? Or are guys like your friends an anomaly? At the large mutual funds VERY few make $5 million+, but that makes sense given the totally different compensation structure.
I only know a few people in the HF world, this guy particularly well, so my data points are more anecdotal than scientific poll, but this guy absolutely knocked the cover off the ball. I don't think many people make the kind of money he did other than guys who found funds. When he was telling me the numbers one night at his house over drinks I almost fell off my chair. But he has a unique background of a science education, McK consulting and an IB stint and ran their healthcare/pharmacy fund so I think he advanced more quickly than most would, i.e. Not many 33 year olds run multi billion dollars chunks.
*fee structure
mutual funds could never get away with a 2 & 20 structure because of the amount they have to disclose. also, it's difficult to generate hedge fund performance when you have to maintain daily liquidity.
Of course it is not common to make 8 figures in your 30s but at the big multi-manager funds there are a few PMs every year that will make deep into 8 figures and obviously returns dont discriminate by age so sometimes it is people in their 30s (or even late 20s occasionally). Just do the math...a place like Brevan Howard pays PMs 15%ish and there is 6BN worth of Pnl being made in a 20%ish year...so somebody is getting paid alot of money. And dont even start with the guy whose name is on the door and gets to collect the management fee (which is above 2% at big funds) on $30B just for showing up...the math is absurd.
not to flood this thread but individual PMs at multi-managers dont see any management fees...but they also get free back-office, research staff, legal, compliance, etc.
That's what I was saying-my friend the PM never saw the 2% management fee and it went to the house. The investment team received salaries from the 2% but that kept the lights on, paid rent and support staff/back office, etc.
"That seems completely out of whack, considering that a PM running a billion-dollar-plus book at one of these shops could very easily setup their own shingle."
@"Marcus_Halberstram" regarding setting up their own fund: while not impossible, it's very difficult to raise a significant amount of money to start a hedge fund (or PE fund) in today's world. In the past an in-house guy from Goldman or UBS could get staked with a few hundred million or billion by their employer and go out on their own but I'm not seeing that as often anymore. In my opinion fundraising skills are much different than generating return managing a portfolio and the guys who have both are pretty rare, especially in HF's. PE guys tend to have started in banking so they're more accustomed to selling and raising money in one form or the other but raising a first PE fund today is extremely difficult unless you're an absolute rock star. For example, I know Sam Zell's ex-right hand man at Equity International (they invest in some real estate but moreso operating companies with a large real estate component, and obviously internationally) took about 18 months just to raise a $100MM fund when he left Zell. And he was a rockstar. There are a few seeder platforms out there who will fund a new HF but the economics are pretty bad to the HF operator. My friend who left the big fund where he made a ton of money was approached by one of these, I can't remember which, and the economics were basically 1/3 of the management fee (so 66 bps of total capital) and 20-25% of the carry. It's a bit of a catch-22: because he made so much money before it just wasn't worth it to him to work a ton starting up a new fund for that amount of compensation, but in order to have someone throw that money at you, you have to have made a ton of money at an established HF. Just my 2 cents. I could be wrong.
...Ah i get it, hence the deletion of back office staff etc. I could probably ask and figure it out but it might take some time...
FWIW, I know a guy who used to work at one of the megafunds out here in HK. I think he ran a $200m book for them and left (this was a while back) since he noted that if he made 10% in a year (ie. $20m) that he would get "maybe a buck." I guess he was more junior (and did run a smaller book...)
Your calculation is roughly correct, I suppose (my place is somewhat different, but those are minor details). I just don't see the problem. You don't think there isn't enough juice in it for the PMs? What happens when you scale this model somewhat? BTW, rough rule of thumb is something like a 10% cut of the top line PNL (heavily dependent on the shop).
Old SAC model
-$500mm book (very few people got more than this) -Steve charges 3 and 50 and takes care of all the back office costs. The PM is responsible for his own analysts. His cut is 30bps and 17% (one third of total incentive fee).
-The book has to be pretty hedged. There is a fair amount of leverage (rumored to have 80 PMs at one point, regulatory assets often 4x-5x time net assets). Its hard to really go out and knock the ball off the cover. A good year would be 12%-15% -Even at +12%, the PM gets $1.5mm to take care of his analysts via the 30bps, he makes $10mm on his cut of the incentive fee, Steve gets $20mm
I can't stress enough that the leverage at multi-manager shops really impose the amount of net exposure each individual PM can get. Its also not just a hedge out the long book via short ETF, its being long one hospital and short another hospital a lot of the time.
I think @bondarb can provide his insights on this. Re hurdle rate shouldn't there be a catch up provision so that when you make 30%, you get incentive fees off the entire $300m as opposed to $220m? At least that is how it usually works in PE. But then I didn't know how prevalent is hurdle rates in HFs .I thought a hurdle rate is put in place to compensate the iliquidity of PE investments.
