Explanation:
A. Incorrect because it assumes the management fee and performance fee accrued for the two-year cumulative return rather than on year-by-year basis: Management fees for two years = 100 × 2% x 2 = 4.0 Performance fee for the two years = (110 - 4 - 100) × 20% = 1.2 Total fees to the hedge fund manager = 4.0+1.2 = 5.2. B. Incorrect because it includes a clawback of performance fee in Year 2: Management fee for Year 1 = 125 × 2% = 2.5 Performance fee for Year 1 = 125 - 2.5 - 100) × 20% = 4.5 Assets under management (AUM) at beginning of Year 2 = 125 - 2.5 - 4.5 = 118 (high-water mark) Management fee for Year 2 = 110 × 2% = 2.2 Performance fee for Year 2 = 110 - 2.2 - 118) x 20% = -2.0 Total fees to the hedge fund manager = 2.5+4.5+2.2-2.0 = 7.2 C. Correct because: Management fee for Year 1 = 125 × 2% = 2.5 Performance fee for Year 1 = (125 - 2.5 - 100) x 20% = 4.5 Assets under management (AUM) at beginning of Year 2 = 125 - 2.5 - 4.5 = 118 (high-water mark) Management fee for Year 2 = 110 x 2% = 2.2 As the fund has a loss in Year 2 and the AUM falls below the high-water mark, there is no performance fee for Year 2. Total fees to the hedge fund manager = 2.5+4.5+2.2 = 9.2
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An analyst gathers the following information about a hedge fund established at the beginning of Year 1:
| Assets under management (AUM), beginning of Year 1 | $100 million |
|---|---|
| AUM, end of Year 1 | $125 million |
| AUM, end of Year 2 | $110 million |
| Management fee (calculated on end-of-year AUM) | 2% |
| Performance fee above high-water mark (calculated net of fees) | 20% |
The cumulative fee (in $millions) earned by the hedge fund manager for the two years is closest to:
A
5.2
B
7.2
C
9.2
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