Recently, some one wanted to check with me the ‘terms’ of a portfolio management scheme being offered by a broker.
As per the offer, the portfolio manager would be paid management fees whenever he beats the ‘hurdle’ rate. And this was an ‘annual’ measurement rather than a full period one. What it means is that let us say that in year one, the portfolio dives 20%, the manager gets no money. In year two, if the hurdle is ten percent and the fund value moves from 80 to 91, he will get management fee!! The portfolio is still under water.
SEBI should look in to this. Fees which are based on performance, should be calculated at the end of the term or exit. Hurdle rates, should be compounded. For instance, if the hurdle rate is ten, then it should be taken to understand that the goal post is a ten percent CAGR.
Addendum” A gentleman pointed out that as per law, there is something called ‘high watermark’ which actually covers this. I am not very sure, but if that is so, I stand corrected. I however strongly believe that the fee should be taken when the investor exits rather than annual basis.