In any case, $2.5m/year pre-tax (and HF taxes are much higher than PE carries due to short term nature) in NYC/CA for a jr. PM may or may not be "stupid money" depending on the person's overheads. A HF job may sound glamorous but at the end of the day it is still just a job working for someone else and at their mercy. Most of those who become truly wealthy did so by starting their own business or investing in one at early stage with their own money, or by joining a potentially very promising young company as a senior guy and cash in on the stock options. Anthony Noto just took the last route, having quite his job as senior MD at Coatue Management to join Twitter as their new CFO before he even officially started at Coatue.
@Dingdong08
So does that lead one to believe that a PM inside a large multi-manager HF makes ~$10-20m a year? How does that compare to a partner or group head at a large cap PE firm?
HF seems like a lot more risk for not a whole lot more money (in terms of the lifestyle someone making $8m p.a. live vs. the lifestyle of someone making $$15m p.a.). Unless I'm mistaken about what a PE partner makes... but I was always under the impression that a MF partner/group head is clipping like $5-15m a year. I realize the mid-points are separated by a factor of 2... but once you're past the several million dollar point... what the fuck does it matter whether you make $7.5m or $15m... although I guess Deeb Salem would have something to say about that.
But my point is... is it really worth the added risk, volatility and constantly having the market's axe hanging over your head? PE seems so much more stable and less stressful at the senior level. And to be clear, I'm benchmarking MF partners vs. a PM at a $10-20bn+ HF.
Megafund PE is certainly more stable than working at a large hedge fund. PE at the upper level is almost all about sourcing and relationships whereas at a HF you still have to generate ideas, manage risk, etc. As for compensation it's fair to say that the managing directors at a place like Blackstone are making $10M+ including carry. I mean Chinh Chu, on of their senior managing directors (joined Blackstone in 1990) bought a $30 million condo at Trump World Tower, all in cash.
Let's not forget that making it big in PE is much tougher than it used to be. Lots of firms around now and pe is structured to favor the old guys. In an Hf one can make jr pm or start up much more easily, ie may not have to put in 15 plus years... You do well, you make big bucks and get more money to manage, spin out and so forth. If you don't, you are out of gig... Key is the barrier to entry to being senior in pe. It takes forever...
This is so, so wrong. Yes, a handful of senior MDs might be pulling in these numbers but it's hardly a standard.
Chin Chu is also one of the most senior people at Blackstone and essentially got in at the ground floor, so that's hardly an accurate data point.
Interested to know what @Dingdong08 has to say about MF Partner comp. My sense was that its in the mid-single digit millions for MDs and high single digit to low teens for group heads.
There's probably more risk at a HF because of general market risk and exposure compared to PE. In the life of a 10 year PE fund if valuations are down because the economy is shitting the bed you just don't make exits and wait for a rebound, at least up to a certain time period. But you also have to wait a much longer time to realize gains so even when you make an exit you have to reserve/escrow the carry on exit #1 until a much later exit when the LP's capital is returned. And it takes much longer to get to the point where you receive any decent amount of carry. At a HF you can make it much more quickly both in terms of receiving carry and advancing to a senior role but you can also blow your fund up and it can all be over next month. The beauty is that if you've done well and quit, you don't have to wait for years to collect the carry (and perhaps lose some because you left early or get involved in litigation). In the case of my friend, he kept the bulk of his money in the fund and left the fund on friendly terms. A few days later he had all of the money out of the fund and in his bank account.
And this is purely anecdotal, but you just tend to not see too many older folks working at a HF while in PE there are tons of 50 year olds walking the halls in senior roles. I don't know if that's due to the higher stress and risk of HF or if guys in PE stick around longer because their carry is wrapped up for a long time.
Well, given what we know about the most senior executive pay in the HF industry vs PE, it appears that added risk and volatility are reasonably well compensated (using numbers for 2013). Does this extra compensation work out similarly at lower tiers, incl the PM level? Possibly not, but I am not really sure you could argue that risk-adjusted pay these two areas of finance should be related...
to be clear 10-20MM is a very big year...that PM would have to make 100-150MMish in PnL which is a very "crooked number" (to use a baseball term). But at a big firm every year a couple of guys will do that and in a good year quite a few might. However, usually once you get to a level where u have the balance sheet to make that type of PnL the job isnt quite as risky..ie you have built enuff credibility where a weak year likely wont cost you your seat so long as you keep it reasonable. Also generally someone who makes that amount has grown into that size by having some 25-50MM PnL years and so they are already financially pretty secure. The job is very risky however when ur starting out as a PM...1st year turnover for PMs is high and at that stage you generally dont have the line to generate the upside discussed above (at least not responsibly anyway). If ur someone coming from the sell-side you might be at this stage at age 35-40ish with some money in the bank but not enuff such that its no big deal if you blow out..if ur coming from a non-traditional background like say the IMF or Fed you might not have much in the bank at all. So yes, it can be risky....this is definitely a situation where i have seen some very smart people who have spent their whole lives succeeding getting their first bitter taste of life-changing defeat.
not sure whether the more risk part is always true because you get your money out every year.
