Role of managerial incentives and discretion in hedge fund performance

Agarwal, V, Daniel, N D and Naik, N (2006) Role of managerial incentives and discretion in hedge fund performance. Working Paper. London Business School BNP Paribas Hedge Fund Centre Working Paper Series.

Abstract

Using a comprehensive database of hedge funds, we examine the role of managerial incentives and discretion in the performance of hedge funds. We find that hedge funds with greater managerial incentives as proxied by delta of optionlike incentive fee contract, managerial ownership, and highwater mark provision are associated with superior performance. Incentive fees have no explanatory power for future returns. We also find that funds with higher degree of managerial discretion, proxied by longer lockup, notice, and redemption periods, are associated with superior performance. Our results are robust to various alternate specifications including using alternative performance measures, allowing for nonlinearity for managerial discretion, using different econometric specifications, and controlling for different datarelated biases.