I began thinking about hedge fund returns. Since hedge funds need to maintain liquidity, let's assume a hedge fund only deploys about 85% of its AUM at once. Let's assume 0.2% for fund expenses, a 2% management fee and 20% carried interest:
Cash Liquidity: 15%
Assets Invested: $85
Fund Exp: 0.2%
Carried Interest: 20%
Remember, funds need to maintain liquidity and cannot be fully invested. Let's assume a fund only invests ~85% of its assets. Let's assume a fund has $100MM of AUM. In order to make $20MM (i.e. a 20% return before any fees), it needs to hit a 23.5% return on the $85MM invested. After fees, that 23.5% gross return on invested capital (20% overall) only works out to a 14.24% net return. So in order to hit a 14.24% return, the fund needs their investments to generate returns of 23.5%.
Return on Invested Capital: 50% 40% 30% 20% 10% 5%
Net Return to Investor: 32.24% 25.44% 18.64% 11.84% 5.04% 1.64%
This also completely debunks efficient market hypothesis. This means that funds performing as well as the market are in fact significantly outperforming the market (considering all the fees they take) and the fact that they are never fully deployed.
I have two questions:
a) When you read that Abrams Capital or Baupost have 15% net returns; does this mean since they sit on like 40% cash and only deploy like 60% of AUM, that their returns on deployed cash are like ~40%?
b)people, how much cash does the average hedge fund keep not deployed at all times?