The way high-water marks work
A “high-water mark” is defined as the highest previous value reached by a fund’s cumulative return, but it is best illustrated by an example.
Suppose an investor puts £1m (€1.1m) into the fund and, after three years, the value of this investment reaches £1.4m. The fund manager can charge performance fees of 20% of the £400,000 gain, or £80,000 over the course of these three years.
Suppose then that, as soon as the fourth year begins, the fund makes losses, taking the value of the investment down to £1.1m by the end of that year. Unsurprisingly, there will be no performance fees for the manager that year. But what happens next is where the rule about the high-water mark kicks in.
The idea is to ensure that the manager cannot charge fees simply for recovering its own losses. So, even if, in the fifth year, the manager turns the value of the investment from £1.1m back up to £1.3m, it will not be allowed to charge performance fees.
In fact, the manager will not be allowed to charge performance fees until the value of the investment has gone all the way back up to £1.4m: the value of this fund’s high-water mark.
del.icio.us
Digg
Newsvine
reddit
StumbleUpon