The boomtown atmosphere and exorbitant compensation of past years are becoming faint memories for many in the hedge fund industry.
"All bets are off right now around comp for hedge fund managers," says Jane Abitanta, president of New York City based Perceval Associates, a leading hedge fund consulting firm. "As many funds are experiencing unprecedented redemption pressure, there is a great deal of uncertainty in the industry."
The average hedge fund was down 17.6 percent this year through Oct. 21, 2008, according to Hedge Fund Research. Some, particularly those funds in distressed styles or areas that use credit derivatives, are posting positive numbers, but mostly modest, single digits returns.
Weak Returns Drain Incentive Pay
"The days of inflated hedge fund returns are over," says Scott Gerson, president of Focus Capital Markets in New York, an executive recruitment firm which specializes in placing technology professionals in financial roles. "The majority of funds are not doing well this year, and that means there's nothing in terms of compensation for the managers."
Typical compensation for hedge funds is a combination of a set management fee and a performance fee. In the industry, this is known as "two and twenty," referring to the generally accepted 2 percent management fee and the 20 percent performance fee, based on the fund's profits. This structure has handsomely rewarded even managers with mediocre performance. Some with well-known brand names even managed to push the envelope, charging investors 30 percent or even 40 percent of the returns they generated.
In heady times, investors were willing to pay such steep fees for management and double-digit performance. Now, with performance in negative territory, few are interested in ponying up 2 percent management fees.
Many funds have "high water marks," which means they must regain performance from its highest point before charging the performance fee, rather than be compensated for making up lost ground. With funds posting such dismal numbers, many managers are realizing it may be a long time before performance fees are possible again.
Residual Hiring In Selected Niches
Scott Ruoti, an executive recruiter with Harmer Associates in Minneapolis, says it's been a tough year for hedge funds and funds of funds. "It may the end of the era of high flying hedge funds," he says, though his firm still sees some hiring activity despite the overall distress in the industry.
"Many of the major firms are struggling, but there is still some hiring," he notes. "It is not a lot, but we see opportunities for people who have experience with distressed debt, mortgage markets, or very specialized areas."
While compensation for professionals entering this industry is uncertain, Ruoti observes firms are still willing to pay a premium to attract candidates in these particular areas.
Gerson agrees, saying his firm continues to place candidates in technology oriented strategies. "There is still demand for quants who do high frequency or arb strategies," he says, as well as some hiring in distressed or credit-oriented funds. He sees some movement of managers from banks to privately held firms where the owners will pay the manager a base salary plus a percentage of their return. "If you were making $350,000 to $500,000 at a bank, then there is still considerable potential upside in moving to one of these funds," says Gerson.
There has been considerable speculation about what types of regulation might required of hedge funds going forward. While debate over regulation continues, nothing has been resolved. "Regulation could reshape the industry," says Abitanta, "and compensation going forward will remain to be seen."