Risking or De-Risking: How Management Fees Affect Hedge Fund Risk-Taking Choices

88 Pages Posted: 17 Jan 2017 Last revised: 15 Jun 2020

See all articles by Chengdong Yin

Chengdong Yin

Purdue University - Krannert School of Management

Xiaoyan Zhang

Tsinghua University - PBC School of Finance

Date Written: June 12, 2020

Abstract

Hedge fund managers’ risk-taking choices are determined by their compensation structure. Most existing studies focus on how the incentive fee and the high-water mark provision affect managers’ risk-taking. We build a simple model to show that managers’ risk-taking is negatively related to their future management fees. Using fund-level data, we calibrate the present value of managers’ future compensation and find that the management fee is the dominant part of managers’ total compensation. When the contribution of future management fees to total compensation increases, fund managers, especially those of large funds, reduce risk-taking to increase survival probabilities and protect future compensation.

Keywords: Hedge Fund, Risk-Taking, Incentive Fee, Management Fee, High-Water Mark

JEL Classification: G20, G23, G29

Suggested Citation

Yin, Chengdong and Zhang, Xiaoyan, Risking or De-Risking: How Management Fees Affect Hedge Fund Risk-Taking Choices (June 12, 2020). Available at SSRN: https://ssrn.com/abstract=2899834 or http://dx.doi.org/10.2139/ssrn.2899834

Chengdong Yin (Contact Author)

Purdue University - Krannert School of Management ( email )

1310 Krannert Building
West Lafayette, IN 47907-1310
United States

Xiaoyan Zhang

Tsinghua University - PBC School of Finance ( email )

No. 43, Chengdu Road
Haidian District
Beijing 100083
China

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