How are hard and soft hurdle rates different?
I keep seeing hedge fund fee problems where the hurdle can be hard or soft. I know both involve a minimum return, but I do not know how the fee base changes.
A hard hurdle excludes the hurdle return from the performance fee base. A soft hurdle acts more like a trigger: once the required return is met, the fee can apply to the full specified profit base.
Suppose beginning capital is USD 100 million, the value before performance fees is USD 114.26 million, the hurdle is 5 percent, and the performance fee is 15 percent.
- Hard hurdle fee base: USD 114.26 million - USD 105.00 million = USD 9.26 million.
- Hard hurdle performance fee: USD 1.389 million.
- Soft hurdle fee base: USD 114.26 million - USD 100.00 million = USD 14.26 million.
- Soft hurdle performance fee: USD 2.139 million.
The soft-hurdle fee is larger because the hurdle does not reduce the profit base once the hurdle has been met.
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