I am hoping to get some insights on structuring the compensation structure at our newly formed "hedge fund".. A quick overview of our setup: The family has recently had a liquidity event for our family owned business and have consequently setup the family office on the back of the event. The SFO is focused on PE ($60Mn); RE ($50Mn); and a hedge fund ($20Mn), taking positions in single line equities, commodities, or other opportunistic liquid assets – long and / or short. We have other assets, but are not part of our mandate. We are a lean team – I work alongside a family member and an analyst, and am trying to put together a compensation structure. The proposed structure for each director:
* Base: $170K
* Bonus: None
* carry: 20%
* Hurdle: 10% (S&P500 / MSCIW generating annual returns of 10% over 30 year period – the family can put a dollar there and expect such returns over the long run; we have been able to generate significant alpha over the past year and think we need to beat either benchmark at a pure minimum)
* Catchup: 80% vs. 100%
We are very fortunate to be in this position, but as you can imagine, this is a touchy topic particularly as I am dealing with family. My background is in private equity, and am used to a healthy base, bonus of 50%+, and the 20% carried interest with a 8% hurdle.
I am seeking, given the conservative base, thoughts on: 1) how common is a bonus with such a structure (or at a HF); 2) is the hurdle rate too aggressive (or justified) and your rationale; 3) and the appropriate catch up level. Thanks in advance!
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I'll leave it to the actual pros to respond to the rest, but just a comment on the hurdle rate:
As I'm sure you're aware, by the original definition of a hedge fund (as in, hedged fund), beating the S&P year-on-year isn't a priority - it's about limiting drawdowns and giving stable returns. I think many of us would agree that a fund that generates high alpha with minimal reliance on beta doesn't need to beat the S&P year on year - such a fund would be beating it over the long term.
This of course, is related to your time horizon. I'm not sure if the industry does this, but I'd also differentiate hurdle rates by strategy - high hurdle rates for high risk strategies may, for example, deter unnecessary risk-taking and encourage true (as opposed to just for show) risk-return optimization.
Also, I'm not sure about the economics of the fund itself, tbh. At just $20m for the hedge fund, I'm not sure the expense ratio of running it from an economics of scale perspective is too wonderful.
Once again, feel free to completely ignore what I said. Prospective monkeys don't actually know anything!
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