> Suppose the benchmark falls 70% and the hedge fund loses 50%. Your hedge fund manager has lost half your money, but has beat the benchmark by 20% (i.e. "positive alpha"). How does a fee based on alpha work in this case?
Some percentage of 20%, the amount by which the fund outperformed the benchmark. This makes total sense to me, at least. Or rather, it's no more nonsensical than letting the fund manager take a cut of all the assets under management, win or lose, which is a common compensation strategy and has never seemed remotely reasonable.
You obviously need a way of compensating the fund manager during a bear market, or else you're going to have your staff leave as soon as the market starts declining, because they won't be getting paid. So any scheme that doesn't pay the fund manager for losing less money than the dead-hand benchmark is pretty severely flawed.
Some percentage of 20%, the amount by which the fund outperformed the benchmark. This makes total sense to me, at least. Or rather, it's no more nonsensical than letting the fund manager take a cut of all the assets under management, win or lose, which is a common compensation strategy and has never seemed remotely reasonable.
You obviously need a way of compensating the fund manager during a bear market, or else you're going to have your staff leave as soon as the market starts declining, because they won't be getting paid. So any scheme that doesn't pay the fund manager for losing less money than the dead-hand benchmark is pretty severely flawed.