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Two-and-20 Cedes Way to No Fees Upfront as Hedge Funds Adapt (1)

(Bloomberg) -- Three Asian hedge fund startups are eschewing the industry’s traditional fee model, as they vie for capital from investors that have gotten increasingly reluctant to put money with unproven managers.

Kit Trading Fund, Noviscient and Gordian Capital Singapore Pte, all based in Singapore, are among firms that are starting to do away with the 2 percent management fee and 20 percent of all profits -- also known as the 2-and-20 model.

Noviscient plans to start a fund that will charge investors no management fees and will absorb the first 5 percent of annual investment losses, moves almost unheard of in an industry known for levying the highest fees in the money management business. Gordian will take a performance fee only if returns exceed a certain benchmark. Kit Trading also has lower-than-average fees, while insulating clients from some declines.

“Increasingly these days hedge fund startups have to come up with innovative fee structures in order to attract capital and achieve critical mass,” said Melvyn Teo, professor of finance at Singapore Management University. “The key is to protect investors from some of the downside while still ensuring that the manager shares enough of the upside so that the business remains viable and attractive to the manager.”

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Hedge funds have been facing an investor revolt over high fees after years of lackluster returns, drawing criticism from some of the top names in finance. Billionaire investor Warren Buffett last month estimated in his annual letter to Berkshire Hathaway Inc. shareholders that investors wasted more than $100 billion on high-fee money managers over the past decade.

While fledgling firms are typically the most flexible when it comes to fees, even well-established managers are making more concessions under pressure from investors. Winton, Caxton Associates and Tudor Investment Corp. are among hedge funds that have cut some fees as investors pulled the most money from the industry last year since the global financial crisis. Billionaire Alan Howard is seeking 30 percent of the returns from his new hedge fund, called Brevan Howard AH Master Fund, although is charging a lower-than-average 0.75 percent management fee.

To read about Eton Park Capital shutting down, click here

Returns from hedge funds globally have failed to keep pace with the broader market since the global financial crisis. While many hedge funds don’t necessarily aim to beat stocks, muted returns have made it hard for managers to justify their high fees.

Investors added $7.9 billion to the global hedge fund industry in February, breaking a five-month streak of withdrawals, according to data tracker eVestment.
Noviscient was founded by Scott Treloar, a former chief risk officer of Singapore-based Vulpes Investment Management. Noviscient’s fund, which uses computer models to trade stocks, futures and currencies, and will charge 20 percent of gains for the first 10 percent of profits, splitting the spoils equally with investors after that, Treloar said in an interview.

Instead of hiring managers from established shops, Noviscient will partner with traders with a non-traditional asset-management background, Treloar said. The partners contribute trading ideas to the fund for a 25 percent cut of profits before performance fees, he said.

Hedge fund platform Gordian, which has other funds with the traditional fee model, this month launched its Quadratus Fund. The fund focusing on asset allocation across equities, fixed income and currencies by mainly investing in exchange-traded funds, certificates and derivatives, according to an emailed statement.

The fund, managed by former Banco Santander SA executive director Adrien Blavier, charges a management fee of 1.25 percent and a performance fee of 15 percent for returns exceeding a global benchmark of stocks and bonds. The fund opened with $25 million of assets.

‘Aligning’ Interests

“With my significant investment in the fund and a deliberately competitive fee structure, I’m demonstrably aligning my interests with those of investors in the fund,” Blavier said in the email.

Read more: A QuickTake explainer on the investor revolt at hedge funds

Another vehicle straying from the traditional hedge fund fee structure is Singapore-based Kit Trading Fund, a firm led by Michael Downer, that’s part of Vulpes Investment Management. The fund charges a management fee of 1 percent of assets and a 15 percent profit split, while also insulating clients from some declines. Traders joining Kit Trading need to inject their own money and typically bear the first 2 percent of the fund’s losses, Downer said.

In addition, investors have the choice between two share classes. One offers lower risk and lower returns, with a some protection against losses and a smaller slice of profits, and the other offers less downside protection and a higher participation in gains, Downer said.

Kit Trading returned 17 percent in 2016 and was up 5 percent through the end of February, according to Downer.

Myriad, Ortus

Other funds in Asia are also crafting alternatives to the traditional model. Myriad Asset Management, which manages more than $4.1 billion, added a new share class in its hedge fund that charges the greater of a 30 percent cut of profits or 1 percent of assets under management. Ortus Capital Management in July started a fund that takes a 33 percent share of profits without charging any management fee.

“There is a widespread feeling that the traditional hedge fund model, where investors bear the losses and share the gains, no longer works,” Kit Trading’s Downer said. “Our job is to better align investor interest with that of managers.”

(Adds details about investor flows in eighth paragraph.)

--With assistance from Melissa Cheok

To contact the reporters on this story: Klaus Wille in Singapore at kwille@bloomberg.net, Bei Hu in Hong Kong at bhu5@bloomberg.net.

To contact the editors responsible for this story: Sree Vidya Bhaktavatsalam at sbhaktavatsa@bloomberg.net, Darren Boey

©2017 Bloomberg L.P.