Yeah but those are guys who have like 30 years of experience and sit on the executive committee of Blackstone PE, obviously they make that kind of cash, for junior MDs at Blackstone it looks much different.
Non-founding partners at a mid-size buyout firm (say $2 - $3b aum) with a large team might get $1.0 - $3.0 million salary/bonus cash comp, and 5% - 10% carry. So call that $6 - $13 million total comp, of which $5 - $10 is effectively deferred/reinvested (as you don't have annual liquidity). The first 7 years or so might be "tough" as that's how long it takes to start getting paid carry, but assuming you are reliably compounding at 20% gross (totally doable in PE), you will continue to raise more funds and eventually get to a stasis where you are harvesting old funds and getting paid significant, if lumpy, cash income every year, while sowing seeds in the new funds. You also get to reinvest your own capital at a higher expected rate than is realistic in a HF format, and you can lever up your co-invest at most firms. Levered co-invest at such a high rate of return is a huge source of the wealth creation in PE that is probably under-discussed.
Agree that levered co-invest is a huge source of wealth, but disagree that you are reinvesting at a higher rate of return than is available in a HF format. Don't want to turn this into a whole East Side/West Side thing though
Gray Fox,
I invest in both formats, so certainly not trying to east/west side this discussion. That said, the mere fact that you can control/optimize the capital structure in a private equity deal is a massive differentiator and a key driver of equity returns vs. what is available in the public markets. The difference in equity returns realized from investing in the same company at the same price with 60%+ LTV vs. the random structure available in pub mkts (net cash, in many instances) is self-evident. Also, the need in a L/S format to maintain consultant-worthy net exposures of 20% - 60% is a huge drag on long-term returns. Lastly, the tax treatment of PE returns is almost always more favorable than HF returns due to long hold periods.
I have no data to back this up, but my hunch is that the count of PE firms reliably compounding capital at a 20%+ gross pre-tax rate for long (10+ years) periods of time greatly exceeds the count of HFs with similar performance over similar time frames.
A few thoughts: 1) I think you may be overestimating the frequency of huge HF pay days. $14mm is a big payday for a PM at one of the multi-manager shops (or anywhere-see the GS trader suing for a ~$15mm payday).
2) Many funds don't have hurdles which makes some incremental difference
3) A 7-person investment team for a $1bn book isn't especially lean at a platform shop where there's a lot of centralized trading and middle office stuff etc (based on my fairly limited sample size though so will defer to people who have more experience with those structures).
4) Part of the issue here is that a lot of the economics accrue to the management company (not necessarily unfairly). In your example, the entire base fee plus half the incentive fee is actually quite a lot (and DEFINITELY exceeds the back-office/legal/IT etc costs).
Imagine you're running a single-manager fund with no hurdle. You can outsource a lot of the back-office stuff for a fund that size (assuming vanilla strategy). Let's say the entire 2% base fee is eaten up by SG&A though. With 30% gross performance, you need to have an average asset base of ~$350mm to get the same ~20mm+ of incentive fees to spread around.
Really? I thought a +$10m comp for a PM is not entirely out of the norm at large multi-manager funds like Millennium, SAC, etc.
How do you run a +$1bn book, generating $20m mgmt fee and $50m in carry (25% rtn) and with a small handful of an investment team and not even get a fifth of it?
That seems completely out of whack, considering that a PM running a billion-dollar-plus book at one of these shops could very easily setup their own shingle.
That would suggest that if I'm running a $1bn book at SAC/Millennium, the only thing preventing me from opening up my own shingle and making substantively more money is being able to raise a fund that is one-fifth the size of my current book. That seems like too big a spread. I don't see the value proposition for a PM to stay within a larger organization at those economics.
Don't underestimate the difference between money tied up in the fund (carry, coinvest, etc.) that comes in over 10 years towards the end of your career (35-50) vs. even smaller numbers in the millions that come in yearly at a hf and reach your bank account fairly quick.
also at a hf - yes more career risk but at the same time, the industry adapts to the quick shifts so starting somewhere new and get a set up to make money again is easier (get back in a seat). Leaving a pe firm after time means litigation and finding another "set up" where you can run deals which might take significantly longer than getting a new book at a fund...
https://www.calpers.ca.gov/index.jsp?bc=/investments/assets/equities/pe…
I might be making your point here, but CALPERS has been invested in 89 PE funds for at least ten years, and 28 of them have Net IRRs in excess of 20%. Over 30% is quite impressive, and I doubt its the same for hedge funds. Maybe I'm in the wrong part of the playground.
