Alternative Investments - Alternative Investments Section 1

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47. Cole Hedge Funds had an invested capital of $100 million. It earned a return of 25% in the first year. Given that it follows a 4 and 20 fee structure, and calculates the incentive and management fees independently, the net return for the investors is closest to:

  • Option : B
  • Explanation : Management fee = 100 * 1.25 * 0.04 = 5 million,
    Incentive fee = (100 * 1.25 - 100) * 0.2 = 5
    Return = (100 * 1.25 - 100 - 10) / 100 = 15%
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48. The management fee for hedge funds is based on:

  • Option : C
  • Explanation : The management fee for hedge funds is based on assets under management.
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49. IFT Capital is a hedge fund with PKR 100 million of initial investment capital. IFT charges a 2% management fee based on assets under management at year-end and a 20% incentive fee. The hurdle rate is 10% and the incentive fee is based on returns in excess of the hurdle rate. The incentive and management fees are calculated independently. The fund has a return of 30% for the first year. What is an investor’s net return given this fee structure?

  • Option : B
  • Explanation : Step 1: Calculate the management fee.
    Value of investment at the end of first year (after return)
    = 100 million * 1.30 = 130 million,
    Management fee = 130 million * 0.02 = 2.6 million
    Step 2: Calculate the incentive fee
    Given a 10% hurdle rate, the amount to consider for the incentive fee
    = 30 – 10 = 20 million
    Incentive fee = 20 million * 0.20 = $4.0 million
    Total fees earned = 2.6 million + 4.0 million = 6.6 million
    Investor’s net return = (130.00 - 6.60) / 100 = (123.40 / 100) - 1 = 23.4%
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50. A hedge fund had invested capital of 200 million on which it earned a return of 35% in its first year. It follows a 2 and 20 fee structure and calculates the incentive net of management fees. The total fee for the hedge fund in the first year is closest to:

  • Option : C
  • Explanation : Invested capital = 200,000,000
    Value of fund after a year = 200,000,000 * 1.35 = 270,000,000
    Management fee = 270,000,000 * 0.02 = 5,400,000
    Incentive fees = (270,000,000 – 200,000,000 – 5,400,000) * 0.2
    = 12,920,000
    Total fee = 5,400,000 + 12,920,000 = 18,320,000.
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