To earn the performance fee, Capital Dynamics must deliver net returns of 6% on (1) a single year and (2) on a compound bases. The 2nd hurdle rate is actually on a COMPOUNDED basis. He pointed out how tough it is to compound 6% per annum PERPETUALLY.
He lamented how some supposedly smart investors do not even know that this 6% compound hurdle rate is a high water mark and that it is the toughest high water mark anywhere in the world. In his newsletter: "Any investor who scoffs at 6% compounding is either dangerous gambler or a conman."
There was a recent write-up in AhYap's blog stating his concern over the hurdles used by Capital Dynamics and how these severely impaired the returns of those who are invested in their funds; particularly during periods of high volatilities.
Perhaps, there should be added: 1 further hurdle and 1 extra condition.
(1) A third hurdle that the performance fee is only charged when the NAV per unit of the fund exceeds the highest reached in previous years.
(2) Another condition is on how the 20% performance fee is calculated. This calculation should not be solely based on last year's NAV. The 20% performance fee can be based on either the excess return above the 1st hurdle, the 2nd hurdle or the 3rd hurdle; always using the lowest excess value of these 3 hurdles in calculating the performance return.
In my opinion, AhYap's argument is sound, reasonable and his concern is valid. Capital Dynamics has not addressed this concern adequately. Hopefully, they will. Will they?
An example using the 3 hurdles approach and calculating the performance fee based on the lowest excess value of these 3 hurdles.
https://spreadsheets.google.com/pub?key=0AuRRzs61sKqRdFZFTkRqUU1HYWpOeXNaam42OWp2TFE&hl=en&output=html
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