Agree on the numbers. But remember that PE is illiquid and one has to pay a premium for that. Once you are in, that's it. You are stuck for the life of the fund and it is both time and labor consuming to sell a secondary (not to mention potentially expensive). You can always redeem out of a HF and choose another one or do whatever you want with that capital.
Note that I am not even bothering to ask regarding those net IRRs in PE funds, how much of that capital has been realised and how much has not (ie. valuation uplift of unrealised assets).
I'll stay put right over here where we actually have liquidity.
I think pe returns prob are better but u also give the investor 0 liquidity whick makes things easier. If I marked my book once per year and my capital was on lock for 5-10 years I could shoot for a much higher return.
generally hedge funds 9in my experience) dont have hurdles as they are absolute return vehicles.
Here is a realistic breakout for a 1bn fund IMHO...note that there is no typical hedge fund and this can vary greatly:
30% Gross return year....this is a huge year in a 0 rate environment but i will use ur number.
Management Fee: 15MM ( we will assume 1.5% avg mngt fee) Incentive fees: 60MM (20% fee on 300MM)
Accountants/lawyers/3rd party service providers: 1MM Back-Office Staff including CFO and COO: 3MM Other Stuff (office space etc) 1MM
Head of fund: 50MM JR PM 1; 5MM JR PM 2: 5MM JR PM 3: 5MM four analysts total: 5MM
This is all highly variable obviously depending on what everyone does.
what about in a year where the fund loses money? 3rd parties need to get paid, rent needs to be paid, back office has to be paid, and so do the analysts.
same situation, but what if the fund loses 10%, so the fund collects 2% of 900mm or 18mm. I guess I'm curious as to what part of the head PM and Jr PMs comp is guaranteed and which is discretionary from incentive fees? same goes for analysts, I remember from one of BlackHat's posts he said some analysts will get a few basis points out of the total fees collected, but I wonder if they still get comped in a down year?
the management fee will have to cover everything in down year...so on my example above you would have 15MM to cover everything. 5MM for normal expenses plus prob 300k each analyst. Still leaves a nice chunk for the guy running the place. At AUM of 1B the math is pretty darn good just on that coupon...its just getting to that number thats tricky. A 250MM fund if you have a down year you would be firing half the analysts and getting paid not much even as the head honcho.
At a multi-manager shop in a down year you make very little 100-200k...so a PM can easily make 10MM one year and 100k the next and in fact this happens all the time.
Like @"Bondarb" said, operating expenses still get paid out of the management fee but when HF's have a really bad year, or mildly bad years a few years in a row, they can be so far under their high watermark that they don't see themselves getting back to it and close shop, especially at the fund that doesn't have multiple strategies under one roof and even at the big fund families if one or two strategies get too far underwater they may return investor capital and shut down that sub fund. HF's may not have that IRR hurdles but if you're 50% under your high watermark, you need 100% to get back to 0 and some guys just give up at that point (if the investors haven't abandoned them already). That's probably the riskiest part of HF's vs. PE. PE funds can and do blow up but the timeframe in which to correct the bad and the diversity of the portfolio should (and I stress should) allow a PE fund to not lose 50% while that's somewhat easy in a riskier HF strategy.
I definitely think that for your run of the mill PM, the economics are probably worse than for your average partner at even just a middle market PE fund. At a HF, getting balance sheet is tough, the risk management parameters make it tough to hit grand slams, and the splits can vary widely at your firm. By contrast -- take a 5 year 500mm PE fund w/ a 20% IRR...that's $750MM of pnl generated over 5 years; $50MM of management fees, and like $150MM of carry (sure there's a hurdle rate but I'm also ignoring things like deal fees etc), all of which you split between like 3-5 partners...roughly speaking there's $25-70MM of comp to go around per person. Add in the fact that you are probably raising new funds every 3 years (at least you were pre '07, and now it's getting back to that cadence again), and you can see how the waterfalls of money quickly add up. And that's for a small PE fund...and doesn't even include the value of levered co-invests in deals etc.
The flip side is what people said....good luck finding somebody who can make partner at most established PE funds at like 33 these days...the partnerships are all mostly filled up. Conversely, if you join a HF at 25 that has a good rep for promoting internally, has good splits/economics, etc...within 3-5 years you could start making real calls or becoming a PM, and at that point if you are able to perform solidly within the firm's framework you can keep getting more capital so you can end up doing fine, even if it's not PE money.
