For a hedge fund, what is referred to as the high-water mark?

The concept of the high-water mark is crucial in the context of hedge fund performance and compensation. It refers specifically to the maximum level of the fund’s net asset value per share that has been achieved and on which performance fees were previously assessed. This mechanism ensures that fund managers are rewarded for performance only when they exceed previous peaks in fund value, thereby aligning their interests with those of the investors.

When the fund performs poorly and its value drops, the high-water mark remains in place, meaning the manager will not earn performance fees until they exceed the previous peak value established. This process helps protect investors, as it prevents managers from earning additional fees during periods of underperformance.

Understanding the high-water mark is essential for investors when evaluating the fee structures of hedge funds and assessing how managers are incentivized to manage fund performance effectively. Thus, recognizing the high-water mark is an integral part of understanding the compensation structure that is designed to align interests between hedge fund managers and their investors.