Are Performance Fees Fair for Syndicate Investors?
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The Argument Against Performance Fees
If fund managers and syndicate managers do not outperform their benchmark, they continue to get their standard fee, even if they have to forego their performance fee.
We like performance but we do not like performance fees. There are fund managers, who charge a fee for management, but then on top of that, they charge another fee if they get returns above a certain level.
We object to these “performance fees”. Some fund managers will say they should have a performance fee to motivate them: in the jargon, the fund managers’ interests are aligned with their investors.
I think that argument needs to be exposed for the nonsense that it is.
Like everyone else, fund or syndicate managers should be paid for doing their job. You do not pay your accountant a “performance fee” because of their advice reduces your taxes, nor pay your plumber a bonus because of the pipe no longer leaks (imagine a plumber saying that he was charging more so that his interests were aligned with yours!)
Fund managers should do their jobs as well as they can and charge a fair fee for their work. A fund or syndicate manager should try to beat market benchmarks without expecting a bonus for doing the job well. If the job is well done a fair fee should be motivation enough for anyone.
Also, remember that investment performance is about two things. Investment performance encompasses the returns that a fund or syndicate manager gets but, just as importantly, the risk that the manager takes on. We have said before that high returns are easy: managers can simply take on more risk to get higher returns.
After all, fund and syndicate managers do not put their own money at risk – to get that extra fee, it is your money that is risked. Fund managers can often beat their benchmark and get their performance fee, but it is your money that suffers when there is a loss.
We do not know of any fund manager who refunds fees in the event of poor performance. If they do not out-perform their benchmark, they continue to get their standard fee: they may have to forgo their performance fee, but they never refund investors because they have done badly.
From a manager’s point of view, performance fees are a one-way bet. They get an extra fee if things work out well, but do not refund when they mess up.
In any event, the motivation for performance only works on returns. There are some markets when motivation to lower risk might be more in the investors’ interests.
These fund or syndicate managers may care little for risk with their investors’ money – they have only incentivized themselves on the returns side of the ledger.
Very few other industries charge a fee for performance; for most, good performance for a job is taken as a given. Fees, whether for a doctor, accountant, plumber or a fund manager should always be reasonable, fair and transparent.
Management fees that are transparent and managers who have skin in the game are most likely to benefit the investor’s interests.
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