Hurdle rate is irrelevant when you are making 20% IRR with a catch up provision. The carries are split among more than just the partners thou. Principals/Directors, VPs, CFO and back office, and sometimes associates all participate in the carries to various extents, with the lion's share going to the senior partners who are often the founders. A typically junior partner would get around 5% of the $150m in your example.
A PE guy does get to keep a lot more of his carries than an equivalent HF guy from his incentive fees thou.
This has been a great thread. I'll try to add my basic take on single manager funds. There is a lot more stability, more skew to the founder having huge upside, and probably a lower overall payout to younger guys with much less vol. On a $5bn fund with all of the back office internalized I would see it breaking down like this.
Up 20%, no hurdle, past the high water mark
Mgmt fee: 1.5% (probably a decent chunk of non-feeing internal money at $5bn AUM, some preferred clients): $75mm
Incentive fee of 15% (same logic as above): $150mm
The amount of back office staff necessary to run a fund has grown significantly post Madoff. I would guess a team of 4-5 compliance, 4-5 CFO/accounting, 2-3 marketing, 2-3 IT, and various admins would run $20mm. The CFO and GC would be 10% of that each. This leaves $200mm for the investment team. The analysts would probably get paid in the same ballpark as if they were at a PE fund with a similar amount of experience. There are probably 2-3 guys that bridge the analyst/PM gap that will have more upside/downside based on performance. If there are 6-7 analysts and 2-3 junior PMs I can see this also running $20mm. Throw in rent, audit, legal fees, etc (maybe $10mm) and there is a total of $50mm in overhead. This leaves $175mm for the founding partner. A lot of times you see two or three (more rare) guys who start a fund together and split this. I don't think I've ever seen more than three though, with one being the most common. Even if you are splitting three ways, it works out to $55mm a person plus whatever cap gains on your internal investment are generated.
As people have said before, its really hard to start a fund on your own, but the upside is pretty nuts. For junior guys, there is probably a better chance of making money faster at multi-manager funds, but more risk.
So, clearly, the broad upshot of all this seems to be that there are some clear differences between HF and PE industries in the way the pay is distributed across the hierarchy. That's about all one can state with some degree of confidence. It seems to me that the payout in the HF industry is quite a bit more "top-heavy" than PE. I would propose that this explains why people are willing to live with greater volatility, more challenging lifestyles (not sure about this) and market pressures.
I also feel like both jobs' compensation, especially at the higher levels, is so heavily based on performance that it's tough to generalize take home compensation, at least in the short term. We can talk about a 20% annual gain or a 25% IRR over the life of the fund and X% of carry/incentive going to whatever guy but when performance isn't there, if that's due to the person in the seat at the HF making bad decisions, the timing and/or strategy of the PE fund or HF and the general market conditions, the comp swings pretty wildly down.
I'll talk to the PE side, and take home pay will smooth out over a longer time period because you'll have carry in funds 2, 3 & 4, for example, and doing exits along the way (so individual fund and portfolio company performance won't have as large of an effect on any single year's comp) but compared to HF's, time is measured in geologic terms in PE. If you started getting a decent amount of carry in fund 2 and it was an '05/'06 vintage, you probably bought a bunch of overpriced and overleveraged crap (it was very easy to deploy capital then because you could raise debt with a note from your mom) and there's a chance you may not have beat your hurdle, or maybe barely beat it. Sure, you're picking up the management fees and some deal fees (although LP's have really been cracking down on those post 07/08) but they'll primarily go to the founder level guys and your big score of carry didn't materialize and you spent years working on fund 2. Although no one's going to call you poor, you didn't make the millions you thought you would. Maybe fund 3 in which you have the same or better carry will perform better but fund raising was very difficult from '07-'10 so your firm was only able to raise that and start investing in '11/'12. As a rule of thumb your investment period will be four to five years and you're harvesting after that for up to another 5. You're making money in theory along the way when you realize an investment but you're escrowing it for clawbacks so it's not in your pocket. Maybe you knock a few out of the park early on and have returned capital & the hurdle to LP's so you're in a catch up, let's just say in year 6 and that's when you're starting to see real carry in your pocket. But it's 2017 and you started getting good carry in 2005/06. It's extreme what happened in 07/08 and let's hope nothing like that happens again, but I know a few guys this happened to, at least in the past because I haven't been able to predict the future, at least yet. Hopefully the guy in this example stays involved in funds 4 and 5 also, but at that point you're 20+ years at this firm and probably in your mid 50's. This is all just an example I pulled out of my ass to a degree, but like I said, I know guys that it's happened to. They don't get fired like they do in the HF world unless you royally fuck up, but it's very difficult to move around the PE world at the higher levels. Partner spots are filled.
