New hedge funds need $300 mln in assets just to break even

Date: Tuesday, December 10, 2013
Author: Reuters

Traders launching a hedge fund need to raise at least $300 million in assets to pay for rising regulatory costs and to offset lower fees, a survey showed, a far cry from the pre-crisis days when managers could start with tens of millions.

According to the survey by Citi, hedge funds now charge annual management fees of as low as 1.58 percent of assets, down from the traditional 2 percent that larger funds still command.

Added to this, compliance and regulatory costs have risen because of new rules such as the Alternative Investment Fund Managers Directive in Europe and Dodd-Frank legislation in the United States.

"Fee compression continues to reshape the business of hedge funds, lowering fees even as expenses rise, all but eliminating fee-only operating margins, and raising the level of assets needed for a hedge fund business to succeed," said Alan Pace, Global Head of Prime Brokerage and Client Experience at Citi.

The findings underline the diverging fortunes of hedge funds today. While larger firms have sucked in the bulk of new cash flooding into the industry from institutional investors, smaller funds have struggled to raise assets.

The structure of hedge fund fees - typically an annual 2 percent management charge and a 20 percent performance fee - also means bigger firms can enjoy huge revenues and absorb increased regulatory costs even without generating positive returns for their clients.

By contrast, until smaller funds break the $1 billion in assets mark, they will struggle to cover expenses from management fees alone, the survey showed, meaning managers must increase assets and produce a positive performance or subsidise a loss-making business.

The situation is worse in Europe, Citi said, where company expenses were at least 20 percent higher than for U.S. firms and managers are worrying more about upcoming regulations.

The study surveyed 124 hedge fund firms representing $465 billion, or 18 percent plus of total industry assets.