It may be drastically different in the MF's: I'm in the MM to lower MM space, so most firms have basically 1 fund running at a time (maybe there's a different strategy like a debt or distressed fund but your LBO skills may not transfer to those very well), raise maybe every 3-5 years depending on general market conditions so you're raising when you're substantially through the investment period of the previous fund. Maybe MF's are drastically different but I feel like it wouldn't be too different unless you're Schwarzman himself or someone like Chu who got into BX at such an early stage that he's spread across everything the company does, so discounting people like those two and just contemplating the mere mortal who's made it to a Principal->MD level with decent carry on the one fund he works on at a time, then another, then another, you're stretching your career out over decades. That's why you see so many 50 something year old's in PE.
This is most likely a grass is greener thing but I feel like in HF's you can compress this timeframe greatly. You can also blow up and lose your seat at the large multi-manager fund or you can launch your own fund and blow that up. I'd be interested to hear what happens to the HF guy that happens to: does he have another shot? Can you lose your chair at Millennium and head over to D.E. Shaw (I don't know enough about their strategies to say if they're similar enough that that's possible, but I think they're generally the same size), or if you start a fund that you end up closing can you crawl your way back to AQR and get a job back there or do you go look for a fulfilling career in the food services industry?
Once you're established, it is almost freakish how many second chances (some) people get...the key is getting to the point that you're established, but once you're there, it's not unheard of to be able to try again. There are guys who have absolutely imploded multiple times and it doesn't stop LPs from lining up to give them more money
First off: this is a spectacular discussion. I haven't posted here in a while but this thread got me thinking. Probably the best one I have seen on this site so thanks to all of you.
I agree with most of what's gone before but wanted to add a few observations.
EXPECTED EARNINGS Let x equal lifetime earnings for someone starting a HF job at 25 Let y equal the PE equivalent (assume similar 'caliber' of fund - so far as such a thing exists) (also this example assumes you never quit, but you might get fired) I would guess that e(x) and e(y) are distribute as follows - both are non-normal distributions with long positive tails (obviously) and most of population at bottom end - e(x) is roughly equal to e(y) - x has a longer positive tail than y but also a higher concentration of the popn at low end of distribution - a higher proportion of the absolute value e(x) comes in the earlier yrs of your career (Another way of putting this: X and Y have same MOIC. X has higher IRR. X has higher blow-up risk and lower median)
carry When do you start getting carry in a HF anyway? Is it as ANalyst? My HF analyst friends don't have it but PE assocs do.
CO-INVEST To the person who was talking about levered coinvest: - I don't think levering your carry funding is Accretive to lifetime earnings. It's just Accretive to your personal IRR and means your capital calls require lower 'equity' funding - which is obviously a benefit. Your carry earnings are what they are though, regardless of whether leveraged. - I do agree that if you can lever your side by side investment that is a big source of upside. (Question: assume you get that in HF too?)
TAX Would be interested to know, does the fact you should pay short term CGT on HF carry make a big net difference vs PE, or does everyone structure around that?
WHAT'S THE QUESTION ANYWAY? Firstly - the distinction between PE and HF is not as stark as is often made out here. There are lots of funds operating on the margins and in gray area in between (Centerbridge, Fortress, TPG/GS special sits... There are many more!) Secondly, at some point most ppl want to start their own fund or get out of use industry altogether anyway. So the comparison of a career in large cap PE vs a career in large cap HF? Won't play out that way for 99% of people. It's all theoretical ultimately.
I know embarassingly little about PE so my terms may be used incorrectly, but in my experience large cap HFs dont have co-investment opportunities for junior employees. These type of things happen later on when you start getting to the point where you have made the firm a good amount of money and may have significant amounts of deferred compensation. Even then i havent heard of many people being offered levered opportunities its more like being able to invest with no fees or just having ur deferred comp indexed to the fund with no fees. In terms of being a "partner" and getting part of incentive fees from other peoples' PnL or management fees I believe that is exceedingly rare these days. There are probably better opportunities for more senior people but i haven't seen them yet!
Generally tho the workforce at a hedge fund is too transient to start entwining everyone at the firm together in coinvestment opportunities...these are perks for people who have really become part of the "inner circle" over a period of years. Also, bigger picture they really want the focus to be on making money trading, rather then trying to structure ur PA to benefit from others. The general mentality is just focus on making alot of money trading and worry about the PA and structuring personal finances later.
this thread made me realize how small my dreams are. But thanks for the wake up call!
I'm in my 30s and this thread made me quite butt hurt. I know those guys are the small exception, but would be nice to even have option to retire t 38
The real answer is that the PM will pay his guys only $1 more than the comp level at which they would decide to leave.
Yes this is true and all the above numbers are for producers at successful funds. But of course people like Allan Howard didnt get to be billionaires by overpaying for people who dont make him money...he isnt running a charity for wharton graduates and he isnt running a training program. junior analysts in my experience at these type of funds are actually paid slightly below street-equivalent b/c they will take less for the chance to work at someplace that has such upside down the road.
This isn't really a wishful thinking thread - most, if not all, of the conversation has been focused on what guys who get to PM level end up making when they are there. So those aren't your analysts anyways.
As far as analysts go - I don't actually believe in your philosophy, and from what I can tell it's not as common as you might think. It comes down to whether a PM actually believes his analysts are real value adds or just replaceable commodities. This industry is too competitive with not enough real talent that if you actually have talent, over time it gets recognized or people who have it migrate to places where it will be.
Agree in principal, but junior guys at some of these funds have made a fuck load of money in banner years. For a newly hired junior guy at a fund that is supposed to make $500-600k, but ends up getting a $1.0m payout... that's far from an order of magnitude step up, yet still a ridiculous upside to what base expectations were/are. At the end of the day, its a zero sum game and spreading love around to the junior guys means less love for the PM to take home but if you have a high quality team and want to keep them around, you'll need to throw them a bone when the the P&L is flush.
This is really too much of a sweeping generalisation. Sure, I am aware of many places where analysts are neither compensated well, nor offered the possibility of genuine advancement. However, this is a rather self-defeating strategy and such analysts, if they're smart, are easy pickings for places like mine. Personally, as far as I am aware, I compensate people who work for me fairly and they feel that they participate meaningfully in all sorts of upside. Still, there's undoubtedly a large discretionary element to it, which means there's always scope for disappointment.
Marcus - if the analyst is getting a bump from 500k-1m, think of how much the major PMs are taking in... Also remember that in the HF world one's fate can change very quickly. As Christian Siva Jothy said "In this business, you are only as good as your last few trades."
So in other words, keeping the team together may not be seen as important when you know that next year that you could lose a lot or all of your capital and so therefore should take what you can get today (unlike PE where one can take fees for years).
I think we're saying the same thing re: PMs taking the lion's share of upside.
My point was directed at tempaccount's comment about not getting meaningful upside unless its contractually stipulated. My point was that going from $500k expectation to $1m+ is pretty fucking meaningful. And so throwing the junior guys a bone and keeping them happy doesn't have to mean increasing their comp 10-fold.
Yep - we were saying the same thing, just in different ways.
"So in other words, keeping the team together may not be seen as important when you know that next year that you could lose a lot or all of your capital and so therefore should take what you can get today (unlike PE where one can take fees for years)."
Maybe I'm taking the wrong POV on this and HF guys are different, but I'd rather pay an extra $500k to junior guys to keep the team that allowed me to have a great year together. I'm sure some analysts or associates (I'm not really sure what the specific titles or roles are in HF's) will still feel like they didn't get what they deserved if they make $1MM and thought they were getting $500k because the PM made $15MM but that type is leaving as soon as they can and are probably not realistic in compensation levels for junior level employees regardless.
I'm curious in HF's: someone earlier mentioned that a PM can make $10MM one year and $100-200k the next depending on performance. Are PM's typically 100% (or near) performance based? I can tell you that's not the case in PE. You hope most of your comp is from carry but you definitely don't make $0, ever.
I have already mentioned what I think of the PNL volatility issue. PM pay is normally nearly 100% performance based, but obviously there are always other elements (e.g. some fixed salary, (under)performance of your (potentially levered) deferred, etc).
typical structure at a multi-manager platform is 100-200k draw (not salary but draw meaning that it is just an advance that counts against your PnL gains) and then somewhere between 10-20% of your profits trading. So if you make no money in a given year you keep that 100k but then the next year you have to make 1MM (assuming a 10% payout for simplicity) to pay it back before you get paid. So it is literally 100% performance based....one can easily make 8 figures one year and nothing the next and in fact even great traders should expect top have this happen to them at some point in their careers and plan accordingly. Now that said you would be getting deferred comp from previous years so your bank account would optically be growing but in that year you would have made 0 new money...dont get into trading unless you are prepared to sometimes work very hard, deal with alot of stress, and for periods of time have little, nothing, or even a negative balance to show for it!
Christian Siva-Jothy is a blowup artist and always has been. IMHO, he's one of those people that have been discussed earlier and I am not really sure I would listen to him on anything related to trading. This is just my opinion, based on skimming through the chapter in Drobny's book, C S-J's record, as well as what I've heard about him in the mkt.
In my view and based on my experience, if you're a high-quality risk-taker and not a chancer, your fate will NOT change very quickly.
Heh - I figured that quote would bring out some sort of reaction. It has nothing to do with CSJ and more to do with the nature of the market and its fickleness (which we have discussed here earlier, I think). And that is, unless you are the top of the top in the HF world (money and returns - we can argue about that correlation later), your money as a HF manager can be gone tomorrow - that's all that I wanted the quote to illustrate... Plus the quote was from his final letter to investors of Sempermacro when he shut shop (I googled it - yay for me)
Unlike in PE, where money is locked up and you can take fees for a while.
Aside on CSJ - I've met the guy twice. Nice dude. I think he was probably best served (like many others) to sit pretty at a prop desk with its different parameters and demands (I know nothing about how patient banks were with their prop guys or how it worked) rather than be a standalone fund manager and have to run an actual business, deal with logistics, investors, regulations, office space etc etc etc.
i agree w martinghoul in terms of PnL...especially in liquid markets blow-ups are not some excusable thing that happens occasionally to good traders...they can be avoided and are by people who are good. However investor money is another matter...u can have great returns but if an investor ios getting shredded on other stuff that isnt as liquid u might find ur fund used as an ATM despite good performance. So the PnL can be controlled but the capital cannot always be...
What's an example of someone you'd classify a high-quality macro risk-taker in contrast to CSJ? Preferably someone not unknown so people have some idea of the profile you're describing.
The only issue I have with your assessment is: ex ante - that is, pre-Semper Macro and associated blowups - how many people could have looked at CSJ's process (e.g. whatever data points you could extract from Drobny's book) and said, "this is bad and he will likely blowup"? If his calls had gone the right way and he had put them on in enough size (which it sounds like he did) then I could see him getting the kind of acclaim someone like Soros does.
All I'm saying is, it seems very easy to say "this was a good macro risk taker" ex post after the calls have played out, and pan them if they blow up.
every pm is different in terms of upside for junior people...some are very fair and some are very much not. I have literally seen PMs get jr people fired because the jr guy had a claim on a signifigant amount of PnL and didnt readily accept getting totally hosed...for some people it just comes down to, "why would i give that large amount of money to someone else when I'm in a position to just take it all myself and nobody will even care?". I am not saying this is the norm, and i have seen good stories also, but when lots of money is at stake people will sometimes do fukked up things to get it into their bank account and not someone else's....so outside of a contractual garuantee anything is possible.
Most of these estimates seem a bit high on comp. I think the amount of back office / services required is being underrated here. Also, as some other users have pointed out, flow through of cash is sometimes optimistic.
Fantastic thread... takeaway seems to be starting a fund is hard, and big fish will eat.
This conversation appears to have deviated from its original intent, but just to add my two cents to some of the recent posts:
Liquidity is a net negative in a hedge fund context because: 1 Having market liquidity compels you to add "short term capital gains" -- or even just "more taxes with greater frequency" -- to your already extensive list of performance handicaps (low net exposures, high fees, suboptimal capital structures for equity guys, incomplete information, many market participants resulting in meaningfully higher valuations, etc). The brutalizing impact of taxes on investment results is infrequently discussed given that the convention is to show net/gross returns pre-tax. I just did some quick math and for context, a 10% net IRR on a 5-year hold of an index fund is equivalent after tax to a 12.5% net IRR over the same time frame composed of many shorter term holdings. And in a HF context, to get a 12.5% IRR (assuming just a 20% promote, no mgt fee), your gross IRR needs to be more like 15.5%. Good luck outperforming your index by 55% with 40% net expousure, ye snake charmers. 2 Having market liquidity and fund liquidity also means that you are the first call LPs make when they manically decide to raise cash because of who knows what. Being subjected to LP trade winds that tend to compel you to buy high and sell low is just one more shitty thing about the hf business.
Why would you give a hedge fund manager a 10 year lock-up when you could give the same money to a PE firm and get systematically better returns at lower tax rates?
Yeah...this is pretty much 100% off the mark.
-1, not necessarily for any of your comments, but for the terrible euphemism "ye snake charmers"
Does anyone have a good handle on deferred comp at HFs? For ex. if you get $500k bonus as an analyst, how much of this is deferred and what is the normal vesting period? Does the deferred portion grow for more senior guys? My sense is that they are locking you up less than the public AM firms, but not sure exactly...
It's nearly impossible to generalize.
Based on my experience, the proportion of deferred definitely scales w/seniority. For an analyst with a $500k bonus, I would imagine the share is smth like 0 - 20% only. For a PM, it's closer to 50%. Vesting period would vary, obviously, but I have observed arnd 3 - 5 years.
That's helpful, thanks. My MF firm defers 35% of bonus (at all levels of seniority), vests over 3 years. It's not a problem for now, but in a couple years that's going to be a big disincentive to leave, which is annoying. I guess this explains why nobody ever leaves...
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